Arkivnr-1 Presentasjonstittel Mark Davis ECON Centre for Economic Analysis International Experience with Power Sector Reform

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PresentasjonstittelPresentasjonstittelwww.econ.nowww.econ.no

Mark DavisMark DavisECON Centre for Economic AnalysisECON Centre for Economic Analysis

International Experience with International Experience with Power Sector ReformPower Sector Reform

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REFORM IS WIDESPREADREFORM IS WIDESPREAD

Significant body of experience inSignificant body of experience in

developed economies (UK, Norway)developed economies (UK, Norway)

transition economies (Poland, Hungary)transition economies (Poland, Hungary)

developing economies (Argentina, Chile, developing economies (Argentina, Chile, Bolivia, Brazil, Ivory Coast)Bolivia, Brazil, Ivory Coast)

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EMERGING CONSENSUSEMERGING CONSENSUS

To promote maxTo promote maximumimum competition: competition:

Minimise market power in generationMinimise market power in generation

Non-discriminatory access to gridNon-discriminatory access to grid

Multiple wholesale trading platformsMultiple wholesale trading platforms

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MINIMISE MARKET POWERMINIMISE MARKET POWER

Less market power leads to greater Less market power leads to greater competition and lower pricescompetition and lower prices

Important because generation typically Important because generation typically accounts for 50% of final costaccounts for 50% of final cost

market rules & regs very important -- but market rules & regs very important -- but number and structure of competing number and structure of competing generators perhaps even more importantgenerators perhaps even more important

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EXAMPLESEXAMPLES

UK: only 2 competing generatorsUK: only 2 competing generators– industrial prices fell only 4% over 5 yearsindustrial prices fell only 4% over 5 years– even after increasing 18% just prioreven after increasing 18% just prior

NZ: Split of dominant generator into 3NZ: Split of dominant generator into 3– immediate price decreasesimmediate price decreases– Average 62% Average 62% price dropprice drop during following 6 during following 6

momonthsnths

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LESSONSLESSONS

Number important, but more important to Number important, but more important to ensure no generator dominantensure no generator dominant

– implies balance between a sufficient numberimplies balance between a sufficient number– depends on size and technical configurationdepends on size and technical configuration

Easier to address market power earlier than Easier to address market power earlier than later, especially if privatisation envisionedlater, especially if privatisation envisioned

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NON-DISCRIMINATORNON-DISCRIMINATORYY ACCESS ACCESS

Grid competition (so far) not technically Grid competition (so far) not technically practicablepracticable

Need to guard against monopoly abuse:Need to guard against monopoly abuse:– Separate generation and grid operatorSeparate generation and grid operator

Two main methods in practiceTwo main methods in practice– TranscoTransco– Independent System Operator (ISO)Independent System Operator (ISO)

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““TRANSCO”TRANSCO”

Most common in Europe (Norway, UK)Most common in Europe (Norway, UK)

StraightStraight forward if grid part of single vertical forward if grid part of single vertical monopolymonopoly

Synergies of combining functionsSynergies of combining functions

Disadvantage: Transco could find certain Disadvantage: Transco could find certain investments or bottlenecks advantageousinvestments or bottlenecks advantageous

– In practice has not been problemIn practice has not been problem

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ISOISO

Can resolve potential conflict whereCan resolve potential conflict where– owner of grid also owns generationowner of grid also owns generation– more than one grid entity/owner in systemmore than one grid entity/owner in system

Useful where administratively or politically Useful where administratively or politically difficult to break up private companiesdifficult to break up private companies

Could eventually allow competitionCould eventually allow competition– but at moment could weaken incentives to buildbut at moment could weaken incentives to build

Complicated, expensive to institute/regulateComplicated, expensive to institute/regulate

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NON-DISCRIMINATORY ACCESSNON-DISCRIMINATORY ACCESS

Best solution depends on pre-reform Best solution depends on pre-reform ownership structureownership structure

Best solution for state-owned integrated Best solution for state-owned integrated monopoly monopoly is to is to separate Transcoseparate Transco

Transco offers flexibility for future: Transco offers flexibility for future: Can add ISO laterCan add ISO later

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WHOLESALE MARKETSWHOLESALE MARKETS

