Reverse Auctions Open Up Markets and Cut Energy Prices Dramatically
Renewable energy is a cornerstone of any country’s efforts to reduce greenhouse gas emissions and promote climate resilient development, but the cost of developing solar, wind or other renewable infrastructure at a large enough scale to make a difference has hindered governments and private investors alike. So, when new procurement processes drive costs down to as low as 2.69 cents per kilowatt hour (kWh) for solar, as happened in Mexico recently, investors take notice that renewable energy options can compete and win.
A technical note by a Presidential Management Fellow for USAID’s Energy Division, Sarah Lawson, called “The Basics of Competition & Auctions for Renewable Energy,” explains how these new procurement processes work and why they are changing the renewable energy landscape. Lawson says that competitive procurement is not unique to the energy sector, having been used for years as a way to purchase a good or service through a process with multiple bidders. What is new is the use of competitive procurement in some developing countries where contracts may or may not have been awarded through a transparent process in the past.
Reverse auctions are proving particularly useful. Unlike a traditional auction, where the buyer offering the highest price is the winner, in a reverse auction, bidders compete to supply electricity at the lowest price. This encourages the lowest bids possible and drives down costs. In countries like Brazil, India and South Africa, reverse auctions have cut current prices by 29-50 percent. Auctions will be used even more widely starting this year when the European Union makes competitive mechanisms mandatory for clean energy capacity development. With countries in Europe, Africa, Latin America, the Middle East and Asia using reverse auctions, it shows that low bid pricing can be achieved worldwide, and there is no indication that project development is suffering as a result.
USAID has supported reverse auctions in Afghanistan, El Salvador, Mexico and Zambia. In October 2016, USAID supported the U.S. Energy Association’s auction workshop in Kazakhstan, where major stakeholders learned about the basic legal, financial and regulatory processes for running an auction and created an auction action plan.
The technical note outlines a few auction case studies. Two successful reverse auctions in Mexico in 2016 brought in several billion dollars in planned investment. The first auction helped the Mexican government attract the interest of foreign investors, and will lead to 2,085 MW of new, clean electrical power. The second auction represented about $4 billion of new investment and almost 3,000 MW of total installed generation capacity. The median price of energy was 3.35 cents/kWh with the lowest solar bid an exceptionally low 2.7 cents/kWh. Mexico’s third auction occurred in early 2017.
In Zambia, the International Finance Corporation launched its Scaling Solar program in April 2016 and received the lowest prices for solar in Africa thus far; the winning bid was 6.02 cents/kWh, which shocked many in the energy industry. Lawson explains that Scaling Solar’s de-risking package is largely responsible. A standardized tendering process and concessional lending from the World Bank brought down costs and reduced investor risk.
Competitive procurement is a nascent process in much of the world, and will need to be adapted to different regulatory environments, but the approach looks promising as a way to reduce renewable energy costs.