Electric Restructuring In Pennsylvania

Sonny Popowsky Pennsylvania Consumer Advocate

May 10, 2007Institute for Regulatory Policy Studies

Transforming the Electricity MarketSpringfield, Illinois

PA Office of Consumer Advocate555 Walnut Street

Forum Place, 5th FloorHarrisburg, PA 17101-1923(717) 783-5048 Telephone

spopowsky@paoca.org www.oca.state.pa.us93620.ppt

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• Why did Pennsylvania open up the electric utility industry to competition in the first place?

• What was the problem?

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Average Residential Price of Electricity in Cents Per Kilowatthour 1970-1990

1970 1990

Duquesne 2.51 12.20

Met-Ed 2.30 8.01

Penelec 2.28 7.86

Penn Power 2.39 9.96

PP&L 2.07 7.92

PECO 2.54 12.58

West Penn 2.15 5.04

Pennsylvania 2.32 9.08

Source: Pennsylvania PUC, Electric Power Outlook, July, 1993

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• If significant utility rate disparities were caused by failed electric generation choices, and if electric generation is not a natural monopoly, then one possible solution is to open up that portion of the electric industry to competition.

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• So, what did we think was going to happen?

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• Competition would drive down electric generation costs to the marginal costs of production and would drive down retail rates.

• Competition would therefore “strand” existing utility generation investments. That is, market prices would not cover the high embedded costs of utility generating plants that were built under the protection of regulation. Utilities therefore were permitted to recover stranded costs.

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But Just in Case…

Just in case the predictions of significant retail competition and lower electricity prices didn’t come true, the Pennsylvania electric restructuring legislation included long-term retail rate caps that prevented the utilities from charging higher rates than they had been charging prior to restructuring.

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• What actually happened?

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Projections of PJM Energy Prices Used by PPL to Estimate Stranded Costs vs. Actual ($ per mwh)

Year PPL Estimate Annual Average PJM

LMP

1999 $ 22 $ 34

2000 $ 23 $ 28

2001 $ 24 $ 32

2002 $ 24 $ 28

2003 $ 25 $ 38

2004 $ 26  $ 42

2005 $ 26  $ 58

2006 $ 27 $ 50

2007 $ 29  

2008 $ 30  

2009 $ 31  

2010 $ 32  

2011 $ 32  

2012 $ 33  

2013 $ 35  

2014 $ 35  

2015 $ 36  

2016 $ 37  

90941.ppt

Henry Hub Natural Gas Daily Spot PriceJanuary 2002 - April 2007

$0.00

$5.00

$10.00

$15.00

Jan-

02

Mar

-02

May

-02

Jul-0

2

Sep

-02

Nov

-02

Jan-

03

Mar

-03

May

-03

Jul-0

3

Sep

-03

Nov

-03

Jan-

04

Mar

-04

May

-04

Jul-0

4

Sep

-04

Nov

-04

Jan-

05

Mar

-05

May

-05

Jul-0

5

Sep

-05

Nov

-05

Jan-

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Mar

-06

May

-06

Jul-0

6

Sep

-06

Nov

-06

Jan-

07

Mar

-07

Month

$/m

cf

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Wholesale Natural Gas PricesNYMEX 12-month contract

$3.33

$4.90

$6.31

$8.61

$11.93

$6.96

$0

$2

$4

$6

$8

$10

$12

$14

August 7,2002

August 1,2003

August 3,2004

August 12,2005

September 23,2005

September 25,2006

Pennsylvania Office of Consumer Advocate

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• In a single market clearing price market design, such as the one used in PJM, the price bid for the last (most expensive unit) dispatched in any hour establishes the price paid to all the units in the spot market in that hour. These spot prices also affect forward contracts and the prices negotiated for bilateral contracts over time.

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• The use of a single market clearing price causes all wholesale electricity prices to increase when natural gas and other fossil fuel prices rise.

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PJM Annual Average Locational Market Prices

$- $- $- $- $-

$64.88

$53.14

$28.14

$32.38

$28.30

$38.27

$42.40

$50.39

$58.14

$-

$10

$20

$30

$40

$50

$60

$70

2000 2001 2002 2003 2004 2005 2006

Pri

ce p

er

mW

h

PJM East Zones + APS

All PJM

Source: 2000 - 2004 from PJM State of Market Report. 2005 and 2006 East/APS based on an average of all published hourly prices for the Mid-Atlantic zones and Allegheny Pow er.

