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The Changing Face of Electric Industry in the U.S. And Around the World. Yogesh Kulkarni Engineering Management Department http://www.umr.edu/~yogesh Agenda What Is Deregulation. Pre-deregulated Electric Industry. Restructured Electric Industry. Competitive Market Mergers and Acquisitions

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The changing face of electric industry in the u s and around the world l.jpg

The Changing Face of Electric Industry in the U.S. And Around the World.

Yogesh Kulkarni

Engineering Management Department

http://www.umr.edu/~yogesh


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Agenda Around the World.

What Is Deregulation.

Pre-deregulated Electric Industry.

Restructured Electric Industry.

Competitive Market

Mergers and Acquisitions

California Crisis

Key Issues in Transition to Deregulation


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What Is Deregulation? Around the World.

Transition of:

Customers from a monopoly to a free market.

Companies from a regulatory to a competitive market.

Provide Incentives for:

Customers to shop wisely to get a better product at less Cost.

Companies to expand their horizons and service offerings without any regulated boundaries.


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Various Deregulated Industries Around the World.

1978: U.S. Airline Deregulation Act

1978: National Gas Policy Act

1980: Deregulation of U.S. Savings and Loan, Trucking, and Rail Passenger Industries

1982: Bus Regulatory Reform Act

1983: Cable Communications Policy Act Deregulates Cable TV

1989: Natural Gas Wellhead Decontrol Act

1990: Privatization of British Electricity Grid


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1992 Around the World.: National Energy Policy Act Lays Foundation for Wholesale Electricity Deregulation

1992: Cable TV Deregulated

1996: Telecommunications Act

1996: FERC Order 888 Gives Non-utility Generators Open and Equal Access to the Transmission Grid

1998: By Joint Decision All European Members (EU) Required to Open Their National Telephone Networks to Competition

2001: European Commission Directive Requires All EU Member Countries to Open Electricity Grids to Competition by January 2005


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Electric Industry Around the World.

Generation of Electricity

Producing electricity.

Delivering power to the interconnected grid at the required voltage level.

(Gas Turbines/ Coal Fired/ Hydro/ CCGT)

Transmission of Electricity

Transporting electricity

High voltage from Generators to the Local Distribution System.


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Electric Industry Around the World.

Distribution of Electricity

Delivering electricity at low voltage.

Transmission System to the end-use customer.

Customer Service

Metering and Billing the end-user consumer.


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Restructured Electric Industry Around the World.

Depending on the market structure, the restructured industry will broadly consist of the following entities:

Generator company (GENCO)

Produce electricity.

Sell in the competitive market.

Currently they are the part of the vertically integrated utility.

They will be completely independent of any other utility functions.


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Restructured Electric Industry Around the World.

  • Transmission Owning Utility (TOU)

    Own transmission facilities.

    Currently transmission facilities are also owned by utility companies.

  • Independent System Operator (ISO)

    Operate a regional network of transmission facilities.

    Not own those facilities.

    It will be independent of the utilities.

    Utilities will not be able to control the operations of ISO.

    ISO will also make sure the impartial access to transmission facilities for all Gencos.


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Restructured Electric Industry Around the World.

  • Local Distribution Utility (LDU)

    Own the distribution wires.

    Provide distribution wires services to the end use customers.

    It may also provide customer services.

    It may provide certain limited generation services.

    Services will be provided to the customer at regulated rates.

  • End – use consumers.

    Ultimate users of electricity.

    Industrial, commercial, residential that can be served by any number of alternative providers (Gencos).


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Restructured Electric Industry Around the World.

  • Retail Electric Provider (REP)

    Retail sellers of the electricity to end-use consumers.

    REP will buy and procure electricity from Gencos.

    It will arrange for the transmission of electricity with either TOU’s or the ISO’s.

    In certain market structures REP’s may be allowed to provide customer services.

    REP will be a separate entity from that of the LDU, if a vertically integrated utility chooses to be an REP.


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Restructured Electric Industry Around the World.

  • Poolco

    Operate in a regional competitive market for generation.

    It will have the responsibility and authority for commercial terms for all transactions within the region.

    Sales and purchases of power through the Poolco are mandatory.


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Restructured Electric Industry Around the World.

