"Broad upward price pressure" and changing market dynamics were among the leading highlights of a 255-page 2004 State of the Markets Report released last week by FERC's Office of Market Oversight and Investigations (OMOI).
The report, which was released at the Commission's regular meeting last Wednesday, focused on a number of important market trends and concerns, among them being price increases and market volatility. During the year, gas prices rose 7%, coal prices jumped 69% and emissions allowance prices soared 153%, staff noted.
Other major natural gas market events that were highlighted included the New England cold snap in January, Hurricane Ivan's impact on Gulf of Mexico gas and oil production in September, the natural gas storage inventory error in November that led to sharply higher prices, the growing presence and influence of financial players in the energy market, strong investment in natural gas exploration and production and the developing North Atlantic spot market for natural gas.
The cold snap in New England in January 2004 led to the year's highest price spikes ($315/MWh for power, according to the report, and $64.22/MMBtu for natural gas at Algonquin Citygate, according to NGI's Daily Gas Price Index) and tested the limits of the gas delivery system.
It "underscored the importance of tight integration between the gas and electric markets during periods of stress," OMOI staff said in the report. "Although the two markets successfully responded to the severe weather, both industries subsequently analyzed the event to learn how they could coordinate better in the future."
OMOI also noted the growing influence of the global liquefied natural gas (LNG) market. "Entering 2005, there appears to be an emerging North Atlantic spot market for gas as well as [a growing long-term contract market for LNG]," OMOI staff said. "During February and March, Western Europe experienced a natural gas price spike. When LNG cargoes stopped arriving at Lake Charles, reports followed that some cargoes had been diverted to Europe -- just as had happened in reverse in recent years."
In the 2004 power market, OMOI focused on the remaining concerns about a lack of location specific pricing in certain regions, overcapacity in power generation, certain localized power constraints in several regions and the lack of investment in new high voltage transmission lines.
While the power market appropriately signaled no need for additional power generation in 2004, specific constrained regions did not have adequate capacity, staff noted. "These areas included Boston, southwest Connecticut, New York City, New Orleans, much of Southern California and the San Francisco Bay area. Most of these areas also saw prices too low to signal new investment." This illustrates structural flaws in need of repair, staff indicated.
"In regions without location specific pricing, price signals cannot distinguish between areas that need capacity and those that do not. Such regions include those outside regional transmission organizations (RTO); areas within RTOs that do not yet have RTO managed spot markets (Southwest Power Pool -- SPP -- and the Midwest Independent Transmission System Operator -- MISO -- in 2004); and zones within RTOs with zonal pricing (California and Texas)."
Staff also noted that in New England, the ISO took many generators "out of market" and required them to run for reliability reasons, reducing price signals for new construction additions.
Staff also highlighted the deficiency in the new high voltage power line investment. While transmission investment has grown 69% since 2001 only 931 circuit miles of new high voltage lines were added nationally out of the more than 150,000 circuit miles in existence.
In addition, OMOI highlighted the continuing structural concerns affecting the power market, including the lack of RTOs in the Southeast and West (except California).
"To wrap up, we wanted to highlight a variety of energy market questions we're looking at coming out of our review of 2004," said Steve Harvey, deputy director of OMOI. "The first electric question is about market performance under stress. This is already an imminent issue; a few weeks ago we spoke about our concerns in certain areas for the coming summer. The second question has been a common concern about how well RTO markets can adapt to conditions in dispersed regions like the Midwest; so far the indications are positive.
"The third is important in the longer run: can market signals work fast enough to give incentives for investment in a timely way? The fourth is a related question about whether active demand response by customers to price would improve the functioning of electric markets. And finally, the challenge to integrate reliability and market concerns will remain important over the next couple of years."
Regarding natural gas, Harvey said a key question going forward is how gas markets respond to occasional stress from, for example, a weather supply disruption such as Hurricane Ivan. Another question concerns the ability of higher gas prices to increase the pace of innovation in the industry and produce needed supply.
"Finally the U.S. natural gas market is clearly becoming affected by global market considerations. How this relationship will develop may play a major role in how we use natural gas in the future," he added.
For a copy of the report, go to http://www.ferc.gov/.
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