The Renewable Energy Certificate (REC) mechanism was introduced three years ago as a market tool to support the policy of Renewable Purchase Obligation (RPO). However, since then, the mechanism has attracted little interest from investors. Projects that counted on REC income have made losses as there were not enough takers for RECs. The Central Electricity Regulatory Commission (CERC) has now proposed a revision for the mechanism. Will the changes finally revive the dysfunctional solar REC market?

• So far the REC market has failed to deliver because of non-implementation of the RPO mechanism and a high minimum price of RECs (set by CERC)
• Despite CERC’s step towards reducing the price per REC, the market not fly unless RPOs are enforced
• The long term demand for RECs looks bleak considering that parity is fast approaching

There have been two primary reasons why the REC market failed to deliver: non-implementation of the RPO mechanism and a high minimum price of RECs (set by CERC). So far, one REC (representing 1 MWh of solar power) could not be sold for less than INR 9,300 (USD 97). However, given the drastic fall in the cost of solar, it quickly became cheaper to buy solar power than to buy RECs (see graphic). Since June 2013, the ratio of buy bids to sell bids has fallen continuously and unsold RECs have accumulated. At the end of September 2014, over 377,000 RECs, equivalent to 80% of all issued RECs, remained unsold.

In the draft proposal (refer), the CERC now wants to slash the minimum (and maximum) price to INR 3,500 (and INR 5,800) per REC. Projects commissioned before 1st April 2014, shall be eligible for a vintage multiplier. Considering that the average pool purchase cost (APPC) is around INR 3.3/kWh (USD 0.5/kWh), this revision will bring the effective revenue solar power (APPC plus REC) to at least INR 6.8/kWh, which is at par with the tariffs offered under various policies. This revision has raised hopes for a revival of the dysfunctional REC market.

While it is a step in the right direction, we believe that the market will not fly as long as RPOs (the demand side) are not enforced. Though most states have solar RPOs, few are taking any steps to actively enforce them. In order to enforce RPOs effectively, states have to accept a stringent penalty structure for non-comliance. The penalty, moreover, has to be higher than the traded price of solar RECs.

In addition, there are other aspects of the market that do not make sense. Firstly, why should the price be controlled at all? Basic economics tells us that we can only control either price or quantity – but not both. If the goal is achieving RPOs, then RECs should be traded at any price that the buyer and seller might agree to.

Also, there is no reason why RECs should not be sold bilaterally but have to go through exchanges. Additionally, most states prefer buying solar power to buying just a certificate that cannot be used. This restricts the market to those states that cannot build or purchase own plants, which are typically states where the distribution companies are financially weak. Enforcing RPOs on them is going to be tough. A further concern is that the current RPO targets are roughly in tune with the old NSM goal of achieving 20 GW of solar across the country by 2020. Now the government wants to push for 100 GW or more (see our previous blogs). Will the RPO targets be amended accordingly?

The larger question hovering over RECs, is the long-term visibility of demand. As the cost of solar falls and the cost of energy rises, solar will soon be built across India without incentives or obligations, simply on the merits of a competitive generation cost. This will happen in various market segments throughout the next 5 years. Under conditions of parity, when solar installations will likely fast exceed RPO targets, who will buy RECs? What investor (and bank) will take such a bet? Overall, BRIDGE TO INDIA maintains that the REC market remains fundamentally flawed. A more promising way of looking at incentivising demand for solar power may be to look at a “value of solar” calculation. We will write a post on it shortly.