Part 2:  Pricing in Ontario’s Electricity Market – How Generators Get Paid
Sir Adam Beck Hydroelectric Power Stations
Previously, I discussed subsidies and argued that almost all electricity generators are subsidized because they are paid more than the price that they competitively bid into Ontario’s wholesale electricity market. What are the details of the prices that generators receive? Some – Ontario Power Generation’s (OPG) nuclear plants and large hydro stations like those at Niagara Falls – are assets deemed to be “heritage power”, and receive a price that is regulated by the OEB using a method quite similar to how it regulates delivery rates. The price reflects OPG’s operating (e.g., maintenance of stations) and capital costs (e.g., digging the tunnel for the Beck station or refurbishing nuclear plants), the expected amount of generation, plus a rate of return on equity that the Board allows OPG to earn. This information is available from OEB hearings.
Others, natural gas-fired plants for example, are paid prices contained in contracts negotiated with the OPA through a competitive bidding process, and the specific details are confidential. Since the gas plants operate infrequently at times of peak demand, the contracts recognize that a payment is needed in excess of the wholesale electricity market price that the gas-fired generators receive. An additional payment, in the form of a guaranteed monthly minimum revenue requirement, is made through the global adjustment – the smoothing mechanism that I mentioned in my previous blog. Essentially, these generators are paid for the capacity to be there when called upon, even though most of the time the call isn’t made. Without such guaranteed payment, these generators would not set up business in Ontario. The subsidy they receive reflects the difference between the wholesale market price and the revenue requirement stipulated in the contracts.
Still other generators (some bioenergy, most solar and wind) are paid prices set out in the Feed-in Tariff or FIT. A key difference from the gas contracts discussed above is that FIT contracts are not awarded based on competitively determined prices. The prices paid are instead established by the OPA in a manner roughly analogous to the heritage power prices set by the OEB, i.e., capital and operating costs are used to determine the cost of generation of the various types of renewable technologies, an allowable rate of return is incorporated, prices are set and remain in effect for the term of the FIT contract (usually 20 years). The FIT is reviewed every two years. Any contracts signed after the review will receive the new price, if it changes, that results from the review. The wind and solar generators are only paid when, respectively, the wind blows and the sun shines and they generate power that is sent into the grid.
As with almost all electricity generated in Ontario, the price paid to FIT generators is added into the blended price of power. There are also several other contractual prices that make up the blend that come from an alphabet soup of payment arrangements with acronyms like CES, RES, RESOP, CHP, HCI and NUG. I won’t go into the details for fear that we are approaching information overload.
At the risk of having most eyes gIaze over, I think the enhanced communications strategy promised in response to the Auditor General’s report has to start explaining this information – especially the key point of subsidization of all types of generation. Otherwise, Ontarians will continue to be at the mercy of misinformation and spin-doctors.  Also germane in my view are the indirect subsidies paid to generators: just consider the break they get from low water rental rates, limits to insurance liability, or not factoring the costs of respiratory illnesses and environmental damage into the price of electricity.
Unless we intend to eliminate subsidies to all generators, we should frankly admit they are a widespread reality in electricity pricing and tell this unambiguously to consumers. Otherwise, we will continue the sort of unproductive bike shed argument that we have engaged in for the past two years over FIT prices. And where does this type of argument, turning on subsidies, lead us? Could OPG object to the higher price that Bruce Power receives for its nuclear power? Could consumers demand the elimination of support payments to peaking plants that maintain generating capacity used only infrequently? Could the debt retirement charge be applied only to electricity supplied by nuclear reactors since most of the residual stranded debt results from construction of the Darlington nuclear station? The answer in all these cases is no.  There are reliability, equity and legacy issues at play.
Without subsidizing and spreading these costs across all consumption of power, we wouldn’t have an electricity system. The centrality of these subsidies to our electrical grid was made evident during Ontario’s ill-fated attempt to create a competitive electricity market. Despite the belief that new generators could be attracted to enter the market and compete with established companies, investors were unwilling to assume the full risk of their investment. Consumers were promised a competitive electricity system would attract new entrants, provide market efficiencies and lower prices but new generation mainly came later with the provision of contracts containing subsidies to minimize investor risk. The invisible hand of the market offered up a sobering slap in the face that subsidies were necessary.
