Renewable energy auctions are fast becoming the method of choice across the globe for driving down the costs of energy procurement.

Hosted by the Alternative Energy Development Board (AEDB) in Pakistan, these auctions use a competitive process for procuring electricity generated by renewable energy, where project developers bid against each other to supply energy through long-term contracts at the lowest possible price.

They are preferred for their ability to enable true price discovery of renewable energy technologies, while avoiding windfall profits or underpayments to developers.

Like many countries, Pakistan plans to procure future renewable energy capacity through auctions in accordance with its renewable energy policy. The first auction of a 600 MW solar project for Muzaffargarh is scheduled for this month (April 2023).

Auctions can increase market competition, promote certain technologies by mandating technology-specific auctions, create local value by specifying local content requirements, and help prioritise country-specific goals for energy landscape development.

However, these assumptions conceal a more intricate reality, where a myriad of policy, regulatory, and financial support mechanisms need to be designed and implemented to ensure that these benefits materialise.

A poorly designed auction mechanism can be counterproductive to its intended goal of promoting competition. It can create barriers for small and indigenous developers due to high administrative and transaction costs and the emphasis on economies of scale.

Additionally, it can lead to market disruptions due to intermittent timelines and underbidding by developers, resulting in the non-realisation of auctioned capacity.

To ensure success, any auction mechanism for the country must not only lower costs but also prioritise design elements that guarantee high realisation rates, prevent market concentration, and encourage the participation of small and local players.

Ultimately, the design elements of an auction involve tradeoffs and correlations that must align with national priorities and goals to ensure effectiveness and long-term success.

In Pakistan, both solar and wind tariffs have already experienced significant reductions under feed-in tariffs/cost-plus regimes.

Pushing for further cost reduction without considering other important factors can be unrealistic and may even harm the growth of local and indigenous renewable energy markets.

To prevent this, auction designs need to include local content regulations and protections for small developers.

Local Value Creation (LVC) refers to a variety of economic activities that utilise locally available input flows and generate output flows for the local community.

While all types of renewable energy auctions promote LVC, they can be tailored to maximise benefits for the local society and regional economy. However, global experiences with auction designs that incorporate local content requirements have yielded mixed results.

For example, in Brazil, a requirement of 60 per cent local content was initially implemented for wind but was later removed and replaced with a loan requirement. On the other hand, South Africa requires that 49pc of involved entities be South African and at least 30pc of shareholders be black.

It also mandates that 25pc of the workers on renewable energy projects must be black, and at least 40pc of construction content must come from local sources.

A crucial aspect of auction design is the inclusion of a diverse range of competing technologies. Technology-neutral auctions, where different technologies compete against each other, facilitate the deployment of least-cost technologies.

Conversely, technology-specific auctions can accelerate the deployment of a particular energy source and help achieve national goals and targets.

The former approach proved successful in Brazil, where natural gas competed with cheaper wind energy, resulting in increased wind deployment.

India is an example of the latter, where technology-specific auctions accelerated the development of concentrated solar power and photovoltaics, making India a global market leader in these technologies.

Another important consideration in auction design is limiting project sizes to reduce the risk of market concentration and spread benefits across a larger group of developers. Setting quotas for bidders helps guard against monopolisation and ensures that one winner does not take all or most of the available volume.

Preventing monopolisation of the market and distributing socioeconomic benefits is critical for promoting market growth and regional and national socioeconomic advancement.

While there remains the debate of how economies of scale result in decreasing technology costs and hence sizes should not be limited; with auctions, it is observed that these are not perhaps the only reasons for cost reduction.

In fact, auctions drive down costs due to multiple other factors including true price discovery, increased competition and long-term market growth through anticipation and higher certainty for investors and developers.

Experiences from Latin American countries show that smaller project sizes do not necessarily mean higher levelised tariffs and that limiting project size is not a deterrent to price reduction or volume procurement; both goals can be achieved simultaneously.

A key goal of energy auctions remains to ensure high realisation rates of tendered energy projects. High penalties, bid bonds and project related pre-qualifications are a few methods that are deployed to shore up project delivery and realisation.

These measures, however, often result in disincentivising smaller developers and citizen projects by raising the capital cost required to compete in an auction mechanism.

Germany is an example of integrating these market players by specifying lower bid bonds (around 20 USD per kW), with fewer qualification requirements, longer realisation periods (54 months) and preferential tariffs for “citizen projects”.

On-shore wind citizen projects dominated the 2017 auctions in Germany making up almost 80pc of the procured capacity. Even with these incentives, the challenge still remained of ensuring these benefits are extended to the deserving citizen projects and not cashed in by large corporates supporting these projects.

A key balance needs to be struck between these competing priorities, where citizen projects can always run the risk of lower realisation due to capital and capacity constraints. Supporting mechanisms in terms of financing or regulation around citizen projects can help further shore up this emergent disparity.

In conclusion, while renewable energy auctions are gaining global traction for future renewable energy procurement, there is no one-fits-all model or a universal blueprint to be deployed across different countries.

Auctions provide a flexible and goal-based method of energy capacity procurement.

However, until effectively designed and implemented, there is no guarantee that an auction regime will inherently stimulate desired outcomes.

Benefits and fallouts from auctions are highly dependent on the specific design of the auction vis-à-vis the local geographic, social and industrial context.

For Pakistan, an optimal auction design will entail a focus beyond cost, implying prioritising other non-cost-related energy policy objectives and global best practices.

This would include allowing domestic markets to grow, streamlining the bidding process to ensure maximum participation and competition, reducing barriers to entry, fostering social acceptability, avoiding concentration of projects and above all, inclusive and participatory development.

As auctions remain an evolving process, there will always be lessons learnt. To guarantee that these lessons positively inform auction design, the Alternative Energy Development Board (AEDB) in Pakistan should develop a monitoring and evaluation tool in tandem with the execution of the first round of auctions.

This tool should monitor the process through the lens of national energy goals, and ensure periodic feedback and input from stakeholders to optimise the auctioning process for every annual cycle, as per local market needs and insights.

Such a mechanism will ensure that Pakistan maximises the utility of its auction process while profiting from the benefits of RE deployment.