[BETA] Fortnightly

The debate over the merits of pool-based markets as opposed to reliance on bilateral transactions and the invisible hand of competition began without much care taken to define the details of the bilateral alternative. On closer examination, however, we find the two approaches have much in common, being more like different pews than different churches. A further debate that emphasizes only the few differences would not inform so much as distract from solving the common problems. We should put the debate to rest and move on.

The organization of the pool-based wholesale market can be found in a number of variants that differ across countries. What the several "PoolCo" variants have in common is the ability to simplify the development of bilateral transactions. An efficient PoolCo needs and aids in the development of a bilateral contract market. The PoolCo model assumes that virtually everything that happens in the competitive market happens through commercial bilateral markets, including virtually all investment decisions for new load, generation, and transmission facilities. The exception and the focus of the PoolCo is in the coordination of physical delivery and pricing of the associated services, over the very short term, say on a half-hourly basis. The PoolCo operates only in the short-run to deal with system interactions and charge users for the real costs of using the system. The details of PoolCo operation and spot-market pricing can and should be designed to impose virtually no constraints on the terms and conditions of commercial arrangements in bilateral contracts. One reasonable test to apply to the design of the PoolCo could be that it would permit any economically efficient bilateral transaction.

Contrary to the presumption underlying the extreme version of the invisible hand model for electricity dispatch, the electric system with current technology requires the very visible hand of the system operator to manage the short-term power flows and associated dispatch. The basic pool functions will always be there, somewhere. A system coordinator or pool is required to support a competitive market. This insight derives from experience with the operation of competitive electricity markets in other countries. For example, Norway is often mentioned as having a system with a high use of bilateral contracts to execute the commercial activities of the market. However, despite the acknowledged importance of the contract and negotiated business agreements, Jan Moen, the Norwegian regulator, has explained in detail that "[t]he importance of effective pooling arrangements in a competitive [electric supply industry] cannot be overstated."1 The focus is not on short-term efficiency and a better dispatch; rather, the real value of the pool and the bid-based economic dispatch is in providing the various elements that facilitate bilateral contracts and would be hard to obtain in any other way.

The False Dichotomy

From this perspective, the debate over the choice of a market structure based on pools or bilateral contracts is misplaced and misleading. As the figure illustrates, there is no proposal for a competitive market with a mandatory pool. The existing tight power pools in the United States, such as the New England Power Pool (NEPOOL), should