Electricity Industry Center
Carnegie Mellon University
Understanding the Effects of Restructuring
Jay AptCarnegie Mellon University
Electricity Industry Center
Carnegie Mellon University
1960 1970 1980 1990 2000
1000
2000
3000
4000
5000
6000
7000
no
il
li
Bh
Wk
1960 1970 1980 1990 2000
1000
2000
3000
4000
5000
6000
7000
no
il
li
Bh
Wk
U.S. Net Electric Generation
7¾ % / year 70 B kWh / year(10,000 MW/yr)
Electricity Industry Center
Carnegie Mellon University
Adjusted for inflation
Electricity Industry Center
Carnegie Mellon University
Electricity Industry Center
Carnegie Mellon University
Electricity Industry Center
Carnegie Mellon University
Net Result to Date:
• Industrial prices have not declined, except when ordered by regulators
• Investment dead in the water – capacity additions needed in some places – Regulated Southeastern US has many fewer problems
• Exercise of market power (California)
Electricity Industry Center
Carnegie Mellon University
EIA Form 826 (monthly)
450 Large utilities and energy service providers
Approximately 70% of sales
Electricity Industry Center
Carnegie Mellon University
EIA Form 861 (annual)
3,300 Utilities
1,600 IPPs
Schedule A: Vertically Integrated Utilities
Schedule B: Power Marketers
Schedule C: Distribution Companies
A + B
= C ?
Electricity Industry Center
Carnegie Mellon University
Electricity Industry Center
Carnegie Mellon University
Electricity Industry Center
Carnegie Mellon University
Frequencies Present in Maryland Industrial Price Data
0
1
2
3
4
5
0 0.05 0.1 0.15 0.2 0.25 0.3 0.35 0.4 0.45 0.5
Frequency (cycles per month)
Po
wer
12 months 6 months 4 months 3 months 2.4 months
Electricity Industry Center
Carnegie Mellon University
1990 91 92 93 94 95 96 97 98 99 2000 01 02 03 04
3.5
4
4.5
5
5.5
6
6.5
stne
Cre
ph
WkMaryland Industrial
Electricity Industry Center
Carnegie Mellon University
Electricity Industry Center
Carnegie Mellon University
Residential
Commercial
Industrial
Electricity Industry Center
Carnegie Mellon University
Residential
Commercial
Industrial
Electricity Industry Center
Carnegie Mellon University
1990 91 92 93 94 95 96 97 98 99 2000 01 02 03 04
4
6
8
10
12
stne
Cre
ph
WkWestern Industrial
WA
OR
NV
AZ
CA
CA
NV
AZ
WA
OR
Electricity Industry Center
Carnegie Mellon University
1990 91 92 93 94 95 96 97 98 99 2000 01 02 03 04
4
6
8
10
12
stne
Cre
ph
Wk
Southern Industrial
SCAL
MS
GAFL
Electricity Industry Center
Carnegie Mellon University
1990 91 92 93 94 95 96 97 98 99 2000 01 02 03 04
4
6
8
10
12
stne
Cre
ph
WkNew England Industrial
VT
NH
CTMA
RI
RI
MACT
NH
VT
Electricity Industry Center
Carnegie Mellon University
1990 91 92 93 94 95 96 97 98 99 2000 01 02 03 04
4
6
8
10
12
stne
Cre
ph
Wk
Gas Generation States Industrial
OK36%TX51%LA50%MA38%RI89%
Electricity Industry Center
Carnegie Mellon University
1990 91 92 93 94 95 96 97 98 99 2000 01 02 03 04
4
6
8
10
12
stne
Cre
ph
Wk
Rhode Island and Maine Industrial
ME60%RI89%RI
ME
Electricity Industry Center
Carnegie Mellon University
-25%
-20%
-15%
-10%
-5%
0%
5%
10%A
nn
ua
l In
du
str
ial
Pri
ce
Ch
an
ge
Before
After
Electricity Industry Center
Carnegie Mellon University
0.0%
-0.6%
-1.3%
-0.7%
0.8%
-1.3%
-0.7%
1.0%1.3%
-1.8%
2.5%
-0.8% -0.8%
0.3%
-5%
0%
5%
An
nu
al
Ind
us
tria
l P
ric
e C
ha
ng
e
Before
After
Electricity Industry Center
Carnegie Mellon University
0.4%
0.0%
0.9% 0.8%
0.4% 0.3%
1.8%2.1%
-1.7%
2.0%
0.5%
1.7%
-5%
0%
5%
An
nu
al
Ind
us
tria
l P
ric
e C
ha
ng
e
Before
After
Electricity Industry Center
Carnegie Mellon University
Correlation of Restructuring with Industrial Price Changes
-25%
-20%
-15%
-10%
-5%
0%
5%
10%
Regulated Restructured
An
nu
al R
ate
of
Ch
ang
e A
fter
- B
efo
re
Electricity Industry Center
Carnegie Mellon University
“The whole electric history of New York points [out] the futility of competition…It is coming to be generally recognized that monopoly control of electric light, heat and power may be very beneficial to the public if one company or the few non-competing companies can be placed under such public regulation and control as will secure for the public a fair share in the many benefits arising from unified management. That competition cannot be depended upon to protect the consumer from high prices and poor service has been fully demonstrated.”