  • Power Exchange (PX)

    Operate in a regional competitive market for generation like Poolco.

    It will have the responsibility and authority for maintaining a spot market for the electricity in the region.

    Sales and purchases of power through the PX are optional.


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Commercial Arrangements Around the World.

Transmission Co

Distribution Co

Generation Co

Suppliers

Customers


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How Will It Work ? Around the World.

Producers can only obtain a fair market price for their energy.

If price is too high, wholesalers/customers will seek alternative arrangements.

Transmission of electricity will be a natural monopoly.

Price of transport is likely to be directly controlled by regulation.

ISO/RTO will make sure that the market is functioning smoothly.


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Competitive Market Around the World.

Spot prices will be volatile depending on the availability of the raw material required to produce power.

Bilateral agreements on prices over a period will be executed.

Forward/future/option contracts will be employed in due course of time.

Average prices will reduce over a period of time.

Average prices will stay just above marginal costs.


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Factors Affecting Wholesale Prices Around the World.

Market Control

Single or very few participants make the market oligopolist.

It places power in hands of very few players.

It may cause a rise in prices of power in the market.

Fragmented market will cause the prices to fall towards marginal costs.

One pricing pattern develops in a more interconnected market than the other.


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Factors Affecting Wholesale Prices Around the World.

New Entrant Prices

Incumbent generators are in a strong position if new entrants have higher prices.

Prices tend to fall if new entrant prices are lower.

Then, the existing players have 3 choices:

Reduce Prices to Retain Market Share.

Maintain Prices and Be Resigned to Loss of Market Share.

Ask for State Protection.


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Factors Affecting Wholesale Prices Around the World.

Marginal Costs

Marginal costs are attained in a highly fragmented market.

Different marginal costs will exist for regions with weak interconnection.

Marginal costs are determined by marginal fuel prices.

Fuel mix used in a particular region will decide the marginal prices for that region.

In a competitive market, a plant at margin sets the prices.


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Reliability Concerns

Simple theory of Supply - Demand

Rise in demand rises prices.

Good prices attract new suppliers.

Thus, supply problem should not be an issue.

Problems in the theory:

Long lead times for large power station development.

High cost of storing electricity.

Low price elasticity as a result of prevailing metering systems.


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Mergers and Acquisitions

Mergers of Gencos adds to share holders value.

In the competitive market the utility functions are segregated.

Generation is competitive.

Mergers can achieve cost savings.

Benefits of Scale

And

Benefits of Size

Mergers should not give a market power to resultant entity.


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Benefits of Scale and Size

Benefits of scale can be achieved by saving in following areas:

Procurement

Head Office Costs

Marketing

Power Trading Administration

Customer Care

Best Practices Transfer

Lower Finance Costs


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Benefits of Scale and Size

Benefits of size can be achieved by savings in the following areas:

  • Trading

  • Reassembling market power

  • Reciprocity


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Deregulation In California

CA was one of the first states in the U.S. to implement deregulation of electric markets.

Starting March 31, 1998 most of the customers in CA were allowed to shop for their electricity.

Prices were frozen at June 1996 levels.

Additional 10% rebate was applied to small customers.

Since 1999 CA started experiencing rolling black outs.

Prices of power in CalPX shot up sharply during summer 2000 putting deregulation in jeopardy.


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California Crisis

  • Different scholars have different opinions about the causes of California crisis.

  • Most of them attribute the flawed legislation at the heart of California’s power crunch.

  • A principle of physics/economics can be applied here.

    “If a rapid pressure builds in a confined space, and if it has no where to go, there result is obvious.”

  • CA had abundant energy supply with the wholesale prices being considerably low.

  • The situation demonstrates how soaring demand combined with artificially low prices can disrupt a commodity that everybody relies on – and take for granted.


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California Crisis

In summer the demand for power is highest.

Ironically, the crunch occurred in winter.

It took two years for the crisis to occur after the enactment of deregulation.

The legislation traded economic realities for short term fixes to satisfy consumers and utilities.

In return for more freedom from state regulation, PG&E and SCE agreed to freeze residential prices.

The economy of the state started booming.


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California Crisis

Economy was using all the power.

The capacity tightened rapidly.

Heavy state politics and bureaucratic indecision stopped the growth of in-state-supplies.

