CA Market Framework Flawed

Aside from the political cries for regulatory actions to provide consumer electricity rate relief, two days of federal hearings Monday and Tuesday turned up a wide array of diagnoses and potential prescriptions for curing what ails California's still-convalescing wholesale power market.

State officials mostly want to first satisfy the consumer-related problems, while Federal Energy Regulatory Commission members don't want to abandon their almost decade-long push for market-based energy industries.

The proposed cures are a combination of structural and rules changes, along with new actions by various market participants.

"In California, there has been an utter lack of vision of what a deregulated market should look like," Nymex's Robert Levine told the FERC hearing Tuesday in San Diego, adding that his exchange cannot be "blamed" for the malfunctioning of the state's wholesale power market, since at the time it was formed none of Nymex's suggestions to state policymakers were adopted.

Levine told FERC commissioners and two members from the California Public Utilities Commission that California's market has "two glaring weaknesses:" (1) no demand-response contracting provisions and (2) no risk management provisions. He urged FERC to "take the bull by the horns and get this market deregulated properly."

At one point FERC Chairman James Hoecker asked the two CEOs from the state's nonprofit transmission grid operator (Cal-ISO) and wholesale spot market (Cal-PX) to submit their views of the "pros and cons of combining the two organizations." Both organizations are looking at some self-generated internal changes, but Cal-PX CEO George Sladoje said he would not favor the combination because the two organizations have "different missions and different people."

Nonetheless, CPUC Commissioner Wood indicated privately that he expects a push in next year's state legislature for a combination or elimination of the PX.

Over-reliance on the spot market is a major flaw, according to several of the economists and others testifying, and Sempra Energy's CEO Steve Baum acknowledged that since June his company's San Diego Gas and Electric utility has been trying to get authority to buy from larger markets outside of the Cal-PX, but still lacks that authority.

"We still to this day have no more authority to deal in other markets in much larger volumes," said Baum, although, in response to questioning from Hoecker, he acknowledged that in retrospect it should have done more hedging last spring through the Cal-PX forward market. "I regret that we did not exercise our authority (for the 400 MW in the block-forward market), said Baum, who appeared on a panel of utility, ISO, PX and Nymex representatives in the FERC hearings. "The reason we did not is that we did not foresee the prices that we saw this summer. We did not, and I think very few did. Nevertheless, we didn't do it. I regret that because we might have saved our customers some money."

A senior executive with Southern California Edison, Harold Ray, indicated in his testimony that "hedging alone" is not the answer. He said Edison hedged more than 30,000 MWh, saving an estimated $415 million in wholesale power costs, but the utility is "still one billion dollars in the hole" because of the difference between frozen retail rates it charges customers and what it had to pay for power this summer through the Cal-PX.

Levin urged FERC (and state officials) to "start to focus on suppliers supplying lots of customers and competing for them. It clearly hasn't been accomplished in California. And you might ask suppliers why they are focusing on auctioning (Cal-PX) strategies more than on supplying customers?"

One of the causes, Levin said, is that suppliers "have no ability to rely on transmission. Thus, his other recommendation to FERC is to focus on creating "sensible, commercially useful transmission" policy based on financial equivalents. Just providing the financial equivalent of lost load in congestion situations "doesn't do it," Levine said, noting that the payments "break the connection between the customer and the supplier."

Aside from a seemingly endless array of proposed changes in the Cal-PX and ISO operations, from schedule coordination to bidding, many California stakeholders --- including the incumbent investor-owned utilities --- allege they think the market has been gamed, inferring that merchant generators have done that as they have learned to operate more in the complex system. Edison's Ray, however, points out that the market power abuse often doesn't come from the power generators because they have sold most of their output in the forward markets, but from other middlemen --- marketers. In the five or six ongoing state and federal investigations it is hoped some light is shed on this situation.

Generators, including Reliant Energy and Duke Energy among them, told FERC and Congressional hearings that they welcome the investigations and have done nothing wrong except made a profit in a peak-demand market with supplies very tight. The economists heading the Cal-ISO and Cal-PX market surveillance and oversight boards, respectively, acknowledge there is market power and that they can pinpoint who held the power at what time, but identifying specific participants abusing the power is not that easy, and may be impossible, according to one economist.

"I don't think we know which market design does the best job of bringing the most benefits to consumers," said Frank Wolak, an economist and chairman of the Cal-ISO market surveillance committee that submitted its analysis of California's June wholesale price spikes Sept. 6, noting that the state's power markets continue "to be plagued by the market design flaws identified in previous reports" by his committee.

Wolak urged FERC to require other ISOs around the nation to complete reports documenting how they are "delivering benefits to consumers."

He noted that he did not think the generators or other market participants were intentionally trying to undermine reliability, but rather doing what "every market participant does in a competitive market --- pursuing their own self-interest."

Meanwhile, back in Washington Thursday, Hoecker opened FERC's bi-weekly meeting saying the hearing had given the commissioners a better understanding of plight of California citizens, and what we need to do about it." He pointed out the problems were complex, including the wholesale and retail markets, that are both state and federal responsibilities.

"Many would like to think this is the beginning of the end for competition in electric markets. I reject that notion, not only as a matter of policy, but as a practical matter. We have to make some tough decisions soon. It's not sufficient to sprinkle deregulation dust on old cost-of-service principles." Hoecker said the Commission would be working with California officials in framing its response.

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