Electricity Restructuring and Deregulation Chapter 13 Electricity Restructuring and Deregulation The Path Forward? Part A

Outline Introduction Brief Economic History of Electricity Restructuring Restructuring Two Paths to Restructuring Other Examples of Electricity Restructuring of 16

Introduction Previously we saw that regulation was necessary to improve efficiency However there is still room for improvement Recall the AJ effect and regulatory capture Now we consider partial deregulation as a further step toward efficiency Also known as restructuring, as even “deregulated” electricity industries are still heavily regulated of 16

Introduction (Cont.) While deregulation is the more popular term, restructuring is more accurate The big change is allowing competition in the generation and retail stages New regulation has been created to manage these new markets Independent System Operators (ISOs) Regional Transmission Organizations (RTOs) of 16

U.S. Electricity Markets Note that Northwest, Southeast, and Southwest are traditional regulated markets. U.S. Electricity Markets https://www.ferc.gov/market-oversight/mkt-electric/overview.asp of 16

Brief Economic History of Electricity Deregulation and Restructuring Ronald Reagan and Margaret Thatcher elected Conservative governments championed markets and less government intervention Several other industries undergoing deregulation Including Telecommunications, Natural Gas Electricity industry was virtually the same as it had been in the 1930s Vertically integrated (Generation  Transmission  Distribution) Little incentive to innovate PURPA (1978) showed that small-scale, competitive generation was feasible Particularly solar and natural gas Created FERC as successor to FPC Oversee new and more competitive institutions in both electricity and natural gas of 16

Brief Economic History (cont.) Natural gas industry deregulation demonstrated potential to separate ownership of generation and transmission Marketers could compete at the retail level Offer choice of electricity suppliers and differentiated products Price competition, but also: Green power Electricity from non-polluting generating sources Interruptible rates Gives the utility the right to interrupt service Load control Allows utilities to centrally control appliances to reduce demand at times of tight capacity Variable rates Charges the consumer a higher price during peak hours when more costly generation technologies are required and a lower price during off-peak hours Eventually lease or sell electricity technology Energy efficiency Lease or sell solar systems, electricity storage. of 16

Restructuring (1) Energy Policy Act (EPAct) of 1992 – U.S. Allowed independent power producers (IPPs), beyond those included in PURPA, to sell electricity to utilities Existing utilities could now sell to other utilities and to emerging wholesale markets Wholesale markets developed auction mechanisms to identify the lowest-cost suppliers and customers with the highest willingness to pay Central Electricity Generating Board (CEGB) – Great Britain Centrally planned electricity system created in the 1950s Broken up in the 1990s into three regional generating firms and one public national transmission company of 16

Restructuring (2): Natural Gas as a Benchmark Generation to become fully competitive Transmission and distribution lines still had economies of scale sufficient to maintain natural monopolies Regulation would require transmission lines to offer open access Non-discriminatory practices required so non-utility generators could compete with incumbent utility Retail stage could also be competitive Marketers could shop around for lowest-cost suppliers Consumers could shop around for lowest-cost retailers May also choose to pay more for renewable power or opt for time-differentiated prices and load control of 16

Restructuring (3): New Regulatory Institutions Independent System Operators (ISOs) and Regional Transmission Organizations (RTOs) Help facilitate competitive bidding among generators and reliability in transmission Distribution System Operators (DSOs) Coordinate independent generation Wind, Solar, and Electric Vehicles of 16

Restructuring (4): Distributed Generation Opposite of centralized generation Rooftop solar, wind, and small- scale natural gas units Reduces the need for new transmission lines Also decreases losses from existing lines of 16

Restructuring (5): Challenges for Electricity Restructuring (1) Electricity follows the laws of physics above all else Dispatchers cannot control its path if there is more than one circuit or branch at a particular node Kirchhoff’s Laws Dictate how current and power flows Dependent on impedance (resistance) Electricity will follow the path of least resistance Transmission lines have limited capacity Electricity may be forced to follow alternate paths No telling who is getting what electricity Like trying to figure out if one drop of water in a swimming pool came out of a particular nozzle when there are multiple points of injection. of 16

Restructuring (5): Challenges (2) Locational Marginal Pricing (LMP) The physics of electricity will lead to differences in price by location Example: Generators at A & B can generate 5 MW each, Customer at C Demands 5 MW A has a constant MC = $30/MW, B has a constant MC = $40/MW (2GA + 1GB )/3 +GA MW (GA - GB )/3 (1GA + 2GB )/3 -(GA + GB )MW B A C +GB MW Assuming no line capacity, what is the equilibrium price? What if line AC is limited to 3 MW? of 16

Restructuring (6): Challenges (3) Other Challenges Supply and demand must be equal at all times Failure to do so will result in catastrophic failures of the system Blackouts if D>S Critical overloads if S>D Demand varies continuously Deregulated prices will be volatile May be difficult to recoup the cost of peak generation units They are the most expensive to operate and may only be in use for a few hours out of the year of 16

Restructuring (7): Challenges (4) ISOs & RSOs Entrusted to match supply and demand Use day-ahead, hour-ahead, and real-time prices There are seven ISO/RTO organizations in the U.S. California (CAISO), New York (NYISO), and Texas (ERCOT) use state systems Others operate regionally ISO-NE, PJM, MISO, and the SPP Need to provide ancillary services, to maintain grid stability Spinning reserves run even when not generating power Used to ramp up generation on short notice More critical with the increased use of intermittent renewable resources of 16

Restructuring (8): Challenges (5) Transactions Costs Oliver Williamson (2002) suggested that transactions costs may be greater when transactions take place outside the firm The holdup problem may become an issue A generation facility has little value without access to transmission lines Transmission lines may be able to take advantage of their upper hand Holdup may also play out in reverse order Generator threatens to not use transmission line unless it gets a lower price. Contracting between firms to resolve this problem may result in more costs than are saved from deregulation Could vertical integration be more efficient? of 16