Engineering, Economics & Regulation of
the Electric Power Sector
ESD.934, 6.974
Recitations 2 & 3 . February 12 & 19, 2010
Regulation of the US power
sector
Prof. Ignacio J. Pérez-Arriaga
Source: Andy Whitaker
2
1
North American Organized Markets
Roughly half the installed capacity
Geographic footprint of organized wholesale markets in North America
Source: ISO
© ISO / RTO Council. ll rights reserved.
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.
The electricity crisis of California
•  Low hydraulicity
•  Climate
•  High Demand
•  Regulatory uncertainty
(responsibility not clear)
•  No regulatory instruments to
ensure enough firm capacity
•  Administrative difficulties
Lack of
generation
•  Natural Gas
•  SDG & E
•  NOx
•  PG & E, SCE
•  High prices
•  Rationing
Bankruptcy
•  Market design & structure
•  Lack of demand response
•  Risk allocation
(CTC, contracts)
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2
2000-01 Crisis
Wholesale electricity prices in California, $MWh
300
250
150
100
$MWh
200
50
Jul
Apr
Jan
2002
Oct
Jul
2001
Apr
Jan
Oct
Jul
2000
Apr
Jan
Oct
Jul
1999
Apr
1998
Jan
Oct
Jul
Apr
Jan
Oct
Jul
Apr
0
2003
PX Terminated Day-Ahead Trading January 31, 2001
Feb. 2002 - Sep. 2002, Bloomberg SP15 Average Price are Shown
Image by MIT OpenCourseWare.
Source; Gary Stern, Southern California Edison Company
There are other explanations...
“The California crunch really is the
result of not enough powergenerating plants and then not
enough power to power the power of
generating plants”
George.W. Bush (then President elect)
(Interview by the New York Times, January 14, 2001)
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4
Regulatory U-Turn
  2007 Nationwide survey confirmed dramatic reversal of
support among state utility regulators for “deregulated”
energy markets
  One third of regulators in currently competitive states said
they are seriously considering “re-regulating” utilities in their
jurisdictions
  Asked to identify states operating most successful
deregulated energy markets, majority of commissioners
replied, "None"
  Survey found no measurable support among state regulators
for any form of retail competition in foreseeable future
RKS Research & Consulting, 2007
The “textbook model”
of the restructured &
liberalized power sector
Some material for this section has been borrowed from S. Littlechild & P. Joskow in
Electricity Market reform: An international perspective, Elsevier, 2006.
10
5
Components of the “textbook model”
(the 10 commandments)
  Privatization, to enhance performance & reduce
the interference of the government
  Vertical separation of competitive & regulated
monopoly activities
  Horizontal restructuring to create a level playing
field for competition
  Independent System Operator
  Voluntary energy & ancillary services markets &
trading arrangements
11
Components of the “textbook model”
(the 10 commandments)
(continuation)
  Open access to the transmission network, plus
adequate locational signals
  Free choice of supplier with an adequate design &
utilization of retail tariffs
  Creation of independent regulatory agencies
  Provision of transition mechanisms
  … & nothing more!
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6
The standard structure of full
fledged electricity markets
Generator
Generator
Generator
Power Exchange
Wholesale
market
Supplier
Supplier
Distributor/
Retailer
Distributor/
Retailer
Consumer in
the market
Consumer at a
regulated tariff
Consumer at a
regulated tariff
Retail
market
Consumer in
the market
13
… however, avoid “cut & paste”
  Models which appear to work well in some
circumstances & places may not be easily
transferable to countries facing different
circumstances
(peak load, level of development, industry initial
structure & ownership, fuel mix, interconnections,
institutional framework)
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7
Successes…
  Where the textbook model has been basically
followed the new regulation has been quite
successful
 Nordic countries
 UK
 Argentina (before the country’s financial crisis)
 Texas & Northeast of the US
 Australia
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… & failures
  And where the textbook model has been abandoned
because of omission or commission, there have been
problems
 Omission: France (no comprehensive wholesale market),
Germany (lack of true open network access), New Zealand (no
independent regulator), …
 Commission: California (poor assignment of risk), Chile (pioneer
but too restrictive market & transmission rules), Spain (too much
governmental intervention & horizontal concentration), …
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8
Most frequent
failures
17
“When structure is not conducive to
competition, the regulator & pool
operator will find themselves
unsuccessfully chasing after conduct.
The solution is not a better rule, but
a change in structure”(*)
(or a gradual introduction of competition, with rules that
restrict the freedom of the market agents & prevent
market power abuse)
(*) From “Governance & regulation of power pools & system operators”, Barker, J.,
Tenenbaum, B. & Woolf, F., World Bank, 1997.
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Frequent failures
  Inadequate sector structure for competition
 Horizontal concentration
 Insufficient vertical / diagonal unbundling
 Generation & system operation
 Distribution & retailing
 Generation & retailing (¿?)
  Incorrect risk allocation in the regulatory design
 Default tariff design (pass through of costs to consumers)
 Authorized trading instruments
 Ultimate responsibility to supply
19
Frequent failures
(continuation)
  Attempting to apply “textbook-like reforms” in
countries without an appropriate power sector
structure &/or an adequate institutional framework
  No liquid &/or supra-national balancing markets
  Insufficient competition in the markets for fuel
20
10
Frequent failures
(continuation)
  Absence of executive regional institutions
in supra-national markets
 Lack of needed harmonization
 Inadequate cross-border trading rules
  Scarce available commercial capacity of
interconnectors
 Physical capacity / long-term previous contracts
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Model 1: Monopoly
Generation
Generation
Transmission
Transmission
Distribution/
Retail
Distribution/
Retail
Consumers
Consumers
22
11
Model 2: Purchasing agency
(single buyer)
IPP
IPP
IPP
IPP
Single buyer
IPP
Own
generation
Single buyer
Distribution/
Retailer
Distribution/
Retailer
Distribution/
Retailer
Distribution/
Retailer
Consumer
Consumer
Consumer
Consumer
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Model 3: Wholesale competition
Generator
Generator
Generator
Wholesale market
Distribution/
Retail
Distribution/
Retail
Consumer
Consumer
24
12
4: Retail & wholesale competition
Generator
Generator
Generator
Power Exchange
Wholesale
market
Supplier
Supplier
Distributor/
Retailer
Distributor/
Retailer
Qualified
consumer
Captive
consumer
Captive
consumer
Retail
market
Qualified
consumer
25
FIN DE LA
PRESENTACIÓN
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ESD.934 / 6.695 / 15.032J / ESD.162 / 6.974 Engineering, Economics and
Regulation of the Electric Power Sector
Spring 2010
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