The Case of Texas:
Lessons and Reflections
Expert Workshop – New Electricity Market –
Challenges and Opportunities
Jerusalem
Jay Zarnikau
Frontier Associates LLC and
The University of Texas at Austin
July 2014
1
Why Consider Texas as a Model?

Texas is often cited as North
America’s most successful
restructured market
 Vibrant competition at the retail
level

FERC policies are not very
relevant to Texas, allowing the
nation’s largest electricitygenerating state to do things
differently from other U.S. States
 The wholesale market functions
fairly well

Texas has probably the most
unregulated electricity market in
North America
 An “energy only market,” relying
extensively on the forces of
supply and demand to preserve
reliability
 There is very little regulation over
retail prices and services
2
Competition in the ERCOT (Electric
Reliability Council of Texas) Market

Wholesale competition
gradually introduced over three
decades:
 Cogeneration was promoted in
the 1980s, exceeding 8 GW by
the end of the decade
 This led to a lot of independent
power production beginning in
the late 1980s

Retail competition introduced:
 Legislation in 1999 requiring
full customer choice by January
2002
 Price-to-Beat (PTB) regulated
transitional default pricing for
customers who do not exercise
their right to choice expired in
January 2007
 Wholesale competition formally
introduced in 1995, creating the
first ISO
3
Impetus for Restructuring



Large industrial energy
consumers thought they could
obtain access to cheaper power
supplies.
Power marketers and
independent power producers
(e.g., Enron and Shell Oil)
wanted to play a bigger role in
the retail sector.
A booming economy led to
relatively-high demand growth
and new business
opportunities.


There is a general distrust of
government in Texas. Thus, a
reduced role for government
regulation was considered to be
attractive, particularly under
Governor George W. Bush’s
administration.
High prices was not much of a
driver, in contrast to other
states. Nonetheless, it was
often claimed that restructuring
would reduce Texas’s electricity
prices even further.
4
Attributes of the Wholesale Market


The market is unbundled.
Generation, transmission and
distribution, and retail sales
functions have been separated.
Nonetheless,companies serving
different functions may be
under common ownership.
There is a mix of investorowned utilities (IOUs),
municipally-owned systems,
rural electric coops, and
independent power producers
(IPPs).

The independent system
operator (ISO) dispatches
resources to maintain reliability
and operates markets for
energy and ancillary services

The wholesale market structure
switched from “zonal” to “nodal”
in December 2010.

A Day-Ahead Market also
introduced in December 2010.
5
The Restructured ERCOT Market
ERCOT Competitive Market Participants
Qualified Scheduling Entity (QSE)
Load
Serving
Entity
(LSE)
Aggregator
(Optional)
Customers
ERCOT
Resource
Power
Marketer
(Optional)
Transmission and Distribution Service Provider (TDSP)
NOIEs (Municipality/Cooperative)
Public Utility Commission of Texas (PUCT)
Legend
Key Information Flow
Power Flow
Non-Regulated Organization
Regulated Organization
6
ERCOT Electricity Generation Mix
ERCOT Electricity Generation 2013
Nuclear
11.6%
Wind
9.9%
Coal
37.2%
Hydro,
Biomass,
Other
0.9%
Natural Gas
40.5%
Source: ERCOT
7
Generation Additions in the Early
Years
(Source: PUCT)
8
And, a Lot of Wind Power
(Source: PUCT)
Retailers are
required to sell (or
have credits for) a
minimum
percentage of
renewable power.
And there are
federal tax breaks
for renewables.
es.
9
ERCOT Wind Capacity Installed and
Future Projection
Cumulative MW Installed
14,000
Cumulative Planned (Signed Interconnection Agreement)
MW
12,433
ERCOT Wind Installations
by Year (as of September 30, 2012)
12,000
12,702 12,790
11,542
2,398
2,667
2,755
1,507
The data presented here is based upon
the latest registration data provided to
ERCOT by the resource owners and can
change without notice. Any capacity
changes will be reflected in current and
subsequent years' totals. Scheduling
delays will also be reflected in the planned
projects as that information is received.
10,000
8,000
6,000
9,400
8,916
9,604
10,035
8,005
This chart now reflects planned units in
calendar year of installation rather than
installation by peak of year shown
4,785
4,000
2,875
1,854
2,000
816
977
1,173
1,385
116
0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
Source: ERCOT System Planning Monthly Status Report (September 2012).
10
ERCOT Competitive Renewable Energy
Zones Transmission Projects
Source: PUCT web site at: http://www.texascrezprojects.com/projects.aspx.
11
Yet, Possible Supply Shortages Ahead
Source: PUCT
12
Generation Market Share in ERCOT
(As of December 2006)
Austin Energy
3%
Calpine
7%
CPS Energy
7%
Exelon
3%
All Other
25%
FPL
6%
The ERCOT
market probably
has the highest
supplier
concentration
among all of North
America’s
“competitive”
wholesale markets.
LCRA
4%
TXU
23%
Tenaska
5%
NRG
17%
14
Monthly Wholesale Prices Vary a Lot
Source: Potomac Economics (2012), page ii.
15
Volatile Prices
First graph is an example from August 2, 2011; Price caps are now
$7,000/MWh and will increase to $9,000/MWh next summer. Prices may
differ in different zones, as can be seen in the second graph
3500
Balancing Energy Prices in Various Zones on June 3, 2008
3000
$1,600
$1,400
2500
$ per MWh
$1,200
Dollars per MWh
2000
1500
1000
$1,000
Houston
$800
North Zone
$600
West Zone
$400
$200
500
$0
15 145 315 445 615 745 915 45 15 45 15 45 15 45 15 45
10 12 13 15 16 18 19 21 22
0
-$200
0
20
40
60
80
15-Minute
Interval
100
120
15-Minute Interval
Assessment of Wholesale Market
Performance




