Political Economy of Regional Political Economy of Regional Power MarketsPower Markets
TestingTesting Times in the Nordic Power Times in the Nordic Power MarketMarket
bybyKjell RolandKjell Roland
Energy Lecture May 11, 2005Energy Lecture May 11, 2005
ECON
AgendaAgenda
TheThe unique Scandinavian storyunique Scandinavian story
Regulation by Regulation by court court or by or by common sensecommon sense
Restructuring Restructuring and and company strategiescompany strategies
InvestingInvesting to to secure supplysecure supply
An overstretched An overstretched policy policy agendaagenda
Future of Scandinavia Electricity IndustryFuture of Scandinavia Electricity Industry
The unique Scandinavian storyThe unique Scandinavian story
1991 1996 1995
1998
199619981999-2000
Unleashing competitionUnleashing competitionWhole sale to end user price pass through
Spot market and household prices, Norway
0
10
20
30
40
50
60
70
80
90
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002
€/M
Wh
(200
1)
Full
reta
il co
mpe
titio
n
Source: ECON
End-user priceto households
Nord Poolspot price
Statkraft whole-saleprice Li
bera
lisat
ion
Marginal cost versus Nord Pool prices
0
10
20
30
40
50
0 10 20 30 40 50 60 70GW
€/M
Wh
(200
1)
Heat
Coal condensation
Oil condensation
Gas turbines
Installedcapacity
Averagecapacity
Source: ECON/Nord Pool
Hydro Nuclear
Unleashing competitionUnleashing competitionCut-throat competition: p = mc
Explaining the successExplaining the success
• Diversified and complementary portfolio of generating assets
• Nordel: Long tradition of cooperation across borders incl common pool from 70s
• Public ownership – Slow restructuring of industry – Fragmented industry – No stranded costs, flexible and adaptive
regulatory systems– Strong government owned TSOs
Half way to success Half way to success ……..
.. or at the end of the easy part?• Regulation – increasing in scope and
complexity?• Investment and capacity crunch?• Restructure or be structured?• Regional market, but national regulations and
institutions?• Inconsistent and overstretched policy agenda?
AgendaAgenda
TheThe unique Scandinavian storyunique Scandinavian story
Regulation by Regulation by court court or by or by common sensecommon sense
Restructuring Restructuring and and company strategiescompany strategies
InvestingInvesting to to secure supplysecure supply
An overstretched An overstretched policy policy agendaagenda
Future ofFuture of ScandinaviaScandinavia Electricity IndustryElectricity Industry
Regulation byRegulation by courtcourt or byor bycommon sensecommon sense
Regulation: A Regulation: A movingmoving target target
• We know what not to do:– Copy the US experience or move back to
selfregulated European utilities
• We do not know the end game, but how to move towards it:– A flexible, adaptive and pragmatic search
for robust and roughly optimal systems
Market Market needs regulationneeds regulation
Regulation of network monopolies
Competitionand structure
System design
Market
Borders of regulation
Borders of regulation
Liberalisation require a lot more, not less, regulation and put new strains on policy making
Cos
t effi
cien
cy
Model of monopoly regulation
Self regulationand public ownership
Rigid cost based regulation
Incentive regulation
Pre-reform expectations
Start of sliding
Efficient monopoly regulation?
European incentiveEuropean incentivess degeneratdegeneratee
TheThe challengeschallenges
• Can we avoid US-style legalistic, rigid and detailed regulation?
• Are regulators able to handle the complexity of system design? And willing to co-operate across borders?
• Can the political system cope with the increased political risk of a regulated and competitive electricity system?
