Electric Restructuring-CA Versus IL

California Market Structure b California has two market-making structures- the California Power Exchange (PX) and the CA ISO. b The system was built around expected electricity surpluses.

CA PX b took bids for day-ahead hourly supply. b The PX took as much power as needed for the day starting with the lowest bid and continuing until it had its quota. b The price for the whole market was set by the last successful bidder.

The CA ISO b buys power on the spot market to make up for any unforeseen shortages caused by the PX not buying enough

Divestiture of Generation b To collect stranded cost recovery, utilities had to divest its non-nuclear and non- hydroelectric generating facilities to a non-affiliated entity b Three major IOUs – Pacific Gas and Electric, California Edison and San Diego Gas and Electric did this – purchase most power from unrelated third parties

Retail/Wholesale Rates b Res./Small Bus. Rates Reduced 10-20%Reduced 10-20% capped until 12/31/01 or stranded costs were fully recoveredcapped until 12/31/01 or stranded costs were fully recovered b Wholesale rate of electricity No capNo cap

Results b Prices dropped from 1998 to 1999 b June 2000 things changed. There was no longer an excess of supply.

Tight supply was caused by several factors: higher than expected demand - CA economy kept growing and environmental concerns among other things caused new power plants not to be built. higher than expected demand - CA economy kept growing and environmental concerns among other things caused new power plants not to be built. low water levels in Pacific NW caused hydroelectric plants to cut back on power supplied to CA low water levels in Pacific NW caused hydroelectric plants to cut back on power supplied to CA rising price of natural gas caused cost of gas- fired generation to go up. rising price of natural gas caused cost of gas- fired generation to go up. gaming of the system by suppliers? gaming of the system by suppliers?

Results: every bid was snapped up. every bid was snapped up. avg prices jumped 259% for the year. avg prices jumped 259% for the year. Nov/Dec alone, utilities paid more 28% higher than for all of 1999 Nov/Dec alone, utilities paid more 28% higher than for all of 1999 ISO regularly must buy on spot market to prevent blackouts ISO regularly must buy on spot market to prevent blackouts supplier snub PX because ISO spot market has higher prices supplier snub PX because ISO spot market has higher prices by Nov/Dec, ISO buys as much as 1/3 of demand this way compared to 5% earlier by Nov/Dec, ISO buys as much as 1/3 of demand this way compared to 5% earlier

Did suppliers restrict supply to drive up prices?: b Frank Wolak, professor of economics at Stanford and Paul Joskow, economist at MIT say yes. b FERC orders refunds and fines on suppliers

IL b No required divestiture of generation b No PX / long term contracts not prohibited b Retail rates cut 20% and capped b Wholesale rates not capped b Utilities can petition ICC for rate increases if ROR falls below certain levels b There are transmission constraints into IL

Sources b WSJ, “For Power Suppliers, The California Market Loses its Golden Glow, ” 1/25/01, A-1, A-10.)