Battery storage in a capacity market – SPE

July 30, 2024 Johannes Müller, Green Party of the Hamburger Bürgerschaft; Kilian Leykam, Aquila Clean Energy; Lennard Wilkening, Suena and Elena Müller, Suena

Why a German capacity market?

With the German Kraftwerks Strategy, which also includes agreeing on a technology-independent capacity market, the German government is focusing on ensuring a fully sustainable electricity system. The capacity market uses long-term contracts for available generation capacity (paid in €/kW) to ensure that sufficient energy is available to meet demand at all hours of the year, even in rare exceptional cases. One thing is certain: with the increasing share of renewable energy sources and the phasing out of coal, controllable generators and storage systems are needed to balance production and consumption. A recently published study from Frontier Economics shows that battery storage could reduce the need for gas-fired power plants in Germany by 9 GW, saving billions in construction and operating costs for 18 additional power plants and emissions of up to 6.2 million tons of CO2.

International experience in Belgium, Great Britain, Poland and Italy

Capacity markets have been successfully introduced in several European countries in recent years. After Britain took the lead in 2014, central capacity markets have been implemented in Belgium, Italy, Poland and Ireland. In Spain, a capacity market is currently in the legislative process. In the EU, the Agency for the Cooperation of Energy Regulators (ACER) sets the framework for the use of capacity mechanisms, while the final decision lies with Member States and the European Commission.

The design of the capacity markets in the various European countries therefore has a comparable structure: in a central annual auction, a fixed amount of capacity is requested by a central authority, comparable to the transmission system operator in Great Britain and Poland. This capacity can be offered, for example, by power stations, storage facilities or through demand response.

For example, the capacity markets in Great Britain and Belgium follow this central principle (see table). In contrast, the French model, in which the requested capacity is purchased decentrally and in which individual energy suppliers are obliged to purchase capacity certificates from power stations and other electricity producers, has not yet been able to establish itself.

The annual auctions take place four years (T-4) or one year (T-1) before the start of the relevant contract term. The term of the capacity contracts varies from one year for existing power stations to 15 to 17 years for new power stations. This is intended to provide the latter with the necessary investment security during the financing period of the project.

During the term of the contract, all power stations receive a fixed payment per megawatt per year based on the auction result. In return, they must be available during this period and are subject to certain physical or financial requirements depending on the structure of the market in question. Emission limits stipulate that coal-fired power stations and other power stations with high CO2 emissions cannot participate in the capacity markets. This can also create incentives for natural gas power stations to switch to hydrogen.

Key points of a successful German capacity market

To avoid the risks of mismanagement, wrong incentives and unnecessary costs, a well-thought-out and efficient design of the capacity market is essential. This could, for example, avoid the risk of so-called windfall profits going to power plants that do not need support or of artificially keeping alive power plants that would otherwise be eliminated from the market.

Experience with the capacity markets already implemented in Europe shows that the design of the capacity market for Germany must take into account the following key aspects to be successful: first, the derating factorsecondly, the handling of availability of plants And refinancingand thirdly the local distribution of the participating plants. The contract terms and auction horizons as well as mapping options decomposition of plants and finally the choice of auction format between “pay-as-bid” or “pay-as-cleared” are also important.

Derating factor

The derating factor allows the participation of different generation and flexibility options in the capacity market. It indicates what percentage of the nominal output of a certain technology is reimbursed by the capacity market and thus serves, for example, to make the contribution of battery storage systems with different storage durations to system safety comparable. Depending on the capacity and the selected operating mode, a storage system can provide a certain output for different time periods (e.g. 2 hours, 4 hours, 8 hours).

Determining derating factors should be based on how likely a particular technology is to be available during the most critical bottleneck hours of a year or quarter. In ‘mature’ or established capacity markets such as MISO (Midcontinent Independent System Operator) in the US, 4-hour batteries have proven to be as reliable as gas or coal-fired power stations during the 3 percent (262 of 8,760) most critical bottleneck hours of a year, and have a derating factor of more than 90%. The reason for this is that of the 262 most critical bottleneck hours, barely more than 4 hours were continuous, giving the batteries time to recharge. In addition, batteries are less susceptible to interference than thermal power stations and they have an availability advantage.

About the Authors

Johannes Muller is a member of the German Green Party and the Committee on Economic Affairs and Innovation and the Committee on the Environment, Climate and Energy.

Kilian Leykam is responsible for Aquila Clean Energy’s storage investments in the EMEA region and has been working in the renewable energy sector since 2009. Before joining the Aquila Group in 2020, he was responsible for strategy and business development at Vattenfall Energy Trading.

Lennard Wilkening is co-founder and CEO of Suena, a software-based flexibility trading company offering optimization and trading services for large-scale energy storage and renewable energy.

Elena Muller works as Founders Associate & Communications Manager at Suena, where she focuses on energy policy, the energy transition and the role of energy storage in the energy transition.