AgendaAgenda
TheThe unique Scandinavian storyunique Scandinavian story
Regulation by Regulation by court court or by or by common sensecommon sense
Restructuring Restructuring and and company strategiescompany strategies
InvestingInvesting to to secure supplysecure supply
An overstretched An overstretched policy policy agendaagenda
Future ofFuture of ScandinaviaScandinavia Electricity IndustryElectricity Industry
Structural changeStructural change andandcompany strategiescompany strategies
Risk manage-
ment
Trade
Retail
Projectfinance
Assetdevelop-
ment
Asset manage-
ment
Fuel procure-
ment
Energy services
Branding
IT
Billing
Metering
Integrated utility
IT
Billing
Retail
Energyservices
Assetdevelop-
ment
Asset manage-
ment Risk manage-
ment
Projectfinance
Branding
Fuel procure-
ment
Trade
Metering
Retailer
Assetentrepreneur
Niche player
Producer-retailer Network
company
Disaggregation
Phase I: DisaggregationPhase I: Disaggregation ofofvalue chainvalue chain
PVO
ScandinaviaScandinavia
• National champions again attractive
• Pan-Nordic strategies• High degree of public
ownership – still highly commercial
Private ownership
Municipal ownership
State ownership
The strategyThe strategy ofof choicechoice
Back to square one!• Vertical integration • Gas & Power - if possible• Across borders to diversify
regulation risks• Energy Intensive Industry: The
complete U-turn
AgendaAgenda
TheThe unique Scandinavian storyunique Scandinavian story
Regulation by Regulation by court court or by or by common sensecommon sense
Restructuring Restructuring and and company strategiescompany strategies
InvestingInvesting to to secure supplysecure supply
An overstretched An overstretched policy policy agendaagenda
Future ofFuture of ScandinaviaScandinavia Electricity IndustryElectricity Industry
InvestmentInvestment and and continuitycontinuity ofof supplysupply
IsIs therethere a problem?a problem?
Liberalization with surplus capacity works – but when surplus capacity has eroded …
• Will a pure energy market ensure efficient investment– or are special mechanisms needed?
• Will volatile and high prices attract political/regulatory interventions that distort market price signals?
• Is electricity different from other commodities?– Long lead-times in new capacity– Environmental externalities– Balance market in real-time– Physical constraints & interdependence
PricesPrices-- towards towards full full costscosts? ? Text book perception: Market based prices gravitate around full costs
Textbook expectations Time
Pric
e
Source: ECON
Historical prices
Assumed trend towardslong run marginal cost
Assumed long run marginal cost
... or ... or commodity price cyclescommodity price cyclesStrong cyclical price patternsInvestment booms and busts
Commoditymarket
Price
Time
Cost of new capa-city
Turn in business cycleSurplus capacityInvestment
boom
Investmentbust
Turn in business cycle Capacity deficit
Investmentbust
Investmentboom
Market Market priceprice & & investment costinvestment costInvestment in CCGT unprofitable in Scandinavia • CCGT was profitable in UK, but prices have declined
0
10
20
30
40
50
60
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001
2001
€/M
Wh
2001 Cost of CCGT in Sweden and Denmark, gas price range 12.0 - 15.7 €/sm3
2001 Cost of CCGT in Norway 2001, gas price range 8.2 - 10.2 €/sm3
UK
Nord Pool
Market for Market for securitysecurity ofof supplysupplyMarket left alone
No investment for securityOptions include:
– Pure energy markets– Capacity payments– Reserve markets– Capacity markets (ICAP)– Enhanced demand side participation
Tinkering with the system – hard to fine tune
ProspectsProspects for for investmentinvestment
• Living with the market– Accept cyclical & higher prices– Introduce special mechanisms
• Taming the market– Integration to internalise investment risks– Anti-competitive implications
• Politically controlled market– Government ownership to mandate investment– Subsidise green power– New transmission interconnectors
AgendaAgenda
TheThe unique Scandinavian storyunique Scandinavian story
Regulation by Regulation by court court or by or by common sensecommon sense
Restructuring Restructuring and and company strategiescompany strategies
InvestingInvesting to to secure supplysecure supply
An overstretched An overstretched policy policy agendaagenda
Future ofFuture of ScandinaviaScandinavia Electricity IndustryElectricity Industry
An overAn over--stretched stretched policy policy agendaagenda
An overAn over--streched streched policy agendapolicy agenda
• Three primary objectives:– Efficiency/low prices– Security of supply– Environment
BUT the objectives are conflicting• Energy policy: A conflicting story about
trade-offs and compromises– Last decade: easy due to liberalisation and
excess capacity– This decade: expected to be more of a problem!
