Capacity Mechanisms: An Insurance Policy to Meet Changing Electricity Demand


What do thermal power plants provide? Electricity, of course. But that’s not all. They are essential to ensure sufficient capacity. This means having the ability to generate electricity when it is needed. Why is this important? Because demand for electricity varies depending on the time of day and the time of the year. Demand is usually lower at night when people are asleep and higher in the winter when people need to heat their homes. Most of these daily and annual variations are predictable. But there are other, less predictable surges in demand, for example during freak weather events like long freezing spells or heatwaves.

Not all types of electricity generation can respond easily to these peaks in demand. Nuclear power runs at a constant level but cannot be ramped up or down easily. Renewable energy sources such as wind and solar pose additional challenges. There are times of the day and year when the sun isn’t shining and the wind isn’t blowing. An electricity system that relies heavily on these sources, such as the EU is aiming for, runs the risk of not being able to meet even normal levels of demand because of weather conditions outside our control.

This is where the importance of having sufficient flexible capacity comes in. Power plants need to provide electricity quickly to meet sudden spikes in demand and ensure that supply and demand are balanced. That is essential for the stability of the electricity grid and to guarantee secure supplies to households and businesses. Thermal power plants using coal or gas, like AES Galabovo, offer the flexibility of capacity as generation can be rapidly increased (or decreased) in line with demand.

Electricity can also be stored in battery units. AES is a world leader in this field and has partnered with Siemens to create Fluence, a specialist company offering storage technology and services to large-scale generators.

From the electricity business point of view, however, building and maintaining sufficient flexible and reliable capacity to provide electricity when needed entails significant up-front investment and operating costs. Since not the entire capacity is used at all times to generate electricity, often these costs cannot be fully recovered by generating and selling electricity on the market only. This is particularly the case in markets with low electricity prices. For this reason, plant owners and operators need to be compensated for providing capacity for a reliable and flexible electricity supply, and for making the initial investment and ongoing costs.

The EU’s member states recognize the importance of having adequate (i.e. reliable and flexible) capacity. Recently they agreed new rules for capacity mechanisms that allow member states to ensure a reliable electricity supply. Under these rules, which are part of legislation designed to ensure fair and open competition on the electricity market, governments can compensate power plants for providing needed capacity. This is allowed under strict conditions to ensure that the compensation is proportionate to market needs.

By continuing to agree on the capacity mechanism rules the EU has recognized the need for electricity systems that can be ramped up and down to meet demand or sudden emergencies. This is especially important as we move towards a system that relies more and more heavily on renewable sources which have the problem of intermittency.

Many member states have put in place or are planning the necessary measures to ensure there is enough capacity in the system. There are more than 35 existing or planned capacity mechanisms in the EU member states, namely Belgium, Croatia, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Latvia, Poland, Portugal, Spain and Sweden. The period ahead will be crucial for the EU’s transition to a low-carbon economy and carbon neutral electricity system. Like in life, it is always best to have an insurance policy you never use than go without and get caught out.