Reforming the Operation Mechanism of Chinese Electricity System: Benefits, Challenges and Possible Solutions.

• Author: Chen, Hao

1. INTRODUCTION

   China has the largest electricity system in the world, and it accounted for 25% of global electricity production in 2016 (BP, 2017). The electricity sector is not only the major coal consumer (47% in 2016) and carbon emitter (42% in 2016), but also an important source of air pollutants, such as S[O.sub.2], N[O.sub.X] and P[M.sub.2.5] (Chen et al., 2017; NBS, 2017; Shan et al., 2018). Therefore, it is necessary to develop the power sector in a low-carbon and sustainable manner. To provide scientific decision-making support for this goal, most previous studies were conducted from technological perspectives, such as applications of energy efficiency technologies, renewable technologies, and carbon capture and storage technologies (Davidson et al., 2016b; Zhang et al., 2014; Zhou et al., 2010). Few studies have been conducted from the perspective of power system operation, such as reforming the mechanisms of unit commitments and generator dispatch. Moreover, the power system operation mechanism in China has often been criticized for its low efficiency in administratively allocating the electricity resources, resulting in more air pollutions and higher consumption costs (Kahrl et al., 2013; Pollitt et al., 2017).

   The current mechanism of Chinese electricity system operation is characterized by a 'planned economy' strategy, which is based on the intensive negotiations between the governments and grid companies. Unlike the economic dispatch mechanism implemented in most countries around the world, generators in China are committed and dispatched according to a unique rule called 'equal share' ( Davidson and Perez-Arriaga, 2018; Kahrl et al., 2013). Under this rule, coal generators with similar capacities are administratively allocated the same amount of annual operational hours. Then, they are dispatched to achieve these predetermined allotments (Pollitt et al., 2017). Transmission lines for the cross-border trading are also utilized to achieve the predetermined annual targets, which are set in the yearly plan or the Five Year Plan (FYP). Obviously, this mechanism of power system operation is inherently inefficient and not economically optimal because generators are not operated based on their inherent merit, especially considering the current status of supply side overcapacity (Carbon Tracker, 2016; Lin et al., 2016).

   In March 2015, Chinese government launched a new wave of electricity market reform, and one of the major tasks was to reform the power operation mechanism to be more efficient. The implementation of an economic dispatch mechanism in the electricity system would be a potentially good change. This is because the share of market traded electricity keeps increasing since the 2015 reform, reaching 40% in 2018. (1) An efficient power operation mechanism is in desperate need for supporting the electricity trading and achieving more benefits. However, the equal share approach still dominates the power system operation in most areas in China after the launching of the 2015 reform, little changes have been made to implement the economic dispatch. This is because reforming the power operation mechanism is a complex task and has widespread impacts (Erdogdu, 2014; Finon and Roques, 2013; Pollitt et al., 2017). Moreover, changing the operation mechanism will face many challenges caused by the benefits reallocation among different stakeholders. To provide decision-making support for the on-going electricity market reform, we conduct this study to answer the following three questions.

   (1) What benefits could be achieved by implementing the economic dispatch mechanism in the Chinese electricity system, how large are these benefits, and who gets these benefits?

   (2) What are the political and economic challenges faced by the economic dispatch?

   (3) How can these challenges be addressed to facilitate the implementation of the economic dispatch?

   The remainder of this paper is organized as follows. Section 2 presents a literature review of previous studies in the field of power operation reform. Section 3 describes the main methodology and data used in this study. Section 4 shows the empirical results of implementing the economic dispatch mechanism in the Chinese electricity system. Section 5 summarizes the conclusions and proposes relevant policy implications.

2. LITERATURE REVIEW

   Power system operation must balance the electricity system in real time on a least cost basis while meeting various physical and security criteria. Moreover, the efficiency of power system operation has extensive impacts on the energy consumption, climate change and air pollution (Mi et al., 2017; Teng et al., 2017). Therefore, it has attracted considerable research interests for a long time. The initial focus was developing appropriate models and algorithms to optimize the power system operation (Miller and Happ, 1983; Sakaguchi et al., 1988; Wei et al., 2018; Werner and Verstege, 1999). With the emergence of new technologies and worsening environmental issues, recent studies can be classified into three categories.

