How to encourage investments in flexible generation in different power markets

Life is all about balance. While more and more countries are switching to zero-emission renewable power sources like solar and wind, they’ll never be enough for a stable and cost-effective system on their own. Renewable power isn’t always available, so balancing power is essential to make sure the lights stay on no matter what. In this article, we’ll look more closely at how to make sure this critical capacity gets built.

Power systems are changing. Instead of traditional baseload generation provided by conventional thermal power, such as coal and combined cycle gas turbines (CCGTs), we’re seeing more generation based on renewable energy sources like wind and solar. This change is happening because the cost of renewables is going down – combined with the increased pressure to cut emissions because of climate change.

To ensure the stability and reliability of power systems globally during and after this transition, balancing is key. This is because renewable power sources are intermittent in nature and depend on weather conditions. Flexible dispatchable power from engines or batteries is needed to ensure the security of the energy supply in all conditions. However, without flexible energy markets that support investment in this kind of balancing capability, the goal of carbon-neutral electricity generation won’t be met in a cost-effective way.

A closer look at non-liberalised and regulated electricity markets 

Non-liberalised markets have vertically integrated utilities and they have limited competition in the electricity market. In this kind of setup, there are still several ways to ensure that flexible balancing capacity gets the investment it needs, including the following:

1) A capacity payment should exist alongside the regulated tariffs

The number one reform is to introduce capacity payments, which guarantee payment based on the kW of generation capacity, not the amount of electricity actually generated. This makes sense for flexible capacity, which by its nature is only used when needed for balancing the intermittency of renewable energy sources. Capacity payments, which can be short (one year with the option to rebid each year) or long-term (15-20 years), give developers a reason to invest – they can be sure that their investment will pay back regardless of how much balancing capability is needed.

2) Power purchase agreements (PPAs) should be flexible

Power purchase agreements are signed with traditional inflexible power producers and are typically long term, covering a 20-25 year timespan. This means that even as renewables are integrated into the grid, they often aren’t used because the inflexible generation has already been paid for. This results in renewable power being curtailed. For example in Indonesia, a relatively high level of curtailment (14% per year) is seen in Sumatra during periods of low demand and high solar feed-in, due to the contractual inflexibility of PPAs. 

The solution is straightforward: instead of fixed long-term PPAs for inflexible generation like coal, the authorities should prepare flexible contract structures for all new PPAs and fuel supply contracts to favour renewables.

3) Contracts and requests for proposals (RFPs) should be technology-neutral 

Technology-neutral RFPs are the only way to ensure the most effective technologies are used for balancing. This means an RFP shouldn’t specify a specific type of generating technology, but should instead include the necessary parameters, such as start and stop time, minimum uptime and downtime, cycling cost and other dynamic parameters. The best way to achieve flexible balancing is to let all technologies compete and choose the ones that fit the needed parameters in the best way.  

Recommended changes for liberalised and deregulated markets   

In liberalised markets, power grids are governed by partially or fully restructured electricity markets, and grids procure energy and ancillary services through transactions in the wholesale market. But that doesn’t mean that the right incentives exist for developers to invest in balancing capacity. Three things are needed to encourage investment:  

1) Create a capacity market  

Just like with non-liberalised markets, capacity markets are the key to unlocking flexible power generation to support renewables. This is because developers know they will receive a return on their investment even if a plant runs only intermittently to balance demand. The UK is an example of a functioning capacity market where there are two kinds of capacity auctions: 

  • T-4 auctions are where new-build generators can get 15-year agreements. T-4 auctions ensure most of the capacity needed for delivery in four years’ time. 
  • T-1 auctions are top-up auctions used for sites which weren’t ready for that year’s T-4 auction.  

2) Use real-time pricing 

Real-time pricing is common in liberalised markets, but this is typically done with 30-minute and one-hour intervals. Reducing the settlement period to five minutes would provide incentives for units with high flexibility and lead to several benefits: 

  • It would improve the overall planning and operation of the power system, making it more accurate. 
  • A shorter settlement time also means better stability, with less reserves needed and lower overall system costs.
  • It would benefit flexible generation as units can respond quickly and earn more revenue. 

3) Create a co-optimised energy and ancillary services market  

Ancillary services are the services necessary to support the transmission of electric power from generating assets to consumers. Intermittent sources of generation like wind and solar increase the need for certain ancillary services, which may be difficult to meet with inflexible fixed contracts. This means they are also best served through the market. A study we conducted in India suggests that power grids could benefit by jointly procuring energy and ancillary services (what we call co-optimisation) in the same day-ahead and real-time market, while tightening resource adequacy rules. This would be more efficient than separate markets for each.

Various independent system operators in the US as well as the Australian Energy Market Operator follow a similar strategy for procuring energy and ancillary services. Power generators benefit from this because the same generating asset can be used for ancillary services and energy.


Overall, these sets of changes in both liberalised and non-liberalised markets would encourage investment in renewable energy and ancillary technologies. This would help ensure that there is enough flexible balancing capacity to continue to integrate large amounts of renewable energy into grids all over the world – which is absolutely key to decarbonising power generation and cutting emissions from the power sector.  

Written by
Wärtsilä Energy