The ERCOT ISO has done an
admirable job of preserving
reliability.
There has been some “gaming” by
generators to raise prices. Market
rules have had to evolve to prevent
manipulation of market prices.
Some generators have gone
bankrupt, but this hasn’t affected
the market much (aside from
“credit” problems).
The original “zonal” market design
had some problems. The new
“nodal” market is working better.


Fairly high market concentration in
the generation sector has led to
some market power concerns. Yet,
concerns that prices are actually
too low to attract new investment
has led the Public Utility
Commission of Texas to downplay
such concerns.
Long-term resource adequacy
remains a concern. But the Texas
Commission is addressing this by
allowing wholesale price (really,
offer) caps to increase and better
scarcity pricing. Texas is reluctant
to introduce a “capacity market.”
17
Retail Competition





Over 100 Retail Electric
Providers or ‘REPs’ are serving
customers (including some
industrial energy consumers
that serve as their own REP).
Service areas of investorowned transmission and
distribution utilities offer
customer choice.
Currently, there are 15 to 18
REPs serving residential
customers in the larger service
areas opened to competition.
Three REPs have more than
500,000 customers.
Eight REPs have more than
100,000 customers.
TEXAS
Service Areas Offering
Retail Competition
TXU
TXU
TNMP
TNMP
AEP-North
AEP-North
CNP
Legend
TNMP
AEP – Texas Central Company (AEP-Central)
AEP – Texas North Company (AEP-North)
AEP-Central
CenterPoint Energy (CNP)
Texas Electric Utilities (TXU)
Texas-New Mexico Power Company (TNMP)
March 2003
18
There is Ease of Entry in the Retail
Sector. As well as Acquisitions and
Bankruptcies
Notable Bankruptcies of Texas Retail Electric Providers
Retailer
Texas Commercial Energy
Utility Choice Electric
Ampro
Buy Energy
Franklin Power Company
Blu Power of Texas
Hwy 3 MHP
Sure Electric (Riverway Power
Company)
Pre-Buy Electric
National Power Company
Abacus Resource Energy
EPCOT Electric
Date of Default on
Obligations to
ERCOT
March 6, 2003
2004
2006
2006
June 8, 2005
July 1, 2008
June 3, 2008
June 10, 2008
May 16,
May 27,
February 9,
July 12,
2008
2008
2011
2012
Number of
Affected Retail
Accounts
Unknown
Unknown
Unknown
Unknown
<3,000
2,092
12,222
6,202
8,400
15,163
7,743
5,736
Source: ERCOT web site, various News Releases at: http://www.ercot.com/news/press_releases/ .
And, now the state’s largest retailer, TXU, filed for bankruptcy a month ago.
19
Residential Rates
20
Restructuring has increased the sensitivity of
retail electricity prices to the price of natural gas
(the marginal fuel)
Electricity Generation Price
($/kWh)
Generation Price vs. Natural Gas Price
0.12
0.1
0.08
0.06
0.04
0.02
0
0
2
4
6
8
10
12
Natural Gas Price ($/MMBtu)
21
Demand Response


U.S. FERC: “Demand response is
essential in competitive markets,
to assure the efficient interaction
of supply and demand, as a check
on supplier and locational market
power, and as an opportunity for
choice by wholesale and end-use
customers.”
As electricity markets are
redesigned, stakeholders and
policymakers are challenged with
ensuring that consumers are
presented with accurate price
signals and the appropriate
incentives to react to those prices.

