Simulated Auction by Polish Wind Association: Predictable Problems

The Polish Wind Energy Association just conducted a mock auction for renewable energy support using the system included in the new Polish law. The results foretell the problems we can expect in the actual auction and are not surprising.

The main take-away by the association was the under-bidding in the large auction (over 1 MW projects) and less than 4000 MWhr/MW. The prices were unrealistically low. This phenomenon is very common in RES auctions. Bids are speculative and below the real costs of doing the projects in the hope of snagging the support. This is a very common - maybe unavoidable  - problem with reverse auctions:

“While auctions aim for a specific amount of electricity to be produced or capacity to be installed, empirical experience has shown that a shortfall of the auctioned amount is a rather common phenomenon. This is mainly due to ‘underbidding,’ which results in economically non-feasible projects.” EcoFys, Design features of support schemes for renewable electricity, January 2014,  page 45 [Report to the European Commission].

“A tender scheme creates competition between bidders and, thus, inherently encourages them to bid as low as possible. However, the evidence in France, Portugal, Nova Scotia, U.K., India, China and Brazil shows that they may overestimate their capacity factors, underestimate their costs (because, for example material costs turn out to be higher than they were expected to be) and follow strategic behavior in bidding (i.e., win the bid, then adjust).” Del Rio et al, “Back to the Future,” Renewable and Sustainable Energy Reviews 35 (2014)., supra, page 51.

“Empirical evidence indicates that low implementation rates caused, e.g. by underbidding or the 

existence of non-cost barriers, are one of the main drawbacks of auctions used for RES-support…..it remains to be seen whether auction schemes can eventually achieve the desired effectiveness.” EcoFys, supra, page 72 (emphasis added).

The auction mechanism always produces an unpredictable amount of actual projects and capacity. The gap between what is awarded in bids and what is built is an inherent result of the system. To avoid this problem, some countries have created major pre-qualification barriers to bidders. But this, in turn, reduces the number of bids and adversely affects competition. The added risk factors cause bids to increase. In Brazil, a 10% deposit of total project costs was required and still only a fraction of the projects were built. In Germany in 2015, the PV auction illustrated that the risk factors may not lead to any savings by using the auction mechanism.

If reference prices are set too low, however, it is possible to have no bids at all (Brazil 2013).

In a report prepared for the European Commission, EcoFys et al noted in January 2014: “…finding a compromise between encouraging high implementation rates without reducing the number of market participants too much proved to be a difficult task.” Design features of support schemes for renewable electricity, January 2014, p. 5. 

The Polish mock auction vividly illustrated the problem of unrealistic bidding. The last British PV auction is another example of the same thing. See Mott's Blog, "What the UK RES auctions Prove and Do Not Prove."Auctions in Brazil were also plagued by lack of actual construction.  In Italy, which is held out as a positive example by the Polish Ministry of Economy, auctions have not resulted in a sufficiently high number of realized projects. 

EcoFys concluded that the auction mechanism is "still undergoing a learning phase." Id. page 77.
Given that the 2020 mandatory deadline is only a few years away, you have to wonder if this is the best time to experiment. On this issue, the DG Competition is as much to blame as the Polish Government.  It seems certain that the auction mechanism will deliver less renewable energy, reduce competition across technologies, and create unnecessary uncertainty over everything.

The predictable winners in the mock auction - we have to wait to see the detailed results - appear to be on-shore wind in over 1 MW, less than 400 MWhr; PV in under 1 MW less than 4000 MWhr, and more expensive technologies in the over 4000 MWhr categories. In same cases, the theoretical winning bids were virtually the same as the reference prices (which the Government predicted to be the case during the February 2015 Parliamentary debate for the small auction). That being the apparent case, there is a real dispute over whether the auction achieves anything in the small project scheme of support, except to limit the number of projects due to higher transaction costs. The Commission's State Aid Guidelines provide that “´competitive bidding process´ means a non-discriminatory bidding process that provides for the participation of a sufficient number of undertakings and where the aid is granted on the basis of either the initial bid submitted by the bidder or a clearing rice. In addition, the budget or volume related to the bidding process is a binding constraint leading to a situation where not all bidders can receive aid.” Section 1.3(43).

This will not be the case in the Polish small auction. So the issue is why have an auction at all.

Finally, the auction mechanism - when it is "working" - leads to a large number of rejected bids. Now these bids are all projects that have building permits, resources committed in the form of wind, biomass, biogas substrates, etc. The losing projects have to await another auction and may well not get built at all. This costs society the loss of readily available renewable energy resources which may remain undeveloped. The price of alleged competition, if it successful, is lower renewable energy development.

All and all, the system appears to be a dicey gamble, more likely than not to have problems.