In February 2021, Prime Minister Modi’s first communique with American President Joe Biden has unsurprisingly catapulted climate change cooperation to the forefront of India-U.S. relations.
By Aashna Mehra
In February 2021, Prime Minister Modi’s first communique with American President Joe Biden has unsurprisingly catapulted climate change cooperation to the forefront of India-U.S. relations. The United States is looking to lead from the front on the issue, and hoping to regain credibility through partnerships with emerging economies like India to achieve the ambitious goals laid out in the Paris Climate Agreement. At the same time, India is looking for both financial resources and market design knowledge to decarbonize and sustainably develop its economy. These newly aligned incentives have created space for rich bilateral cooperation and for a free exchange of economic resources, ideas and information between the two countries.
The major constraints that most developing countries face in accelerating renewable energy deployment are well documented. The first is access to low-cost capital, which can be provided through risk-mitigation financial instruments to “crowd-in” private investments. The second is effectively designed regulation, which is critical to achieve a well-functioning electricity market as intermittent, zero marginal cost and distributed renewable energy resources become increasingly prevalent.
Thus far, these constraints have manifested in India through a number of interrelated problems. Firstly, the financial health of state-owned distribution companies (discoms) has remained stubbornly poor despite bailouts and refinancing efforts. This has caused discoms to either default on contractual payments and/or renegotiate power purchase agreements (PPAs) with renewable energy generators, who are often left “holding the bag”. Second, transmission infrastructure remains a crucial bottleneck because the five regional grids in India continue to operate independently despite a directive to interconnect into a larger national grid. Finally, electricity markets in India are regulated by individual states. Indian utilities are largely owned and operated by the state governments themselves and utility operations, including setting tariffs, is often caught in the quagmire of Indian politics.
Against this backdrop, the clear area of cooperation that emerges for knowledge-sharing between India and the United States surrounds the creation and regulation of competitive wholesale power markets. Wholesale power markets are markets where electricity is bought and sold, i.e., traded, before being delivered to retail consumers such as homes, factories, businesses etc.
Prior to the 1990s, the United States largely had individual state-regulated, vertically-integrated and investor-owned utilities, which were responsible for owning and operating generation assets like coal plants, as well as transmission and distribution assets. Starting in the 1990s, a number of utilities in the United States began to deregulate to create competition and lower costs, with utilities continuing to serve the transmission and distribution function, but divesting from their generation assets. This gave rise to wholesale power markets since utilities now needed to purchase power, with independent power producers (IPPs) as suppliers of power, load-serving entities (LSEs) as consumers of power and utilities acting as the conduit. To ensure that demand and supply of electricity would be in balance at all times, regional transmission organizations (RTOs) took over the function of acting as grid operators. These RTOs are independent, non-profit entities, each operating wholesale markets for energy, capacity and ancillary services across multiple states (with the exception of ERCOT in Texas). Currently, ten of these RTOs exist across the United States, which are regulated by the Federal Energy Regulatory Commission (FERC) and control over 60% of all electricity flows in the country. Interestingly, according to the U.S. Energy Information Administration (EIA), deregulation and the creation of wholesale markets were also accompanied by a five-fold increase in annual private investments in new transmission assets between 1997 and 2012, from $2.7 billion in 1997 to $14.1 billion in 2012, reversing a three-decade decline.
India too began its experiment with deregulating power markets in the early 2000s, by passing the Electricity Act of 2003, which sought to decouple generation from transmission and distribution utilities, and led to the creation of the Central Electricity Regulatory Commission (CERC). Since then, however, power sector reform has been conceived and implemented in piecemeal fashion, with the Central Government largely focusing on helping ailing discoms without adequately addressing the underlying causes of their ailments. Discoms procure roughly 87% of all their power through long-term bilateral power purchase agreements (PPAs) with generators. Discoms will “plug” a discrepancy in supply and demand through other short-term bilateral transactions or trades on a power exchange. Less than 10% of all electricity transactions in India occur in the wholesale market. This market construct has led to the under-utilization of cheap generators and over-utilization of expensive generators, curtailing renewable energy generators and giving rise to financially distressed assets. The absence of widespread transparent trading platforms causes inefficient price discovery, and the inability to schedule and plan for future electricity demand in day-ahead (DAM) and/or in real-time markets (RTM) has left both discoms and generators worse off. A proposal for market-based economic dispatch of electricity and the creation of a national electricity market platform was mooted by CERC as recently as December 2018, and the Indian power market is set to soon get its third power exchange after Indian Energy Exchange Ltd. (IEX) and Power Exchange India Ltd. (PXIL), all of which are important steps in the right direction.
However, competitive wholesale power markets in India are still in the nascent stages of development. India can benefit tremendously from the experiences, both good and bad, of RTOs in the United States. There is significant room for bilateral cooperation and knowledge transfer, not just at the level of the Biden-Modi administrations, but also at the subnational level, where states and RTOs in the U.S. can serve as models and examples, both of what to do and what not to do. This is particularly salient today, as the Texas power market and its operator, the Electric Reliability Council of Texas (ERCOT), reel under and recover from the aftermath of an unusually extreme winter storm in mid-February, which left millions of people in the state of Texas without electricity and heat for days and saw real-time wholesale power prices in the state climb more than 10,000% their usual levels to over $9,000/MWh. As the effects of climate change and sustained global temperature increases result in greater frequency and intensity of extreme weather events, questions arise about the optimal market design and resource mix of renewable and conventional generation required to provide the most resilient, reliable, cost-effective and environmentally-friendly power to consumers.
President Biden has repeatedly stressed that the United States wants to lead not just by the example of its power, but by the power of its example. The U.S. can add substantial value and help emerging economies such as India leapfrog by sharing solutions it has developed to challenges it has encountered thus far in its diverse power markets, as well as by exchanging ideas on how to innovatively and collectively solve new challenges that were hitherto unprecedented.
(The author is an investor at renewable energy and infrastructure private equity firm in the United States. She received her MBA as a Silver Scholar and Kerry Fellow from Yale and her Bachelors of Science in Mechanical Engineering from Princeton. Views are personal and do not reflect the official position or policy of the Financial Express Online.)