When the demand side is price
responsive:




System operating and investment
costs are reduced when energy
consumers are encouraged to shift
their consumption of electricity from
high price periods to hours when
electricity can be supplied to
consumers at a lower cost.
Prices can go down for all
consumers.
Uneconomical price spikes can be
reduced or avoided.
Market power can be held in check.
22
If we could just magically change
this curve. . . .
2000
Price ($)
1500
Bid C urve
D
D-250
1000
D-500
500
0
0
1000
2000
3000
4000
MWs
5000
6000
7000
8000
Why Demand Curves are Nearly
Vertical





Price caps, preventing prices
from rising to sufficient levels.
Most consumers face (and
want) flat fixed pre-determined
prices.
Need to separately settle and
meter a price-responsive
customer.
Not easy to get price
information.
Prices cannot be perfectly
forecast.

Until recently, the metering
infrastructure didn’t provide
utilities or retailers with the
capability to price electricity
differently during different 15minute intervals or hours to
smaller residential consumers.
The older meters were only
read once a month and the total
consumption of electricity since
the last meter read was all that
could be determined.
24
Steps Taken to Add Some Slope to
the Demand Curve




Prices will soon be allowed to
go has high as $9,000 per
MWh.
Implemented an Operating
Reserve Demand Curve last
month, to enhance scarcity
pricing.
Transmission charges are
based upon the consumer’s
contribution to demand during
four summer month peaks,
providing a strong price signal
during peaks.
Consumers can purchase
energy on a spot market
through a retail electric
provider.



The design of the wholesale
market settlements system
rewards Load-Serving Entities
who can reduce generation
needs during high price periods
(passive load response).
Texas invested over $2 Billion
in advanced meters, so that we
can at least measure how much
energy is used by residential
consumers during 15-minute
intervals.
“Loads in SCED 1.0”
25
Some Success in Promoting Demand
Response in Texas


We’ve been very successful in
allowing “interruptible loads” to
provide an operating reserve or
ancillary service. (See next
slide)
We have an Emergency
Response Service (ERS) to
participating consumers
(mainly, large industrials)
reduce purchases of power
when ERCOT has a reliability
problem.




Some transmission and
distribution utilities (TDUs) offer
“load management programs.”
Some retailers offer special
programs to encourage
consumers to shift their
consumption to off-peak
periods.
Transmission prices encourage
consumers to shift their
consumption away from peak
periods.
Some large energy consumers
buy power based on wholesale
market prices.
Load Resources Providing Operating
Reserves


Large industrial energy
consumers who can withstand
occasional interruptions in their
purchase of electricity with no
advance notice can provide
Responsive Reserves.
About one-half of ERCOT’s
requirements for Responsive
Reserves is met by these
interruptible service customers.
Power plants provide the
remainder.



Offers to provide this service
may be offered into an ERCOTadministered market on a dayahead basis (or “selfarranged”).
A drop in frequency or a verbal
instruction from ERCOT
triggers an interruption.
Over 1,400 MW of load
provides an operating reserve.
Response to 4CP Transmission Prices
Estimated Average Demand Response During a 4CP in 2013
Demand Response from Energy Consumers Served at Transmission Voltage in
Competitive Areas (regardless of their participation in formal programs) (1)
Programs Implemented by NOIEs (2)
Other Load Control Programs activated during a CP
RTP and B&I Programs (incidental impacts during a CP)
Rough Estimate of Other Response not otherwise accounted for (3)
TOTAL
Total MW
250
200
Small
Small
50
500
Notes:
(1) An historical baseline calculation yields an estimate of 251 MW. Regression
analysis suggests a reduction of 201 MW on average over the past 5 years.
(2) Based on a review of savings estimates reported by NOIEs. We have been
unsuccessful in independently confirming these estimates.
(3) This is a conservative estimate based on judgment, to account for response by
industrials with IDRs served at a voltage other than transmission and industrials
within NOIE service areas.
13
Response to a Price Spike
Estimated Demand Response During a Spike in Wholesale Energy Prices in 2013 (1,2)
(For a Load Zone Settlement Point Price above $3,000/MWh)
Total MW
RTP and B&I Programs
Customers with IDR Meters
Customers with AMS Meters
Rough Estimate of Other Response not otherwise accounted for (3)
Load Control Programs Implemented by NOIEs
Peak Load Rebate Programs
TOTAL
180
2
50
200
0.5
432.5
Notes:
(1)
(2)
(3)
There were very few price spikes in ERCOT in 2013 (see Appendix). Consequently, many programs
were not activated and the estimates here do not reflect potential demand reduction.
Methodology: Regression analysis.
This is a conservative estimate based on judgment, to account for response by industrials within
NOIE service areas.
22
Lessons Learned

