Developing Community Among Supporters of Competitive Energy Markets
July 26, 2005
THIS WEEK: Litmus test for competitive electricity markets (continued) ... Alliance for Retail Choice and Compete Coalition hit home runs at NARUC Summer Meetings ... Looks like Energy Bill may pass this week
Editor's Note: I apologize in advance for the length of this week’s TMR. We have had a lot of provocative feedback. Thanks for understanding and plowing through.
3. Update
5. On the Go!
6. Significant Developments on the Journey to Competitive Markets
7. Resources That Provoke Thought About the Journey
Please forward this to anyone who is interested in competitive energy markets.
1. THIS WEEK'S INSIGHT:
In the last two TMRs (here and here), I proposed a "litmus test" to use to evaluate whether a given policy was consistent with the "pure" model of electric competition. For the next several TMRs, each principle will be discussed one at a time with the comments I receive on them:
PRINCIPLE 1: CUSTOMERS CAN FREELY CHOOSE TECHNOLOGIES THAT DO NOT USE THE INCUMBENT TRANSMISSION OR DISTRIBUTION SYSTEM.
Comment from Tom Casten, CEO of Primary Energy Holdings and author of Turning Off the Heat: Principle #1 is the most important distinction between electricity and other markets and seems to be the most difficult for people to understand. At the Aspen Energy Policy Forum last week, I presented in the first session and Nora Brownell really probed the logic behind my statement that markets could never work optimally until the ban on private wires was lifted. The example I gave might clarify the need.
We attempted to develop a project to recycle low-grade flare gas from a Louisiana carbon black producer. Their waste gas would produce a net 30 MW, but their electric load was only 10 MW and they had no need for steam. They were paying $55 per MWh for power. We approached the local utility to sell the remaining 20 MWh, who initially offered $21 per MWh. One year later, after heavy lobbying of the governor and key legislators, we got the utility to offer a flat $38 per MWh for 15 years, and no guarantee of continuing contract. This left us with a 20-year contract with the host for one third of the power and a 15-year contract with the utility for the rest. Now the rub.
Across the road, literally 1,000 yards away, was another industrial complex that purchased about 20 MW at $55 per MWh. If we built the project, the power would all flow to the nearest user - across the road. The second industrial would have been delighted to receive a 10% discount on purchased power, net of backup charges, and would have signed a 20-year agreement. With $48/MWh to us from both parties, we would have had more than enough return on capital and done the project, probably giving up even more of the savings. If we built and sold to the utility, they would purchase 20 MWh every hour for $38/MWh, then charge the adjacent industrial $55/MWh, a $340 per hour profit. This gift, necessitated by the ban on private wires, would have been worth just under $3 million per year to the utility. Plus, the project would have lightened the load on the utility’s transmission wires, reducing line losses and avoiding new capital investment. We could have built a new wire and substation for under $1.5 million, or a six-month payback on the savings. Our final offer to the carbon black host provided a savings of about $2.0 million per year, and this was not enough to cause them to sign the contract. To proceed, we needed some of the $3.0 million per year we were forced to ‘donate’ to the local franchised utility.
With no ban on private wires, the conversations with the utility would have been quite different. They would have come to us and said, “let us reason together, we have a wire; there is no need for you to build a wire.” We would have haggled a bit and then given the utility a good price to move our power, perhaps one dollar per MWh. The project would have avoided 66,000 barrels of oil equivalent per year and saved roughly 200,000 tons of CO2 emissions per year, while saving the industrial plants $4 to $5 million per year.
These projects and savings are not possible within a wholesale competition model. Distributed generation has a higher capital cost for the generation than central generation, but avoids T&D capital and line losses. In other words, DG has a locational benefit that is specific to each site and project.
I have no faith that ISO managements can come up with rules that will even begin to approximate the precision of a market in discovering the value of location. The people who might benefit do not know of the potential benefit and the franchised wires owner knows they could lose load, so the discussions at the ISO or other regulatory body will be stacked by orders of magnitude in favor of the status quo.
