TODAY’S STUDY: TEXAS SHOWS HOW NATURAL GAS AND NEW ENERGY CAN FIT

Partnering Natural Gas and Renewables in ERCOT

Dr. Jurgen Weiss, Heidi Bishop, Dr. Peter Fox-Penner, Dr. Ira Shavel, June 11, 2013 (Texas Clean Energy Coalition/Brattle Group)

Executive Summary

Within the past decade ERCOT has seen the arrival of abundant, cheap natural gas resources and increasing levels of wind generation capacity. New shale supplies and drilling techniques have doubled Texas’ natural gas supplies which are now projected to last through 2030 or even 2050. In addition, a well-functioning competitive market, ample and excellent wind resources combined with the Federal Production Tax Incentive for wind (PTC) and Texas’ Renewable Portfolio Standards have made Texas the national leader installed wind capacity. Texas is now facing a new set of challenges in the face of rapidly changing economics for electricity generation and the need for more coordinated development of its resources.

Low natural gas prices have fueled concerns that natural gas will soon crowd out renewable resources, undermining Texas’ progress towards the development of a thriving wind industry and towards reducing emissions. At the same time, recent ERCOT analysis found wind and solar resources to be competitive with natural gas over the next 20 years under a number of plausible scenarios. This white paper therefore analyzes the interactions between gas and renewables in ERCOT, both in the short and in the long term.

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The main conclusions of this white paper are that in the short run low gas prices are extremely unlikely to change the fact that existing renewables will nearly always have priority over gasfired plants since, due to the absence of fuel costs, their variable costs are lower than those of essentially all other resources. Over the long term, as new plants are planned and built, it is possible that new gas-fired plants will compete with new sources solar and wind generation. Which source is cheaper will depend on the levels of gas prices, the existence (or lack thereof) of continued federal (and perhaps state) support and the technological progress of both wind and solar resources. In addition, it is possible that in the long run some combination of renewables and gas will displace existing coal-fired generation.

This is possible because, despite this competition, there is a strong complimentary relationship between natural gas and renewables. Not only may increasing concerns about air pollution and associated health and environmental consequences create additional costs for coal-fired generation, but gas-fired generation also matches much better with intermittent renewable generation from solar and wind projects than do coal-fired power plants. The path to low-carbon generation in Texas will therefore likely require the co-development and integration of both gas and renewable resources.

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Low natural gas prices also facilitate Texas’ continued transition towards a low-carbon emissions electricity sector by dampening any potential additional costs of renewable over conventional power generation sources. The cost of both wind and solar power has decreased significantly, but they are still not necessarily the lowest cost options, at least not without some explicit consideration of greenhouse gas emissions or continued federal subsidies such as the PTC. However, due to low natural gas prices, electricity bills, as a percentage of household income, are near their historical lows. Consequently, increased levels of a combination of renewable energy and new lower-cost gas power can likely be accomplished without materially increasing the share of income Texans have to dedicate to paying for electricity relative to the past.

How the precise interaction of natural-gas fired and renewable electricity generation plays out in ERCOT over the coming decades depends on several factors, including the price trajectory for both coal and gas, state and federal energy policies, transmission development, market design choices and environmental regulations. While making precise predictions about the future interactions between renewables and natural gas is therefore beyond the scope of this paper, we demonstrate that the two are not necessarily in competition and could both see significant growth in Texas over the next decade or so.

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Introduction

Over the past few years, the story of falling natural gas prices has made major headlines in the press and has also raised questions about the future of renewable energy development. In May of 2012 the International Energy Agency (IEA) warned: “Golden Age of Gas Threatens Renewable Energy.” A recent blog post in the New York Times explained “…more and cheaper natural gas does not help our prospects for bolstering renewable sources of energy, including solar, wind and biomass. History has shown repeatedly that nothing is worse for renewable energy…” The belief that natural gas competes with renewable energy in power markets is also evident from discussions specific to the Texas Market. In 2011 a Texas NPR member station, State Impact, reported that “the low price of natural gas has an automatic negative impact on the development of renewable energy sources…”

At the same time, national labs, energy technology companies, trade associations and think tanks across the U.S. have documented natural synergies between the two resources. As a fast ramping resource that is relatively easily turned on and off, natural gas-fired power plants (in particular combustion turbines) are well- suited for backing up and smoothing out intermittent renewables and providing capacity. Stakeholders in the Texas market ask themselves how two such conflicting views can co-exist and what the net impact is of bringing both high levels of natural gas and renewable energy in the Texas market. This paper describes the nature of both competition and complementarity of natural gas fired and renewable electricity generation and under what conditions both might thrive together in Texas in the future.

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Natural Gas and Renewable Energy; Friends or Foes?

Two contrasting views of the relationship between natural gas and renewables currently frame the discussion across the U.S. and in Texas. The first view worries that they are competing with and displacing each other in power markets; the second sees both resources as natural complements that fit well together in a power system. In this paper we explain that the full relationship involves elements of both views and how electric sector policies can improve the complementarity between these two “fuels.”