Public opposition to new power plants is also one reason.

Investor uncertainty to the regulatory regime was another reason.

Starting in May the imbalance became apparent.

Also, the prices of natural gas sky rocketed.

Unusually dry weather reduced hydro-electric power throughout the West.


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California Crisis

Average prices were $54/MWh.

PG&E and Edison paid an average $320/MWh for power in December.

Massive losses led to default on some debt payments.

Suppliers got worried about unpaid bills.

State had to intervene.


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Conclusions:

  • Regulators must let utilities pass on reasonable costs.

  • Adequate sources of power should be purchased on stable long-term basis.

  • Better metering technology should be put in place.

  • Faster steps should be taken, in case any state faces another power crunch.


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Key Issues to Be Considered

  • Stranded Costs

    Pre-deregulation, utilities estimated future power requirements.

    Accordingly, they built power plants to suffice the need for about a decade or more.

    They took loans for new plants and recovered the money over a period of 20 – 30 years from the permanent customers.

    Deregulation causes the customers to switch to lower cost electricity provider leaving stranded costs for the utility.


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Key Issues

Remedies suggested to recover stranded costs include:

  • Divestiture of all generating assets to recover 100% of stranded costs.

  • Competition transition charge (CTC) on the bills of customer.

  • ‘Floating CTC’ – a nonbypassable wire charge paid by the consumers.

  • Securitization and sale of bonds can be employed to recover the stranded costs as well.

  • Stockholders should share stranded costs recovery with ratepayers.


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Key Issues

  • Unbundling

    Pre-deregulation, utilities charge the customer for generation, transmission, distribution and customer service in a single charge.

    Post-deregulation, utilities are required to functionally unbundle generation, transmission, distribution and customer service.

    Filing of unbundled rates with PSC is required.

    Competitive suppliers may have to provide information on price, service and generation sources.

    A standard bill format should be used.

    Provide proof of technical, operational and financial capability by furnishing a bond.


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Key Issues

  • Rate freezing, shopping credits, discount for loyal customers

    In the beginning, rate freezing will have to be incorporated to increase the prevailing customer base.

    Shopping credits should be given to customer for switching from traditional supplier.

    x% reduction in generation portion of the bill should be given to a loyal customer.


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Key Issues

  • Power Requirement

    The PSC or the ISO should forecast power requirements and encourage building of new power plants.

  • Market Based Bidding

    Market based bidding should be carried out after deregulation is enacted fully.

    Thus utilities will bid for power within PX.

    It will bid for longer periods into future using Block Forward Market products.

    This will enable the company to purchase power at lower prices during periods of high demand.

    Thus it will help avoid price spikes.


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Key Issues

Bilateral Agreements

Utilities may enter into bilateral agreements with generators.

It will help shield themselves and consumers from volatile price spikes.

They will have to contact third-party suppliers via the PX.

Negotiate contracts to hedge against price hikes.

Buy power at set rates for long periods (up to 5 years).

Thus power will be available during periods of high demand and low reserves.


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Key Issues

New Business Ventures

Utilities may have to form a holding company.

This will make it easier for them enter into new business ventures in the competitive market.

Business ventures will provide economies of scale.

Efficiencies will be gained by combining different expertise, giving consumer a better choice.


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Key Issues

Provider of Last Resort (POLR)

POLR will serve customers in areas of competition, if REP of choice fails to continue service.

If a utility is to be a provider of last resort, it will have to ensure adequate transmission import and distribution capability.

POLR must offer a firm, non-discountable, seasonally differentiated rate to any consumer.

This service is not supposed to be competitive or innovative.

It will just be the standard basic service.


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Key Issues

Standard Offer Service

It is a default service for the consumers, who have left their competitive supplier, or are new to the utility’s territory.

Companies will be selected to provide SOS.

It will be at a reasonable price.

Utilities will have to look into distribution, default generation services, standard offer generation, aggregation requirements and ownership of meters.


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Key Issues

Public Workshops

Public workshops should be held to address the issues related to restructuring and transition mechanisms.

Issues under study should be

Consumer Education

Regional Planning and Reliability

Market Power

Independent System Operators

Regional Transmission Operators

Transition Mechanisms


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Thank You

??Questions??


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