As Mancur Olsen said, the longer conditions go unchanged, the more there will be “collusive and cartelistic lobbying organizations” that will make it impossible to optimize economic choices. Without freedom to run private wires, the distribution utilities will never relinquish power, and society will continue to pay the economic and environmental price of a deeply suboptimal central generation approach that cannot, by definition, recycle energy.
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Reader Comment: I’m not sure I’m ready to step out there with Tom Casten on the concept of competitive wires. The only way you got a second “wire” in the telecom markets is because cable first brought a completely different service. I doubt they could justify, from a cost basis, deploying new networks. The same can be said about BPL. No one would run a new set of wires just to deliver another data service. It does however make sense to leverage existing infrastructure, i.e. cable telephony and BPL.
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Reader Comment: You'll get grief from the central generation and DISCO sectors. But, the statement is entirely valid. It doesn't say that services outside of the grid need to be subsidized, just that people are free to buy them without barriers (presumably because they were available in a level playing field context).
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Reader Comment: I agree in the abstract with this one, but in practice there needs to be some commitment by an individual customer to use a certain amount of delivery system capacity. Absent that, somebody will get stuck with picking up delivery system costs incurred for other customers who decided to exercise their right to choose off-grid technologies. It seems like some sort of long-term contract by premise, with an explicit capacity size included, might be part of this picture. Something like 200, 3-phase Amps of delivery capacity at premise XYZ for the next 10 years, with an annual renewal after that, or something.
We want to enable customers to self generate, supply excess to the grid, be dis-connected from the grid or any combination thereof, but do it in a way consistent with the delivery company's need to make investments in facilities with a 40-year life and very limited abilities to re-direct, re-use, or redeploy those assets.
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Reader Comment: I think this is about customers being able to choose technologies that are economically efficient substitutes for the electric energy and other services provided via the transmission and distribution system. Customers should be able to make an economic decision about whether to implement on-site generation and/or have surplus energy to sell competitively.
It may be reasonable for certain customers (i.e., until the "pure" model is achieved) to build their own distribution and transmission for providing the electric energy and services to themselves. Giving such customers the opportunity to provide "wires" services for themselves can help discipline the costs of providing the services via the system and improve pricing signals.
However, there are valid system planning and operational reasons for retaining central responsibility over transmission and distribution. And even when the "pure" model is achieved I don't think it would be economically efficient for customers to compete with the natural monopolies of transmission and distribution to provide wires to connect other customers.
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Reader Comment: [Principle 1 only makes sense w]hen the price of both supply and demand are liquid, transparent and fungible.
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Reader Comment: While customers can implement their own solutions that do not use the transmission network (I presume you are talking distributed generation/co-generation etc.) if they connect to the transmission grid, or wish to supply other groups other than their own entity, then they need to meet the minimum requirements set by the regulator/and or the distribution company whose system we have in place in any region.
In Australia we have privately owned inter-connectors between historical state based networks. With geographically allocated transmission and distribution rights (as a compared to the 'mix' and overlaps in the U.S.) there is a clear responsibility. What is needed here is an easier ability for someone who has distributed generation to connect back to the grid (the networks shy away from this / make it difficult claiming issues of quality and the protection of network integrity).
I would have thought the federal incentive (and power) to sort out and rearrange the transmission / distribution ownership was clearly related to the issues of Critical Infrastructure Protection and Counter Terrorism - under the auspices of National Homeland Security. With one of my other hats here in Australia - being involved in the CT/CIP activities clearly means that understanding the implications of infrastructure loss. The management of it and the response is highly important.
2. NEXT WEEK'S INSIGHT
3. UPDATE
4. PERSPECTIVE ON THE JOURNEY
“The year 1776, celebrated as the birth year of the nation and for the signing of the Declaration of Independence, was for those who carried the fight for independence forward a year of all-too-few victories, of sustained suffering, disease, hunger, desertion, cowardice, disillusionment, defeat, terrible discouragement, and fear, as they would never forget, but also of phenomenal courage and bedrock devotion to country, and that, too, they would never forget.
Especially for those who had been with Washington and who knew what a close call it was at the beginning—how often circumstance, storms, contrary winds, the oddities of strengths of individual character made the difference—the outcome seemed little short of a miracle.”
1776 by David McCullough, page 294 (Simon and Schuster 2005) (Amazon.com link).
