11/29/2001 1

Regulation and Deregulation of Electric

Power Markets

John R. BirgeDean, R.R. McCormick School of Engineering

and Applied ScienceNorthwestern University

11/29/2001 2

Outline

1. Basic Mechanisms2. Market Problems3. California Specifics 4. Ongoing Problems5. Potential Resolutions

11/29/2001 3

Regulated versus Deregulated Markets

• Regulated– Single or few producers– Prices controlled by commission– Costs passed to consumers (eventually)– Little incentive for efficiency

• Deregulated– Multiple producers– Prices governed by market mechanism– Potential for market power (vary supply to manipulate

price)– Questions about security (sufficient capacity)

11/29/2001 4

Problems of Electricity Markets

• Inelastic demand• Variable demand• Limited transmission capacity• Limited (unavailable) storage capacity

11/29/2001 5

Inelastic Demand

• Demand increases can sharply increase prices

Price

Quantity

Demand shift

Supply

11/29/2001 6

Variable Demand

• Demand often doubles (or more) during peak hours

Electric power demand (MWs)

02000400060008000

1000012000

1 11 21 31 41 51 61 71 81 91 101

111

121

131

141

151

161

11/29/2001 7

Competitive Markets

Consumer

Power Exchange Market

N Suppliers (bidders),

Supply bids

Demand

Each submits bid priceand quantity

11/29/2001 8

Market Clearing ProcessSupplier 1 : 5MWh @ $10Supplier 2 : 10MWh @ $15Supplier 3 : 10MWh @ $20Demand is 10

Problem: finding optimal bidding strategies and the resulting MCP

0

5

1015

20

25

0 5 10 15 20 25 30

total bid quantity

bid

pric

e

SupplyMCP =15

Demand

1 2 3

11/29/2001 9

Power Exchange Overview

• Non-sealed bid, Multi-round– Bidders can see each other’s bids and can adjust

their prices as many times as they want– Market is closed when no bidder wants to

adjust his/her bid price

• Selling at spot: – All dispatched units are traded at the same price

11/29/2001 10

California Power Exchange (PX)

• Two markets– Day ahead– One hour-ahead

• Independent System Operator (ISO)– Coordinates supply and transmission– Operates energy imbalance market (spot

market)

11/29/2001 11

Electricity Price Example

• California Power Exchange

LAMBDA

0

10

20

30

40

50

60

1 22 43 64 85 106

127

148

169

190

211

232

253

274

295

316

337

LAMBDA

11/29/2001 12

Electricity Price Example: Norway

• NOK Prices

0

50

100

150

200

250

300

350

400

450

1 4 7 10 13 16 19 22

Tue 0 04.04.0

Wed 005.04.00

Thu 06.04.0

Fri 007.04.00

11/29/2001 13

Simple Market Power

• Generators: Capacity, Cost– Coal, 10, $5– Oil, 10, $50– Hydro, 10, 0

• Demand: 15• Cheapest dispatch

– Hydro, 10; Coal, 5; Cost to consumer: $75• Market power of hydro

– Bid only 4 into market, now oil also used– Coal, 10; Hydro, 4; Oil, 1; Cost to consumer: $750

$5Coal Hydro

$50

Price

Quantity10 15

Oil

11/29/2001 14

Comparisons to Other Markets

• High Volatility– 10 to 100 times that of common stock– Prices from 0 to $10,000 per MWhr

• Difficulty in storage– Electricity close to un-storable

• Difficulty substitution (liquidity)

11/29/2001 15

Additional Problems

• Capacity investment– How to ensure enough capacity?

• Start-up and shutdown costs– How to obtain efficiency for long-run operations?

• Colombia case– Compare to “optimal”– Problems: multiple “optimal” choices– Optimal depends on future – must consider what will be

available (not just what is available now)

11/29/2001 16

Production Changes in Colombia(multiple possible ranges)

Max MW in Month

0

500

1000

0 5 10 15

Month

MW

TebsaB1Calima1GuavioSanCarlosMerrilTermoemcali

Plants

11/29/2001 17

hydro generation

0

500000

1000000

1500000

2000000

2500000

3000000

1 2 3 4 5 6 7 8 9 10 11 12 13

period

Urra1TunjitaTronerasTencheSanfranciscoSanCarlosSalvajinaSalto2Salto1RiomayoRiogrande1QuebradonaPrado4PradoPorce2PlayasParaisoPajaritoNiquiaNechiMunaMirafloresLatasajeraLagunetaLaguacaJaguasInsulaGuavioGuatapeGuadalupe4Guadalupe3Florida2EstrellaEsmeraldaDoloresDesanfranColegioChivorChinchinaCanoasCampoalegreCalima1CalderasbOMB_MUBetaniaBajoanchicayaAltoanchicaya

Colombia “Optimal” Hydro Generation

11/29/2001 18

Colombia “Optimal” Thermal GenerationThermal generation

0

500000

1000000

1500000

2000000

2500000

1 2 3 4 5 6 7 8 9 10 11 12 13

period

Ballena1 Ballena2Barranca1 Barranca2Barranca3 Barranca4Barranca5 Barranqui1Barranqui3 Barranqui4Cadafe Cartagena1Cartagena2 Cartagena3Cospique1 Cospique2Cospique3 Cospique4Cospique5 Chinu4Chinu5 Chinu6Chinu7 Chinu8Dorada Flores1Flores2 Flores3Guajira1 GualandayLaunion1 Launion2Launion3 Launion4Menced MencvcMenchb MenchecMenepm MennorMenth MerrilOcoa OxyPaipa1 Paipa2Paipa3 Paipa4Palenque3 Proele1Proele2 SantanderSierra1 Sierra2Tasajero TCentro1TCentro2 TCentro3Tebsa21 Tebsa22Tebsa24 TebsaB1Termoemcali TermovalleTv1 Tv2Zipaemg2 Zipaemg3Zipaemg4 Zipaemg5

11/29/2001 19

California Problems

• Demand timing– More rapid expansion than forecast

• Capacity timing– Long lead times – Large utilities sold generation

• Transmission capacity– Limited ability to take advantage of surpluses

elsewhere • Current Situation

– Weather advantage– Voluntary conservation

11/29/2001 20

Long-run Resolution

• Additional capacity and transmission– Need to know the market environment– Need to have instruments to hedge risks

• Useful innovations– Additional long-term contracts– Demand price responses

• allow spot prices to pass through• can reduce monthly fluctuation with long-term

contracts

11/29/2001 21

Conclusions

• Market structure– Problems for electricity because of storage,

inelastic demand• Market power

– Created by limited capacity, few producers• Resolutions

– Demand responsiveness and more ability to hedge risks