Wind Blows Energy Costs in Many Directions

July 25, 2016

Does adding wind power always lower prices?

Humans have been harnessing the power of wind for thousands of years. And it continues to gain global popularity, despite somewhat steep start-up costs, because it is seen as the cheapest form of new electricity generation available. However, an analysis of recent wind price trends in three unique markets paints a more complex picture. The data revealed that this particular source of renewable energy lowered summertime prices in Texas, increased prices in the U.K. and had no effect on German commodity costs.

But, how? Why?

A detailed review of these prominent regions explains the disparity.

Texas: A summertime factor

Texas is among the leaders in North America when it comes to adopting renewable wind energy into the generation mix. And in the United States, it sits atop the list, with plans for continued expansion. Today, prices from the Electric Reliability Council of Texas (ERCOT), which covers almost all of Texas, have fallen to record lows, with many citing the increase in wind generation as a primary driver.

However, a closer look at the numbers reveals that the price impact of wind generation is quite nuanced. After examining the data, results show no statistically significant relationship between Texas’ actual wind output and ERCOT month-ahead price movements for nine out of 12 months of the year. The three months that did indicate a relationship were July, August and September.

These three consecutive months form a low wind season in Texas, which also corresponds to a high-demand period. During the same quarter that wind generation tends to be lowest, demand and prices are the highest.

During these months, the data indicates the amount of wind generation has a statistically significant impact on prices. When wind generation increases during these months, power prices fall. For every 1 gigawatt (GW) of additional hourly wind production in the summer, month-ahead prices settle lower by more than 5 percent. In other words, while wind has no clear relationship to month-ahead prices most of the year, it does have a noticeable impact during the lower wind season.

U.K.: A tale of gusts and lulls

Wind generation in the U.K. has a year-round statistically significant relationship to the previously settled month-ahead prices. Increased wind generation is clearly connected to increased month-ahead settlement prices. In fact, since 2010, every 1 GW of additional hourly wind production correlated to a £1.03-per-megawatt-hour (MWh) increase in prices.

Interestingly, that connection weakens during winter, when peak wind season occurs. Increased wind generation is still tied to increased month-ahead settlement prices, but the premium linked to each additional GW of wind generation shrinks by half, from £1.03 per MWh to £0.58 per MWh.

Either way, this challenges the conventional wisdom concerning wind’s impact on commodity prices. There are several potential explanations: The most significant is that in many parts of the world, increased wind is associated with weather that traditionally increases the demand for electricity. For instance, wind generation may increase as a cold front moves in, but the bearishness of increased supply via wind generation is overshadowed by the bullishness of greater heating demand. More wind generation in this scenario works to limit price increases that are driven higher by another factor — meaning that without the installed wind capacity, prices would be even higher.

At the same time, there is a case to be made that wind could more directly cause an increase in the overall commodity cost. Because daily patterns of wind generation are more volatile than conventional generation sources, grid operators may be forced to rely on more expensive peaking plants to maintain stability. As wind generation assumes a larger role in the generation mix, the grid is exposed to more volatility and costs rise to accommodate plants that help smooth variations in supply.

Germany: A matter of interconnections

In Germany, prices at the monthly level were unaffected by shifting trends in wind generation. There isn’t a significant correlation between the price of month-ahead German electricity contracts and monthly aggregated wind generation, which may seem counterintuitive.

One explanation, however, is this market could be different than that of Texas and U.K. because of its substantial interconnectivity. Germany has cross-border interconnections with nine neighboring countries totaling approximately 22 GW, which is greater than 25 percent of the country’s peak demand. This broad network may allow for the variable wind generation to be more easily and reliably distributed, resulting in a negligible impact on prices.

Wind power and price: Ever swirling

After a country-by-country look, the next step is to juxtapose all three, because the lessons may not be isolated. In the U.K., where average demand is around 35 GW, the market has limited interconnection capacity and gas prices are historically more than double those in North American. While the ERCOT market is also quite constrained, total demand is roughly double that across the pond, which allows ERCOT to better distribute wind generated in Texas. Finally, Germany has the highest demand in Europe, averaging 58 GW per hour, yet interconnectivity with its neighboring countries is substantial enough to incorporate variable renewable generation across a much wider geography than the other two regions.

In reality, these findings in no way show that adding wind to a grid will automatically increase commodity costs. But the numbers clearly show that assuming the opposite is overly simplistic and sometimes incorrect. The fact is there are a number of outside factors and specific differences that are capable of shifting the relationship between wind and price. Ultimately, as the world’s generation mix adapts, the understanding of wind’s impact will have to adapt as well.

Contributed by Daniel Holder, Commodity Analyst, Schneider Electric