- New York Public Service Commission, 1908
Electricity Industry Center
Carnegie Mellon University
Gains from USA Restructuring• Labor efficiency: watt-hours per employee up 60%
350,000
375,000
400,000
425,000
450,000
475,000
1985 1987 1989 1991 1993 1995 1997 1999 2001
USA electric services employeesUSA 109 watt-hr/employee
5
6
7
8
9
10
11
1985 1987 1989 1991 1993 1995 1997 1999 2001
Electricity Industry Center
Carnegie Mellon University
BWh per employee
0
2
4
6
8
10
12
1950 1960 1970 1980 1990 2000
Electric Services Employees (thousands)
0
50
100
150
200
250
300
350
400
450
500
1950 1960 1970 1980 1990 2000
Is this a result of restructuring?
| Technology Improving? |Nukes? EPA? | Restructuring? |
Electricity Industry Center
Carnegie Mellon University
• “…quite frankly, the electricity blackout last August, the Enron scandal and the problems in California have thrown some cold water on the move toward deregulation. At this point it could go either way…”
– U.S. Rep. Zach Wamp, R-TN as quoted in Chattanooga Times/Free Press, Jan. 15, 2004
Electricity Industry Center
Carnegie Mellon University
September 3, 2006 - Chicago Tribune - By Robert Manor
"This whole system is set up to create the illusion of competition when there is no competition," said David Kolata, executive director of the Citizens Utility Board. "No matter who you are, in some way you are going to have to be buying your power from Exelon." …"The electricity auction will not save money for consumers; it will generate windfall profits for Exelon, ComEd's parent company," Illinois Atty. Gen. Lisa Madigan said Friday. "That's not fair, and it is not what the General Assembly intended when it authorized deregulation in 1997."
Electricity Industry Center
Carnegie Mellon University
Large customers were thought to be the beneficiaries of restructuring
• They have the option to purchase power in bilateral contracts through RFP / direct negotiation for block purchases; they can become their own load-serving entity and buy in the wholesale market. They are getting killed.
0
2
4
6
8
10
12
0 6 12 18 24
Hour of the Day
cent
s pe
r kW
h
5/18/2005
5/19/2005
Spot vs. long term
Electricity Industry Center
Carnegie Mellon University
Restructuring and natural gasMonthly Natural Gas Citygate Price
and consumption of natural gas for electric power generation
-
2
4
6
8
10
12
14
16
1990 1992 1994 1996 1998 2000 2002 2004 2006
$ p
er
mc
f
-
1
2
3
4
5
6
7
TC
F u
sed
fo
r e
lec
tric
ity
Consumption for Electricity
Natural Gas Price
Electricity Industry Center
Carnegie Mellon University
Why Prices Have Not Fallen – And Are Unlikely to Fall
Electricity Industry Center
Carnegie Mellon University
Restructuring Has Increased Costs of Supplying Electricity to the Customer
• Paying market clearing prices
– starves peakers
– over-compensates base load
Electricity Industry Center
Carnegie Mellon University
Electricity Industry Center
Carnegie Mellon University
Electricity Industry Center
Carnegie Mellon University
Restructuring Has Increased Costs of Supplying Electricity to the Customer
• Industry interest rates are considerably higher: Median investor-owned utility rated A in 1999, BBB in 2005.
• Median public power still rated A.
