Suggestions on establishing a filing and settlement mechanism for bilateral range price difference contracts

China Energy Storage Network News: Suggestions on establishing a bilateral range price difference contract filing and settlement mechanism

Kaohsiung 1 Tang Yang 1 Liu Yifeng 1 Ye Ze 2

(1. State Grid Hubei Electric Power Co., Ltd. 2. Changsha University of Science and Technology)

1. Problem

my country's power market reform adheres to the policy of taking an active and prudent approach, mainly controlling price risks through measures such as price upper and lower limits. In recent years, the transaction prices of medium- and long-term markets and spot markets in various provinces have been relatively stable, which has ensured and promoted the smooth progress of power market reform. At the end of 2020, market players signed a large proportion of annual medium- and long-term transaction contracts in accordance with regulations; many power sales companies signed fixed-price retail contracts with users based on the transaction situation in previous years and the forecast of the market situation. However, since April 2021, while the market demand for electricity has increased significantly, the price of coal has doubled, causing a sharp increase in the monthly market transaction price and the spot market transaction price. There has been a phenomenon that power sales companies and power generation companies have proposed to relevant government departments to re-sign contracts to increase transaction prices. Although the re-signing of contracts is reasonable, it lacks legal basis. After experiencing the gains and losses brought about by the unexpected sharp increase in market transaction prices in 2021, market players have a deeper understanding of market risks and will be more cautious about market transactions, especially annual bilateral negotiated transactions. The significant changes in electricity market transaction prices this year and the potential pressure for change have raised many new issues for electricity market construction, including the design and provision of financial instruments to help market players prevent risks.

Although the coal price has risen sharply and caused a correspondingly large increase in the market transaction price, governments at all levels have taken many positive measures, and the coal price has now dropped significantly, but the current market transaction price is still at the upper limit. The annual bilateral negotiation transaction in the electricity market is about to begin. Considering that the domestic and foreign market environment and the balance of electricity supply and demand are still uncertain next year, it is difficult for market players to form a definite and stable expectation of the market transaction price level and its changes. At the same time, the annual transaction volume is generally large, and the "volume risk" will amplify the price risk, causing market players to face large changes in profits and losses. This situation is not conducive to the normal signing of the annual transaction in 2022. Therefore, it is necessary to establish a corresponding mechanism to help market players avoid possible large price risks and relieve their worries.

II. Theoretical and Policy Analysis

Technical and economic factors such as the simultaneity of production, supply and sales of electricity commodities and their non-storability cause the transaction price of electricity market to change significantly under normal circumstances. If combined with accidental factors such as weather changes, greater price changes will occur. The frequent and significant changes in electricity market prices and the huge price risks that market players must face reflect the objective laws of the electricity market. It is through large price changes that the electricity market guides the substitution of power generation units and the peak-shaving and valley-filling of users, resulting in the benefits of optimal resource allocation. For this reason, in the construction of foreign power markets, the risk prevention and control mechanism of market players is incorporated into the construction of market systems and mechanisms. While the electricity spot market is operating, financial instruments such as electricity options and futures markets are built and contracts for difference are designed for market players to control market transaction risks.

The logical relationship between price changes and the benefits of optimal resource allocation in my country needs to be further clarified. In recent years, various provinces have limited the sharp changes in prices through price caps and upper and lower limits. The benefits of power market reform mainly come from the profit concessions of power generation enterprises rather than the benefits of optimal resource allocation. In combination with the actual operation of the power market this year and the development trend of time-sharing power transactions, and drawing on the experience of foreign power market reforms, under the premise that it is no longer possible for power generation enterprises to make profit concessions, in order to obtain the benefits of optimal resource allocation, my country's power market reform should adjust the policy choices for price changes, allowing prices to change within a wider range or even completely according to market laws, while improving the market system, building a power financial market dedicated to risk hedging for market entities in the long term, and providing financial tools for risk management for market entities in the short term. Below, in response to the risk issues caused by sharp changes in power market prices, we take the annual bilateral negotiated transaction as an example to illustrate the risk management function and application method of the bilateral interval price difference contract filing and settlement mechanism.

III. Design of the filing and settlement mechanism for bilateral interval price difference contracts

In view of the market risks that may arise after a large proportion of annual bilateral negotiated transactions are signed at fixed prices, a bilateral range price difference contract filing and settlement mechanism is designed and proposed for market entities to choose to use in annual bilateral negotiated transactions. The "Annual Bilateral Negotiation Transaction + Bilateral Range Price Difference Contract Filing and Settlement Mechanism" can be used in bilateral negotiated transactions in 2022.

Key points for the implementation of the bilateral price difference contract filing and settlement mechanism: First, when market entities sign annual trading contracts through bilateral negotiations, they agree on a high contract price (P1) and a low contract price (P2), and use the bilateral price difference contract filing and settlement mechanism to manage the risk that the actual market price is higher than the high contract price and lower than the low contract price. Second, when the monthly market transaction average price (P) is greater than the high contract price or lower than the low contract price, the bilateral price difference contract filing and settlement mechanism is activated for the decomposed electricity volume (Q0) of the annual trading contract of both parties in that month. Among them, when P is greater than P1, the user (power sales company) obtains the risk benefits of the annual trading electricity price changes, while the power generation enterprise bears the risk losses of price changes. The user (power sales company) pays the power generation enterprise a price difference electricity fee higher than the high contract price, that is, Q0×(P-P1). When P is less than P2, the power generation enterprise obtains the risk benefits of the annual transaction electricity price changes, while the user (power sales company) bears the risk losses of the annual transaction electricity price changes. The power generation enterprise pays the user (power sales company) a price difference electricity fee lower than the low contract price, that is, Q0×(P2-P). Third, the bilateral interval price difference contract is adopted by the market players on their own initiative. The market players who sign the bilateral interval price difference contract shall register their contracts with the power trading institution and specify in the annual transaction contract between the two parties that the power trading institution and the power grid company shall settle according to the annual transaction contract and the bilateral price difference contract settlement mechanism. Fourth, the bilateral interval price difference contract is settled monthly. The bilateral interval price difference contract filing and settlement mechanism provides market players with a financial tool to avoid price risks, which can effectively solve the risks brought to market players by price changes like this year, and avoid problems such as market players requiring re-signing of contracts.

IV. Trial Calculation

Assuming that the power generation enterprise and the user (power sales company) sign an annual transaction agreement of 1.2 billion kWh through bilateral negotiation, the contract transaction price is 0.38 yuan/kWh, and the monthly electricity consumption is 100 million kWh. The high contract price negotiated by market players is 0.41 yuan/kWh, and the low contract price is 0.35 yuan/kWh. When the monthly average market transaction price is 0.45 yuan/kWh, the power generation enterprise bears the price risk loss of the annual contract transaction, and the user (power sales company) compensates the power generation enterprise 4 million yuan per month (100 million kWh × (0.45 yuan/kWh - 0.41 yuan/kWh), and the actual electricity bill settlement is 42 million yuan per month (38 million yuan + 4 million yuan). On the contrary, when the monthly average market transaction price is 0.30 yuan/kWh, the user (power sales company) bears the price risk loss in the annual transaction, and the power generation enterprise compensates the user (power sales company) 5 million yuan per month (100 million kWh × (0.35 yuan/kWh - 0.30 yuan/kWh), and the actual monthly electricity bill settlement is 33 million yuan (38 million yuan - 5 million yuan). The bilateral interval price difference contract filing and settlement mechanism is clear in terms of problems, scientific in principle, simple in operation, and reasonable and effective in results.