Electricity Markets and Missing Money

If you work in electricity markets and someone mentions “missing money,” it doesn’t make you think of a lost wallet or a sticky-fingered bank teller. Instead it evokes regulatory policies that lower the revenues electric generation companies can make in wholesale markets. Missing money is more than just a concern of corporate CEOs and shareholders. It could soon be a serious impediment to a low-carbon economy.


Money has been going missing for many years, according to owners of power plants.  They’ve used the term for more than a decade to refer to the fact that wholesale electricity markets have price caps (mostly between $1,000 and $10,000 per MWh) that constrain how much sellers can make when supply is tight. Without that income, generators argue, it may not be profitable to build new capacity, or extend the life of existing capacity, that is needed to meet demand.

More recently, the definition of missing money has been expanded to include the price impacts of subsidized or mandated renewables generation. In California, New York and many other states, wind and solar are pushing down wholesale prices and making continued operation of some nuclear and fossil fuel generation unprofitable.

That may make some environmentalists cheer, but it makes many regulators worry, because wind and sun are not very predictable or controllable. In some cases, grid operators have said those conventional generators are needed to assure that demand can be met locally or systemwide and have offered them out-of-market payments to stay open.

For instance, new subsidies are under consideration for some nuclear plants to compensate for their missing money, but those proposals are triggering objections from gas-fired and coal-fired generators, because keeping the nukes open worsens their own missing money problem.


California’s Topaz Solar Farm

In a meeting I attended a few years ago, a solar advocate stated proudly that when solar enters a market wholesale prices always drop. I wondered aloud how producers in food, auto, steel, or any other industry would feel about government policy that drives down prices in their markets by subsidizing or mandating the use of higher-cost supply. (At the time, the solar power was much higher cost, even accounting for most estimates of the costs of GHG emissions from fossil-based sources.)

Of course, governments intervene in many energy and energy-related markets with mandates and restrictions that affect firms unevenly.

  • Automakers must meet the federal Corporate Average Fuel Economy standard;
  • Gasoline sellers must blend in ethanol to meet the federal renewable fuels standard (as well as the Low Carbon Fuel Standard in California, and the 10% ethanol minimum in Minnesota, among other state mandates);
  • The electric vehicle mandate in California lowers the demand for gasoline (and raises the demand for electricity), as well as lowering demand for conventional vehicles;
  • Some areas now require increased use of biogas (captured methane from landfills, dairy farms, and other natural sources) to replace fossil-based natural gas;
  • Energy efficiency programs lower the demand for electricity everywhere.

Yet, you don’t hear talk of the missing money problem in the auto, oil refining and retailing, or natural gas markets, even when regulations reduce demand for their output.

Missing money is often discussed in terms of fairness: When policies change and the values of existing investments are affected, are losers due some compensation? That is a more pressing question in electricity, where the accelerated renewables rollouts in some places have lowered the quantities incumbents sell and dramatically reduced the wholesale prices they receive (as Meredith discussed last May).


Still, what makes electricity truly different is not the fairness issue, but the electrical engineering: supply and demand must balance every second in order to keep the grid stable. The grid operator has few, and very blunt, instruments to affect demand, so it relies almost entirely on controlling supply. In the short run, missing money can threaten the viability of plants that are needed for balancing the system, potentially requiring much more expensive alternative supply options, or forced reductions in demand.

There is also a long-run efficiency concern: If firms see an unstable regulatory environment where capital values can swing wildly with regulatory decisions (what former Duke Energy CEO, Jim Rogers, calls “stroke-of-the-pen risk”) they are less inclined to invest, even if capacity is desperately needed and may be well-remunerated in the short run.

These problems will almost certainly worsen in places where renewable energy targets are increasing, like Hawai’i with its 100% target by 2045, and California, which may soon adopt a similar goal.

In other industries if government policies reduce investment in supply capacity, prices rise and consumers purchase less for a while. That sort of market adjustment is not an option in electricity markets as they are currently configured.

So, if a state wants to ramp up renewables, but the missing money problem is such a political, economic, and, ultimately, operational barrier, why not offer compensation for the disappeared dollars. Ah, if only it were that easy…

You see, at some point every firm discovers they are missing money. They invest in a market and then demand turns out to be softer than they expected, or other firms also invest in the market creating over-supply, or their costs rise (or their competitors’ costs fall), or they run into unforeseen logistical problems, or any number of other reasons that firms lose money. Money goes missing due to bad management or just bad luck.

All of those reasons are present in electricity markets as well, and are part of why many generators’ income statements look more red than black these days.  How big a part? That’s a very tough question to answer.  Soft demand, for instance, interacts with expanded renewables to push down wholesale prices.  Any attempt to allocate responsibility will be subject to great uncertainty and, with much money on the line, to endless dispute. Plus, it will depend on what you think generators should have known and when they should have known it about renewable energy policies.

And even if we could sort all that out, there would be a disturbing asymmetry in such a compensation policy. We don’t tax a gas plant’s “found money” when mercury restrictions drive out coal-fired competitors, or levy a fee on nuclear plants in markets that start to price CO2 emissions, thereby driving up the market price and their profits.

Ok, even if we don’t compensate losers in general, can we address the grid reliability issues that may result?


Yes we can, but it’s not pretty and may not look much like a market.  At the system level, it means the grid operator procures “capacity” (or requires retail electricity suppliers to do so). Capacity is the ability to deliver electricity, though the obligation to do so is sometimes not fully specified or doesn’t match up well with what’s actually needed for grid reliability.  (A new Energy Institute working paper (WP-278) does an excellent job of explaining this murky topic.)

For particular local supply concerns, the grid operator identifies generation that is especially critical and signs contracts for their services in a bilateral negotiation. The plant operator’s threat is to shut down, so it may exaggerate its costs in order to push up the contract price, while the grid operator wants to get a reasonable price, but still assure that the operator is able to cover its costs. Starts to sound a lot like regulation, doesn’t it?  In fact, it can lead back to cost-of-service compensation for the plant. Everything old is new again.

My point is not that it’s impossible to address the missing money problem(s), or that we should give up on competitive wholesale electricity markets. Research has shown that electricity markets create a lot of economic value (in efficient operation of fossil generation and nuclear generation, as well as efficient dispatch of electricity grids).

But at the same time, we need to move to lower carbon generation technologies. That will create economic disruption even if we do it primarily through a price on carbon, and especially if we don’t. If we are lucky, solutions will be worked out that keep grid disruption to a minimum and maintain incentives for efficient investment. But that will require thoughtful understanding of the missing money problem and careful weighing of the array of imperfect policy responses.

I tweet news and research on energy most days @BorensteinS

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