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Results of New Jersey Wholesale Auction – 3-Year Bids (¢ per kwh)

2003

(34-month)

2004 2005 2006

PSEG 5.560 5.515 6.541 10.251

Rockland 5.601 5.597 7.179 11.114

Atlantic Electric

5.529 5.513 6.648 10.399

JCPL 5.587 5.478 6.570 10.044

90847.ppt

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Results of NYISO POLR Auction Pike County Light & Power Company

Residential CustomersGeneration Rate

2005 2006 % Change

First 1,000 kwh 6.2982 ¢/kwh 14.4148 ¢/kwh 129%

Over 1, 000 kwh 5.4303 ¢/kwh 12.4285 ¢/kwh 129%

86781.ppt

Total Bill

2005 2006 % Change

Residential Customer using 700 kwh/month

$75.50 $132.31 75.2%

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What’s Next?

• Will the next round of wholesale price auctions in the Eastern PJM states be substantially lower than the last (post-Katrina) round, or will prices be “stickier” on the way down than they were on the way up?

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What About Retail Competition?

As wholesale prices in PJM increased, retail competition in Pennsylvania declined.

For utilities that had lower historic generation rates, the level of residential shopping has approached zero.

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Percent of Residential Customers Taking Competitive ServiceApril 1999 -January 2007

0%

5%

10%

15%

20%

25%

30%

35%

40% Allegheny Power

Duquesne Light

MetEd & Penelec

PECO

PPL

92273.ppt

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• In my view, there is nothing wrong with that as long as the default service is reliable and reasonably priced.

• Default service for residential customers should be as good as, or better than, traditional regulated generation service.

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• To the extent that competitive retail marketers can offer residential customers reliable service at lower prices – or can offer other value-added products such as renewable or “green” products – then the benefits of restructuring will be even greater.

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The Wrong Answer:

If competitors are unable to offer a service that is better than default service, let’s change the rules to make default service worse than competitive service.

ORLet’s make default service so ugly – that

is, so expensive and so volatile – that consumers will have no choice but to switch.

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• In my view, the goal is not to get all residential customers to switch to competitive generation suppliers. Retail switching is a means to an end, not an end in itself.

• The goal is reliable service at reasonable prices, whether provided through default service or from the competitive retail marketers.

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The Default Service Happy Meal

• Would you like fries with that transmission and distribution service?

• Do the additional marketing, acquisition, and transaction costs involved in residential retail generation competition outweigh the potential savings to individual customers that the competitors can offer?

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What Next?

• As initial rate caps expire, retail default prices in Pennsylvania are supposed to reflect prevailing wholesale market prices, but they should not, in my view, be based only on spot market or short term contract prices. Nor should they be based on one-time auctions, in which the default provider rolls the dice and obtains generation for all of its load at a single point in time.

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• Default service for residential customers should be based on a portfolio approach. The default provider should secure a portfolio of resources through a variety of competitive methods.

• Default service should include short term and long term contracts and spot purchases; renewable and non-renewable resources; supply side and demand side resources.

• The goal should be a reasonable and stable price for the vast majority of customers who do not choose (or cannot choose) to switch.

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• Default customers should pay a rate that reflects the overall costs to the default service provider of this portfolio of resources. The price can change annually to reflect the changes in the resource portfolio.

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Conclusions(1)

• The likely end state for residential customers in restructured states like Pennsylvania is one in which most customers will continue to be served by their incumbent utility default service provider.

• In my view, the best model for that service is one in which the customers can receive stable, reasonably priced service from a default service provider who acquires a portfolio of resources through a variety of competitive methods.

• Even without substantial retail shopping, it is imperative that the PJM wholesale market provide reliable, truly competitively priced wholesale supply services to all retail providers.

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Conclusions(2)

• To the extent that retail competitors can attract customers by offering a cheaper, greener, or otherwise “better” service, we should encourage such competition.

• But the primary goal is not competition for the sake of competition. The primary goal, in my view, is the universal provision of reliable electric service at reasonable and affordable prices.