These are the closing paragraphs to McCullough’s compelling narrative of the most important year in U.S. history. Like me, you may have a glossy Hollywood image of the beginnings of what has become the greatest republic in history. The book rips the rose-colored glasses from our eyes and shows just how precarious was our birthing. Some will think it vainglorious to draw analogies between the founding of our Nation and the cause of energy competition. Be that as it may, I in fact drew inspiration from the suffering and sacrifice of many so that I could live today in the USA. I have witnessed the sense of satisfaction that comes with knowing I played a part in the miracle of reforming natural gas markets from the basket case of the early 1980s to their current role as the go-to fuel for electric generation. I am misty eyed enough to think that my grandchildren will live in a better world for the work we will do over the next decade in energy markets. If it takes reflecting ! on a grand event like 1776 to make that effort more poignant, than so be it.
5. ON THE GO!
CAEM in the West: Coming soon to Austin, Denver, Calgary, and Phoenix
CAEM conducts highly entertaining and interactive in-house workshop/training/strategic meetings that discuss trends, achievements, setbacks, current issues, lessons learned, and what needs to be done to move competition forward, as well as summarizing recent CAEM studies including: Consumer Benefits of Competition, Default Provider Service, Retail Energy Deregulation (RED) Index, Resource Adequacy, and most recently Transmission and Distribution.
CAEM's CEO, Ken Malloy, is planning trips to Austin (NARUC Summer Meetings), Denver (COGA Annual Meeting), Calgary, and Phoenix. If your company is located in those cities and you want to arrange an in-house workshop or seminar, please contact Gary Clouser.
Are You a Market Freak and Want To Do Some Damage?
If you believe passionately in energy markets, there are few places you are more needed than in a government job that has influence over the policies that effect markets. (I spent over 15 years with FERC, DOE, and the Illinois Commerce Commission.) Two such opportunities recently hit my in-box.
The first is a position with the NYS PSC's Office of Retail Market Development. (For my money, this is the premier swat team in the Nation’s PUCs in passion and depth for making markets work, thanks to Bill Flynn, NYPSC’s visionary Chairman, and Ron Cerniglia, the head of the group.) This position is located in Delmar, NY and the salary range is $69,154 to $84,502, and resumes are due by August 1, 2005. To apply for this position, submit a letter of interest and resume by August 1, 2005 to Mary Ann Shoudy, Personnel Administrator, at maryann_shoudy@dps.state.ny.us.
The second is a position with the Water and Power Branch at the Office of Management and Budget in Washington, DC. (I worked extensively with OMB in my government career and you can’t believe how many stupid things they prevented from happening.) Applications for this position must be submitted by Tuesday, August 2nd. Read the position announcement here.
6. SIGNIFICANT DEVELOPMENTS IN THE TRANSITION TO COMPETITIVE ENERGY MARKETS
CAEM AT NARUC SUMMER MEETINGS IN AUSTIN, TX: The buzz is that it looks like we may have an energy bill this week. If it happens, this would be a surprising development both on substantive grounds and the speed of agreement between the House and Senate. This bill is not likely to have a significant impact on any real energy problems that face the nation. I asked one energy maven what he thought the main benefit is for markets in the legislation and he said “just getting this behind us allows us to start to think about what we really need to do to face our energy challenges.” Not much of an endorsement of the legislation.
PROGRESS
Lower court kicks TURN petition off California's November ballot. Read about it here.
The Alliance for Retail Choice held a meeting at the NARUC Summer Meetings. It was a roundtable discussion by prominent state regulators from Maryland, New York, New Jersey, Michigan, Illinois, the District of Colombia, California, and Texas. About 200 attended the meeting. THE FLAME IS ALIVE! Lamentably, the best meeting at the NARUC Summer Meeting for discussing markets was not actually part of the NARUC Summer Meetings. It had to be fit in by a private group around the NARUC schedule. Market interventionists are well organized in NARUC. When can we expect a committee dedicated to making competition work for all the pro-market commissioners?