   The first category involves modelling the impacts of new technologies, such as renewables, electric vehicles, energy storage technologies and Demand Side Responses (DSR) on power system operation (Carrion and Zarate-Minano, 2015; Galus et al., 2010; Liu et al., 2014; Luo et al., 2015; Nikolakakis et al., 2017; Osorio et al., 2015; Yu, 2012). The second category involves analysis of the environmental effects of economic dispatch mechanism to reduce the external influences of electricity production (Eldesouky, 2013; Liao, 2012; Muslu, 2004). The third category involves studies with objectives similar to that of this study, which estimates the benefits from reforming the power operation mechanism, especially for countries that have not implemented the economic dispatch. Zhao et al. (2013) used a nonlinear programming (NLP) optimization model to analyse the benefits of economic dispatch in Liaoning Province, China. They concluded that 2.09%-9.42% of pollutant and greenhouse gas (GHG) emissions could be reduced based on the 2010 levels. Davidson (2014) employed a mixed-integer linear programming (MILP) optimization model to analyse the benefits of economic dispatch mechanism in the Northeast China and found that the operational cost in 2013 could be reduced by 4.3%. Zhong et al. (2015) applied an MILP optimization model to explore the benefits of economic dispatch in Guangdong Province, China, and found that coal consumption could be reduced by 4% compared to the 2012 level.

   Reforming the power operation mechanism is associated with both benefits and challenges. These challenges could arise from institutional, technical, political and economic conflicts (Pollitt et al., 2017). Kahrl et al. (2013) reviewed the history of power operation mechanism in China and stated that the benefits reallocation among generators with different ownerships will result in political and economic challenges. Davidson et al. (2016a) developed a political economy framework to analyse the challenges of high-share wind power integration and identified obstacles related to the economic transfers among wind generators and conventional generators, central-local government relationships, and cost-benefit allocation under a more integrated regional dispatch scheme. Hurlbut et al. (2017) compared the cross-border electricity trading in China and the USA and stated that the administrative planning of the network power exchange, pricing and trading rules are the main challenges of reforming the power operation mechanism. Robinson and Li (2017) analyzed the over-capacity status in China's power system and noted that it would hinder the power system optimization over wider areas, such as in inter-provincial or inter-regional trading. Pollitt et al. (2017) explored the theoretical significance, reform experiences and Chinese contexts of dispatch reform and summarized several challenges, such as the lack of a wholesale electricity market, vast revenue impacts, and the lack of necessary software.

   Compared with these previous studies, we contribute to the existing literature from three aspects. First, most previous empirical studies tend to analyze only one region or one province of China in estimating the economic dispatch benefits, evidences at the national level are currently lacking, so our study can provide an additional decision-making reference for the electricity market reform. Second, a novel political economy framework is developed in this study to systematically identify the challenges faced by reforming the power operation mechanism, which can be served as a powerful tool in aiding the electricity policy designs. Moreover, the political economy analysis in this study is based on the quantitative empirical results, few previous studies have this combination before. Third, we have considered the external costs of different generation technologies in optimizing the power system operation, which is important considering the strict environmental regulations in China.

3. METHODOLOGY

   3.2 Economic dispatch model

   In this section, we describe a MILP optimization model that is established to estimate the benefits of economic dispatch. The definitions of the parameters and variables in the model are shown in Table 1.

   3.2.1 Decision variables

   The decision variables used in the economic dispatch model are shown in Table 2. Some are continuous variables, which includes the electricity generation ([p.sub.g,t]), electricity transmission ([tr.sub.i,-]jt) and spinning reserve ([sp.sub.i,g,t]). Others are binary variables, such as the on/off status of a generator [i.sub.g,t]) (.)

   3.2.2 Objective function

   The objective function of the economic dispatch model is to minimize the annual total operation cost of the power system, which includes the electricity generation cost, the electricity transmission cost, the start-up cost and the shutdown cost (see...