Early markets featured mandatory poolsEarly markets featured mandatory pools

Trend toward more flexible arrangementsTrend toward more flexible arrangements– voluntary poolsvoluntary pools– pool only one of several trading platformspool only one of several trading platforms– more scope for bi-lateral tradesmore scope for bi-lateral trades– increasingly sophisticated risk managementincreasingly sophisticated risk management– greater role for demand sidegreater role for demand side– markets for grid servicesmarkets for grid services

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Main benefits of multiple market systemsMain benefits of multiple market systems

More effective competition and liquidityMore effective competition and liquidity

Less central controlLess central control

Risks can be unbundled and better managedRisks can be unbundled and better managed

Active demand side participation enabledActive demand side participation enabled

However, generally more complex & requires However, generally more complex & requires more sophisticated info systemsmore sophisticated info systems

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Examples of multiple market systemsExamples of multiple market systems

New ZealandNew Zealand

ScandinaviaScandinavia

SpainSpain

US PJMUS PJM

US California (but not during transition)US California (but not during transition)

New UKNew UK

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COMPETITION & PRIVATISATIONCOMPETITION & PRIVATISATION

Competition possible w/out privatisationCompetition possible w/out privatisation– incentive structure most importantincentive structure most important

But govt shareholders will not have same But govt shareholders will not have same profit motive as private shareholdersprofit motive as private shareholders

Profit motive can be further diluted by welfare Profit motive can be further diluted by welfare goals -- especially when govt under strong goals -- especially when govt under strong political pressurepolitical pressure

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COMPETITION & PRIVATISATIONCOMPETITION & PRIVATISATION

Can be trade-off between privatisation Can be trade-off between privatisation revenue and efficiencyrevenue and efficiency

– Market pMarket privileges can raise values of assetsrivileges can raise values of assets– but can decrease efficiency of system as wholebut can decrease efficiency of system as whole

Other factors may raise asset values more Other factors may raise asset values more than privileges canthan privileges can

– reliability of govt promises not to change rulesreliability of govt promises not to change rules– confidence in regulatorconfidence in regulator– faith in legal system to uphold agreementsfaith in legal system to uphold agreements

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CALIFORNIA – WHAT WENT WRONG?CALIFORNIA – WHAT WENT WRONG?

Everything that could, plus moreEverything that could, plus more– Bad luckBad luck: dought in hydro areas, gas pipelines : dought in hydro areas, gas pipelines

down, nuclear outagedown, nuclear outage– Bad regulationBad regulation: ”over” environmental regulation, : ”over” environmental regulation,

split regulatory responsibilitiessplit regulatory responsibilities– Bad designBad design: over dependence on spot market, : over dependence on spot market,

price caps on end users, market powerprice caps on end users, market power

ResultsResults– Extremely high prices, which could not be passed Extremely high prices, which could not be passed

through to customers - utilities faced huge lossesthrough to customers - utilities faced huge losses

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LESSONS FROM CALIFORNIALESSONS FROM CALIFORNIA

GENERALGENERAL

Markets work, but incentive structure must Markets work, but incentive structure must be carefully consideredbe carefully considered

Test in advance (modelling)Test in advance (modelling)

Avoid political compromise at expense of Avoid political compromise at expense of economic coherenceeconomic coherence

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LESSONS FROM CALIFORNIALESSONS FROM CALIFORNIA

Don’t restructure during tight capacityDon’t restructure during tight capacity

Avoid barriers to new capacityAvoid barriers to new capacity

Encourage Encourage long-term contracts long-term contracts & financial & financial markets markets to hedge risksto hedge risks

Avoid price caps, which prevent demand-Avoid price caps, which prevent demand-side responseside response

Ensure someone is monitoring the system for Ensure someone is monitoring the system for defectsdefects

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SUMMARY CHECKLISTSUMMARY CHECKLIST

Minimise market power in generationMinimise market power in generation

Ensure non-discriminatory grid accessEnsure non-discriminatory grid access

Trend toward multi-market systemsTrend toward multi-market systems

Competition possible w/out privatisationCompetition possible w/out privatisation– but private ownership brings additional incentives but private ownership brings additional incentives

for efficiencyfor efficiency

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ECON Centre for Economic AnalysisECON Centre for Economic Analysis

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Arkivnr-1 Presentasjonstittel Mark Davis ECON Centre for Economic Analysis International Experience with Power Sector Reform