A competitive generation market can be successfully
operated.
 The information technologies, models, databases, and accounting
systems necessary to coordinate, price, and account for wholesale
power transactions involving numerous generation suppliers in a
reliable manner are available.
 Centralized ISOs or RTOs can preserve reliability as well as system
operators at vertically-integrated utilities.
 Further, there is some evidence that competitive generation markets
have achieved efficiency gains.
 The establishment of a competitive independent power production
sector can shift certain market risks away from consumers, which
may also provide benefits.
 Yet, concerns regarding market power and long-term resource
adequacy are tougher to solve in a competitive market.
30
Lessons Learned

Competition requires considerable centralized
coordination.
 A misnomer, so-called “deregulation,” involves substantial
government involvement in the design of a market and continued
regulatory oversight over many functions.

Market monitoring is necessary.
 Until the perfect wholesale market can be designed – a market
immune to games and loopholes, with vibrant demand response,
and with perfect competition among suppliers – there will be some
need for on-going oversight of supplier pricing behavior and
operational decisions.
31
Lessons Learned

In wholesale markets, market power is often a problem,
particularly if the traditional utility supplier continues to own and
operate a considerable share of the generating capacity.
 Absent some policy restrictions, the incumbent utility providers are likely to
hold some initial market power or an ability to raise and sustain market
prices above the price levels that would be produced by a more
competitive market.
 The restructuring plans of some markets required forced divestiture of
generation assets from the traditional utility supplier.
 Other markets have placed limits on the quantity of generating capacity
that can be owned and operated by a single entity.
 The high costs of storing electricity, inelastic demand, barriers to market
entry and transmission bottlenecks can further limit the number of
generators available to supply electricity to a given area at a given time.
 Consequently, it has been difficult for policy-makers to remove constraints
and safeguards on price-setting in wholesale markets, resulting in price
caps, constraints on bidding behavior, and market monitoring activities.
32
Lessons Learned

More attention must be paid to fostering the response of the
demand side of electricity markets to changes in the cost of
generating, transmitting, and delivering power to the consumer.
 Demand response is essential to success of competitive electricity
markets.
 In markets with relaxed regulatory oversight, demand response
can be used to help constrain prices to economically efficient
levels.
 A small amount of demand response can yield significant
reductions in wholesale electricity prices.
 In the absence of either demand response or a high degree of
competition among suppliers, wholesale price caps and aggressive
market monitoring are necessary
33
Lessons Learned

Given the role of political processes in the design of markets,
reforms tend to include many features that have nothing to do
with fostering competition.
 A lot of social and environmental programs get added into the mix to make
restructuring more palatable to those who are concerned about likely
inequities.
 Thus, it is quite common for restructuring policies to include goals for
energy efficiency, renewable energy, low-income family assistance, and
compensation to any party that might be adversely affected by the policy
change.
34
Lessons Learned

There is no guarantee that restructuring will result in lower
prices to consumers.
 Restructuring induces a fundamental reorganization of the industry and
introduces expensive new activities and functions that are not required of
vertically-integrated utilities.
 Given the economies of scope traditionally associated with this industry, it
does not necessarily follow that a non-integrated series of markets and
regulated monopolies can meet consumers’ needs better than a verticallyintegrated utility.
 However, high prices are not an inevitable consequence of restructuring.
 Market restructuring has tended to increase the sensitivity of retail
electricity prices to changes in the price of natural gas, the marginal fuel
used for generation in many regions. In contrast, price changes in
regulated utility service areas tend to reflect the utilities’ average fuel costs
(as opposed to marginal wholesale power costs). Give me a forecast of
gas prices, and I’ll tell you what market structure will have lower prices.
35
Lessons Learned

Efficiency benefits appear to be showing up at wholesale level,
but are not obvious at the retail level.
 It is not yet clear whether the creation of a competitive retail sector
adds sufficient value to the industry, relative to the increased costs
and confusion associated with retail competition.
 Retailers incur costs for customer recruitment activities and the
market bears considerable costs in order to switch consumers
between retailers and track which retailers are serving which
consumers.
 Retail competition can leave consumers confused.
36
Lessons Learned