Recognizing that the fastest way to a low carbon future in the next few decades may be the coordinated development of both gas and renewables, The Mitchell Foundation asked The Brattle Group to explore the relationship between these resources and to identify ways to strengthen and improve policies that maximize the complementary relationship between natural gas and renewables in Texas. While primarily focused on the Texas/ERCOT gas and power markets, much of the discussion also provides insights useful in other states and countries.

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The Challenge in Texas

Today Texas has almost 69 GW of natural gas-fired power capacity, most of which came online between 2000 and 2005. After a period of investment in coal and then nuclear generation, capacity investments shifted toward new, efficient gas-fired combined cycle (CC) plants. Texas had just deregulated its market and new CC plants provided significant cost savings over older less efficient plants. Policy supports also favored gas at this time and the 1999 Natural Gas Goal for Texas was established, although market conditions were sufficient to drive investment and its provisions were never needed. By mid-decade gas prices rose again and capacity investment shifted back towards coal. Between 2007-2009, a large amount of new wind capacity was built in response to high gas prices and renewable policy supports. Increased natural gas production and reserves over recent years have pushed gas prices lower again. From 2009 to 2011 Texas gas prices have dropped from a little over $6.00/MMBtu to just over $4.00 MMBtu. This has led to high levels of coal to gas switching in existing plants across much of the U.S. and a resurgence in gas generator construction in 2007-2011, though not nearly at the levels seen in the early 2000’s.

Today natural gas prices remain close to their lowest levels over the past decade, and are expected to stay low for the foreseeable future. Consequently, electricity markets are naturally experiencing a shift away from coal and towards natural gas. In the short run, this shift takes the form of generating more electricity from existing natural gas plants.8 Persistent low natural gas prices will likely also lead more coal plants to retire in the future, many of which will likely be replaced by gas plants. This trend could well be reinforced by the fact that the costs of coal-fired generation may well be rising due to a number of potential new environmental regulations. At the same time, thanks to federal tax supports, state Renewable Portfolio Standards (RPS) and substantial cost declines due to technological progress, many power markets are experiencing a significant influx of renewable energy and consequently face the need to integrate these resources. The shift towards cleaner energy supply will require a higher degree of coordination between abundant, cheap natural gas and variable renewable resources.

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This challenge is most pressing in Texas, where the ERCOT electricity market is characterized by high levels of both natural gas and wind resources. Boosted by new unconventional gas resources, Texas is the leading U.S. producer of natural gas, providing 28% of all U.S. marketed natural gas production in 2011.10 Texas is also the leading state for installed wind generation capacity and has the potential to further develop wind resources equal to twice the state’s total annual peak electric demand.11 No other State comes close to Texas’ more than 12 GW of installed wind capacity.12 The two leading wind states after Texas, California and Iowa, each have less than half of Texas’ installed wind capacity.13 While Texas currently ranks 13th among states for cumulative installed solar capacity, deployment of solar resources could increase because of their high complementary with peak demand.14 Texas is considered to have the highest solar energy potential in the nation because ofits large size and abundant sunshine.

The need for energy policies that will guide efficient and complementary development of both natural gas and renewable resources will require a strong understanding of how they interact in the ERCOT market, both in the short and long-term.

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In the remainder of this report we examine the complex and dynamic relationship between natural gas and renewable power generation, with a primary focus on the ERCOT market. We begin by examining the basic mechanisms by which gas and renewable power sometimes displace each other in the supply mix and other mechanisms that add both forms of generation together. We explain that the specific impact of these mechanisms on future ERCOT markets depends critically on price and cost trajectories for these resources -- which are difficult or impossible to control – and a variety of federal and state policies and market rules. These factors interact in complex ways, foreclosing simple answers as to who will “win”.

Section III summarizes current state, federal, and ERCOT policies having the greatest effect on gas and renewable generation. Section IV builds on this discussion to examine additional policies that might be considered in ERCOT or other power markets to improve gas-renewables complementarity. Section V offers brief concluding thoughts.

This report is not intended to be a comprehensive examination of the issues and tradeoffs inherent in natural gas and renewable generation, nor does it offer a complete catalog of policy options available to ERCOT and other electricity markets. It is intended to be one contribution to a multi-faceted discussion of low-carbon energy futures and to provide suggestions as to the circumstances under which, and time frames over which renewables and natural gas act primarily as complements, and when they might compete.

Nevertheless, there are many ways that state and federal policymakers can guide ERCOT and other markets towards a low-carbon future in which gas and renewables both play a major part, especially in the next few decades…

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Conclusion

In this report we explored the multi-faceted relationship between gas and renewables in Texas. We explained that gas and renewables can be either complements or substitutes, depending on the time frame of analysis as well as a number of additional factors such as the long-run trajectory of gas prices, renewable technology costs, electricity market rules and complementary policies affecting all power generation technologies.

Given the current expectation of relatively low gas prices, it is likely undesirable to increase coal-fired generation in the long run, due to climate, air pollution, water and other considerations, and due to the ongoing improvements to the cost and performance of several renewable technologies it is quite possible and perhaps even likely that natural gas and renewable generation technologies will be the primary pillars of Texas’ future electric grid in the near future.

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