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Using Hourly System Lambda to Gauge Bulk-power Prices

Fortnightly Magazine - May 1 1995

requires submission of system lambda data, but does not specify calculation procedures. Thus, while utilities may calculate their system lambda differently, the FERC requires utilities to explain how they calculate their reported system lambdas. This information facilitates analytic adjustments necessary for inter-utility comparisons.

Key calculation differences may come from the utility's fuel-cost method or whether it treats non-fuel O&M production costs as fixed or variable. For instance, the utility may calculate fuel costs on a marginal (e.g., spot coal) or average basis (e.g., contract). In other cases, variable costs may include production cost items in addition to fuel that other utilities might treat as fixed.

Analytical adjustments can prove difficult. System lambda may diverge from the marginal cost calculation made using all plants in a given area. In other words, the calculation of lambda can be more complex than it appears in Figure 1. This effect occurs for several reasons. First, some plants are not dispatched. A plant may operate to maintain transmission system reliability. Others may supply power at the decision of the plant owners, not the central dispatcher (e.g., some cogenerators). Second, some plants are limited in their ability to respond to load fluctuations by their designs (e.g., plant turndown constraints).

Finally, lambda should approximate marginal costs and competitive prices for small increments in demand, but may diverge for larger increments. The marginal cost of the next megawatt-hour (Mwh) can be different than the incremental cost of producing larger amounts of power (e.g., 1,000 Mwh). Variable costs might change for the marginal unit as the loading increases. If not, additional plants with higher costs must be used.

Despite these limitations, one thing is certain: Wholesale prices will gain in importance as competition grows in the power industry. But since the industry has functioned so long under regulation, the importance of system lambda data may not be apparent. Regulators and market players may be surprised at how the data will change their world. Consider these three examples: 1) incremental cost tracking, 2) wholesale competitiveness, and 3) resource planning and plant valuation.

Cost Tracking

Under traditional cost-of-service regulation, regulators ensure that electric utilities minimize costs consistent with prudent management. System lambda lends itself well to this task in two areas.

First, differences in system lambda may indicate added cost savings available from additional economy power interchanges. (Utilities with low system lambdas sell power to utilities with higher lambdas.) Such sales can make dispatch more efficient.

Second, differences in system lambda may also highlight needs for more transmission capacity to remove bottlenecks that block economic power transfers. Granted, utility operations may be close to achieving most available economies in these areas. After all, state and federal regulators periodically review bulk-power trading and transmission investment. But this key data should facilitate review.

Evaluating Wholesale Offers

Whether firm or nonfirm, wholesale price offers can be evaluated with the help of system lambda information.

Firm power transactions are backed up with capacity available to meet demand. Firm power sales are considered adequate to satisfy the regional power pool's requirement that all member utilities have capacity to