Innovation is occurring, but we are seeing a lot of innovation in
re-regulated and traditional markets as well.
 In competitive retail markets, retailers seek to differentiate
themselves based on pricing options (e.g., spot market pricing,
new billing options, and hedging mechanisms) and added services
(e.g., energy efficiency services and coupons for discounts on
other products).
 Yet, much of the innovation in pricing has been coming from
California, a state where re-regulation was imposed.
 And it has been difficult for retailers to provide consumers with new
metering equipment, in-home networking equipment, load control
capabilities, and other advanced equipment when there is a
probability that the equipment will become stranded if the
consumer switches to a different retailer in the future.
37
Lessons Learned

It is not clear how to ensure long-term resource adequacy.
 Monopoly providers of electricity have a responsibility for ensuring
that adequate resources are available to meet the demand for
electricity over the long run.
 But in a competitive market with entry and exit, there is not a single
generator or market participant to which such responsibility can be
assigned.
 The approaches being tested range from the “energy-only”
approach of letting the forces of supply and demand resolve the
problem (in Australia and Texas) to requiring load-serving entities
to hold a sufficient quantity of tradable capacity credits (in the New
York, MISO, and PJM markets).
 It is not yet clear whether either of these solutions will work.
38
Lessons Learned

IT requirements are enormous.
 The high degree of coordination required of competitive wholesale
markets requires a daunting amount of information and data
processing capability.
 The failure to fully appreciate and implement the systems
necessary to track “who is serving who” and billing information
created chaos following the introduction of retail choice in Texas
and other restructured retail markets.

There are stages in the evolution toward a competitive market.
 Competition is always introduced in stages, for good reason.
 Markets are designed, and flaws in the initial design must be
recognized and corrected.
 Joskow refers to this as the “reform of the reforms.”
 As the market develops and competition becomes more prevalent,
safeguards such as price caps may be relaxed.
39
Lessons Learned

Retail prices must be free to adjust to wholesale prices.
 Not only can pricing constraints place financial stress on a retailer,
they prevent consumers from seeing the true cost of power.
 Constraints on retail prices may remove any conservation signal
from prices during high fuel costs or resource adequacy, resulting
in over-consumption.

The need for both bilateral contracts and a spot market.
 California’s experience with a Power Exchange suggests that
requiring all power to be bought and sold through a spot market
introduces extreme volatility into markets. Load-serving entities
are unable to hedge risks.
 The Nordic market and others that are dominated by bilateral
contracts, with a smaller real-time market to address imbalances
and some form of a day-ahead market, tend to be more
sustainable.
40
Lessons Learned

Ultimately, the fate of restructuring is in the hands of politicians
and policy makers.
 The design of markets is a political process and some market
participants have greater influence over the political process than
others.
 For electricity markets to succeed, policy makers must make longterm commitments to policy directions.

There is no one single successful blueprint.
 Each region which has pursued restructuring has approached it
with its own unique legacy infrastructure, needs, customer mix,
and traditional regulatory or government policies.
41
Some of my papers on this topic. . .










“The quest for competitive electricity markets,” LBJ Journal of Public Affairs, 2008.
“A review of efforts to restructure Texas’ electricity market,” Energy Policy, Vol. 33(1), 2005, pp.
15-25.
“Did the introduction of a nodal market structure impact wholesale electricity prices in the Texas
(ERCOT) market?” Journal of Regulatory Economics. Vol. 45(2), 2014. With C.K. Woo and Ross
Baldick.
“The response of large industrial energy consumers to four coincident peak (4CP) transmission
charges in the Texas (ERCOT) market,” Utilities Policy. With Dan Thal.
“Texas electricity market: Getting better,” Evolution of Global Electricity Markets: New paradigms,
new challenges, new approaches, ed. P. Sioshansi, Elsevier, 2013. With Parviz Adib and Ross
Baldick.
“Demand participation in the restructured Electric Reliability Council of Texas market,” Energy -the International Journal. 2009.
“Aggregate consumer response to wholesale prices in the restructured Texas electricity market,”
Energy Economics. Vol. 30(4), pp. 1798-1808, 2008. With Ian Hallett.
“Integrating demand response into restructured wholesale markets,” in Competitive Electricity
Markets: Design, Implementation, and Performance, edited by F. P. Sioshansi, Elsevier, 2008.
“Using demand response programs to provide operating reserves in wholesale power markets.”
US Energy Association’s Dialogue, 2006.
“A look inside the most successful restructured electricity market in North America: Texas,”
IAEE 29th Annual International Energy Conference Proceedings, Potsdam, Germany, 2006.