ThThe e energyenergy policy policy triangle triangle
EnvironmentEnvironment
SecuritySecurity EfficiencyEfficiencyElectricity
sector
Market stabilityand robustness
Geopoliticalinstability
Competition
Monopolyregulation
Natureconservation
Climatechange
Airpollution
The electricity sector: squizeed in the trade-off between three important but conflicting goals
Long waves in energy policyLong waves in energy policy
Energy policy - invented in the 70s• Ever since – a continous fight be on top of the
agenda
1970 1980 1990 2000
Local air pollution
Acid rain
Deregulation Climate change
OPEC I and II
Moment ofMoment of thruththruthLow prices - secure supply - environment
• Even modest demand growth challenge emission targets
• Energy - to expensive for the poor and industries, to cheap for the environment
• Security of supply needs regulation –mandatory diversification of technology/fuels – or market friendly policy instruments?
Something has to give!
Future of the Future of the Scandinavian Scandinavian Electricity Industry Electricity Industry
Drivers for Drivers for changechange::
• Investment & prices– A tightening market
• Corporate strategies– National champions & super-utilities
• Regulation & policy– Kind of state intervention
ThreeThree scenarios for 2010:scenarios for 2010:
Polinavia• Governments
intervene
• National orientation
EnvironmentSecu
rity o
f sup
ply
Efficiency
Marginavia• Structural
changes
• European integration
EnvironmentSecu
rity o
f sup
ply
Efficiency
Cyclinavia• Living with the
market• Pan-Nordic
orientation
EnvironmentSecu
rity o
f sup
ply
Efficiency
Average wholesale pricesAverage wholesale prices
Average scandinavian wholesale prices in the scenarios
-
5
10
15
20
25
30
35
40
45
50
2002 2003 2004 2005 2006 2007 2008 2009 2010
€/M
Wh
Polinavia
Cyclinavia Marginavia
Source: ECON
ExpandingExpanding generating capacitygenerating capacity
Cumulative new investments in the scenarios
-
10
20
30
40
50
60
7020
02
2004
2006
2008
2010
2002
2004
2006
2008
2010
2002
2004
2006
2008
2010
TWh
Source:ECON
Cyclinavia
Polinavia
Marginavia
Hydro
Biofuel
Gas
Wind
Political economy of the Political economy of the Nordic regionNordic region
Present Nordic Challenges: • Energy/environment policy hard to move beyond nation
states• - and politics wants far more than what is feasible, (some)
politicians understand but are not able to cope. NIMBY between governments the easy way out
• Investment in capacity – politically controlled in detail, and no commercial options attractive at the present
• Peak capacity – how to modify a pure energy market• Energy intensive industries down the drain?• Co-ordination of regulators and TSO’s – not easy
• US – the mother of regulation of infrastructure industries, so far not the star performer• The EU IEM benchmark report: not much competition 15 years after the first White Paper• European Energy Intensive industries and households: what happend to those who promissed increasing efficiency and lower prices?• Security of supplies - not provided by the market but needs to be regulated into the market
Liberalisation: Liberalisation: What have we learned?What have we learned?
Not just another commodity• Competition in electricity – not a natural point
of gravity, but a very demanding regulatory and policy proposition
• Reliability and security of supply – a must far more important than market
• Policy agenda complicated and inconsistent, and market based electricity not on top of agenda any more
• Market based electricity - not a unique/ well defined animal, but varies between countries and over time
InsightsInsights: system design: system design• Pragmatic, adaptable and flexible
regulatory regime - no perfect solution exist but avoid the US legalistic approach
• Investment – the Nordpool set up overemphasise operational efficiency in a mature system, more attention needs to be paid to secure investment and bying down investors risks
• Regional co-operation between vertically integrated unbundled government owned utilities much easier to set up and far more robust than the energy only Nordpool in an unbundled environment
TheThe questionquestion is not market is not market -- orornot market,not market, but what kindbut what kind of of -- and and how muchhow much marketmarket
What kindWhat kind of market?of market?
Open access pool
Energy market +Uplift
Energy +capacity markets
Closed shop pool
Nordel
GERMANY
PJM
UKCHILE
ARGENTINA
UK
GERMANYNORD-POOLCALIFORNIA
Wholesale
Retail
California
Service area Access tolarge ustomers
Access tobundled
commodity
Access to pureenergy market