The Compete Coalition has come out of the closet. They issued a list of over 60 organizations that are part of the coalition. (CAEM is one of them.) See the list here. As evidence of its growing stature, Compete also threw a soiree at the NARUC Summer Meetings that attracted maybe 300, hosted by Compete Chairman Don Nickles, former senator from Oklahoma. Word is that Compete’s fingerprints will be in evidence in the energy bill if it passes. The emergence of the Compete Coalition may be one of the most important developments this year. They need and deserve your support.
SETBACKS
Seven Governors Urge Energy Independence. Read about it here. Editor's Note: Energy independence is illusory. The UK with its oil from the North Sea is energy independent and all of Japan’s energy is imported. Is the price of a barrel of oil sold in the UK or Japan different? No. So what difference does energy independence make? Energy independence would have an effect on our balance of trade and our economy (likely negative since it means preventing the lowest cost resource from being consumed and subsidizing higher cost resources) but not on our energy or national security. More about this in the next TMR after my COGA Speech.
7. RESOURCES THAT PROVOKE THOUGHT ABOUT THE JOURNEY
Two new studies were recently issued that support the march toward competitive electric markets.
National Grid has produced a very thoughtful 20-page study entitled “Transmission: the Critical Link: Delivering the Promise of Industry Restructuring to Customers.” The raison d’etre of the study is “a number of troubling warning signs have appeared in the current industry landscape, revealing issues that must be addressed in order to complete the transition to fully competitive markets and deliver the full measure of benefits to customers that was the promise of industry restructuring. Many of these issues, such as higher wholesale prices in constrained import areas, the retention of old dirty generating plants for network reliability, limitations on competition and market power problems, and barriers to entry for new generators, arise from an inadequate transmission system. Enabling restructuring to deliver greater value to customers requires the adoption of a number of policies that support the development of a transmission network sufficient ! to permit competitive markets to work as intended.”
Global Energy was hired by several large generators to pull together the recent experience in competitive electric markets and to estimate the benefits to consumers. The study is entitled “Putting Competitive Power Markets to the Test: The Benefits of Competition in America’s Electric Grid: Cost Savings and Operating Efficiencies.” It concluded that “competitive wholesale power markets in the eastern United States and Canada produced at least $15.1 billion in customer savings during 1999-2003 and has resulted in dramatically improved power plant efficiencies nationwide.”
Let me first say a word about terminology. Both studies extensively use the term “restructuring” to describe the effort they are trying to analyze and promote. I think the term “restructuring” evolved for several reasons. In a technical sense, “deregulation” was inaccurate since we were not deregulating transmission and distribution. Restructuring seemed less scary then deregulation, especially after California and Enron. My concern is that “restructuring” is ambiguous and does little to inspire passion. To piggyback on today’s recommendation of “1776,” “freedom” and “independence” sound much better the alternative rallying cries proposed for the American Revolution: “preference enhancement” or “monarchy realignment.” We are out to win hearts and minds. I am personally motivated by the words “competition” or “markets,” though I confess that I blinked when I named CAEM and used “Advancement” rather than “Competitive,” which is retrospect would have been bolder. Can we start to use the term competitive electric markets rather than restructured electric markets?
I also want to say a word about “studies.” CAEM is a think tank and studies are what think tanks do. So it is somewhat surprising that my advice is to keep studies in perspective. Studies are important and needed but if you have been following my discussion of A VAST CORPS (an acronym for the pieces that need to be included in a comprehensive strategy for the success of competitive markets) over the last several TMRs, you know that much more is needed than just adding pounds of paper that accumulate on a shelf. Those pounds of paper must be part of a strategy to advance markets and that includes leadership, organization, resources, etc. The recent Convention for Supporters of Competitive Energy Markets was NOT built around debating policy and analysis of substantive issues. It was built around the A VAST CORPS building blocks which will propel studies, policy, and analysis to their highest and best use.
(Note: CAEM accepts no compensation for inclusion in the Tuesday Morning Report.)
8. READER FEEDBACK
See reader feedback above and next week.
ARCHIVE: Access previous CAEM Tuesday Morning Reports here.
The Center for the Advancement of Energy Markets (CAEM) is an independent,non-profit, public policy think tank that supports an effective transition from the monopoly model of energy regulation to an open-access, customer choice model.
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