Electricity Industry Center
Carnegie Mellon University
Effects on a capital-intensive industry
• For new coal plant, capital is 67-92% of total costs (number of operating hours/yr)
• Deregulation increases uncertainty => investors demand higher ROI – from 10 to 15% ROI => cost up 1-6 cents/KWh to 75-95% of total cost
Electricity Industry Center
Carnegie Mellon University
Restructuring Has Increased Costs of Supplying Electricity to the Customer
• RTO / ISO costs are considerable– The California ISO cost $1 billion to set
up and its budget is nearly $200 million per year
– The budget for PJM is nearly $250 million per year
Electricity Industry Center
Carnegie Mellon University
Restructuring Has Increased Costs of Supplying Electricity to the Customer
• ‘Unleashed tigers’ invested in foreign companies, built IPP, started new ventures – with almost uniformly bad results
• A few companies have prospered
Electricity Industry Center
Carnegie Mellon University
Future Environmental Challenges
•Mercury & stricter NOx & PM 2.5 regulations challenge beleaguered companies.•Uncertainty over when CO2 regulation will begin and how stringent it will be.•Uncertainty over application of NSPS to old plants.
Rate of return regulation handled environmental uncertainties better
Electricity Industry Center
Carnegie Mellon University
NOx
Electricity Industry Center
Carnegie Mellon University
Restructuring Effects
• Threat of competition has (probably) reduced work force and eliminated some bad projects
• Cost of capital has increased• Natural gas generation construction boom• Companies have slashed R&D• Problems with RTO: Valuing assets, devising
operating rules & pricing• Companies have been reluctant to give up
transmission, a strategic asset
Electricity Industry Center
Carnegie Mellon University
Net Result to Date:
• Prices have not declined, except when ordered by regulators
• Investment dead in the water – capacity additions needed in some places – Regulated Southeastern US has many fewer problems
• Exercise of market power (California)
Electricity Industry Center
Carnegie Mellon University
Eliminating Market Power
• Have price caps & force generators to offer power at variable cost when demand is high
• Build more generation
• Build more transmission
• Break up firms to keep them small
• Change structure: Eliminate hourly auctions
Electricity Industry Center
Carnegie Mellon University
Price Caps
Current FERC regulations:
• Price caps to keep price in control
• Require pivotal firms to offer electricity at variable cost when demand is high
• Firms could never cover their fixed costs and so no future investment
Electricity Industry Center
Carnegie Mellon University
Build more generation
• Building enough generation to prevent pivotal duopoly adds considerable costs
• Doubtful that deregulation would lower costs/prices if extra capacity built
Electricity Industry Center
Carnegie Mellon University
Build More Transmission
• New transmission expensive & hard to site
• Works only if there is surplus power to control market power in home market.
• Throughout the East, peak demands are highly correlated.
• In the West, some sharing possible between NW and CA
Electricity Industry Center
Carnegie Mellon University
Break up firms to limit size
• Are there economies of scale in management? Would a firm as small as one generator be efficient? Safe? Reliable?
• Some data on nuclear reactors indicate that when Excelon and Duke operated large number of nuclear plants availability went way up.
Electricity Industry Center
Carnegie Mellon University
Necessary Conditions for Deregulation to Work
• Competitive markets (not a synonym for free markets!)• Build much more transmission• Allow long-term (life of plant) contracts• Need real-time pricing for large customers• Rationalize capacity markets• Complete markets (regulation, reactive power)• Lower investor uncertainty
Deregulation is unlikely to lower prices anytime soon
Electricity Industry Center
Carnegie Mellon University
Why not reform Regulation?
• Can PUC monitor investments and operations to ensure efficiency?
• PUC members are generally not industry experts• Few have business/electricity expertise• Focus on equity, not efficiency• Don’t have full information• Conclusion: Could do better, but regulation is
inherently a blunt instrument
Electricity Industry Center
Carnegie Mellon University
Electricity Industry Center
Carnegie Mellon University
Deregulation Hurdles
• Immediate effect of deregulation is higher costs & higher prices due to:– Dereg increases uncertainty in a capital
intensive industry - Investors want higher ROI– Auctions pay market price, not AC of each unit– Utility management is challenged - and fails– Utility restructuring costs – mergers, etc.– New Regulatory costs – ISO, RTO, etc.
• Long term dynamics may bring down prices but short-term effects are higher prices
Electricity Industry Center
Carnegie Mellon University
For more information
http://aem.cornell.edu/research/researchpdf/wp0514.pdf#search=%22%22WP%202005-14%22%20Mount%22
The Electricity Journal, 2005. 18(2): 52-61
Electricity Industry Center
Carnegie Mellon University
Thank You!
Jay Apt
www.cmu.edu/electricity