1. APPENDIX Price Suppression In Economic Theory Supply vs. Efficiency Resource Allocation – Vertical Integration (Slides 2 through 7) – Wholesale Competition (Slides 8 through 12) Supply Expansion Under Wholesale Competition (Slides 13 and 14) 1

2. Energy Supply Cost Function MC supply MC Q 2Figure 1 S1S1 MC 1

3. Energy Efficiency Cost Function (right origin) MC demand MC Max Achievable Q 3Figure 2 D1D1

4. Energy Supply and Efficiency Initial Resource Allocation: Vertical Integration MC demand MC (S 1, D 1 ) Max Achievable Q S1S1 D1D1 MC 1 4Figure 3 MC supply

5. Energy Supply and Energy Efficiency Least-Cost Resource Reallocation Vertical Integration MC demand MC (S 1, D 1 ) (S 2, D 2 ) Max Achievable Q S1S1 D1D1 S2S2 D2D2 MC 1 MC 2 5Figure 4 MC supply

6. Benefits From Least-Cost Resource Reallocation Vertical Integration MC demand MC (S 1, D 1 ) (S 2, D 2 ) Max Achievable Q S1S1 D1D1 S2S2 D2D2 MC 1 MC 2 6Figure 5 MC supply A

7. Benefits of Resource Reallocation 1.Vertical integration Net benefits = A = total cost savings from substituting D 2 – D 1 of efficiency at Mc demand for S 1 -S 2 of supply at Mc supply 7

8. Energy Supply and Efficiency Initial Resource Allocation: Wholesale Supply Competition MC demand MC (S 1, D 1 ) (S 2, D 2 ) Q S1S1 D1D1 Max Achievable S2S2 D2D2 MC 2 MC 1 8Figure 6 MC supply

9. Energy Supply and Energy Efficiency Least-Cost Resource Reallocation Wholesale Supply Competition MC demand MC (S 1, D 1 ) (S 2, D 2 ) Q S1S1 D1D1 Max Achievable S2S2 D2D2 MC 2 MC 1 9Figure 7 MC supply

10. C C Benefits From Least-Cost Resource Reallocation Wholesale Supply Competition MC demand MC (S 1, D 1 ) (S 2, D 2 ) R Q S1S1 D1D1 Max Achievable S2S2 D2D2 MC 2 MC 1 10Figure 8 A B MC supply

11. Benefits of Resource Reallocation 2.Wholesale competition Net benefits = A + B + C B = producer surplus lost to consumers from reduction in sales of S 1 – S 2 at MC 1 C = producer surplus lost to consumers on sales of S 2 at MC 2 instead of at MC 1 11

12. Benefits of Resource Reallocation 2.Wholesale competition (continued) DRIPE =demand reduction induced price effect = price suppression = C / (D 2 – D 1 ) = (MC 1 – MC 2 ) S 2 / (D 2 – D 1 ) R= producer surplus from remaining sales of S 2 at MC 2 12

13. Price Suppression from Additional Supply MC demand MC (S 1, D 1 ) (S 3, D 3 Q S1S1 D1D1 S3S3 D3D3 MC 2 MC 1 13Figure 9 Old MC supply New MC supply C R (S 2, D 2 ) S2S2 D2D2 Max Achievable

14. Benefits of Supply Expansion 2.Wholesale competition (continued) SEIPE=supply expansion induced price effect = price suppression = C =(MC 1 – MC 2 ) S 1 R= remaining producer surplus from sales of S 1 @ MC 2 S 3 D 3 New least-cost resource allocation S 3 >S 2,, D 3 <D 2 14