[BETA] Fortnightly

The electric industry hasn't seen so much upheaval since Thomas Edison threw the switch at the Pearl Street Station. Full retail access to competitive markets in generation and supply will challenge traditional ways of doing business. But no change will prove more dramatic for electric utilities than setting a competitive price (em that most fundamental of business decisions.

In anticipation of competition, utilities have been experimenting to discern what forms of the "product" (em electric power (em customers might want, and at what prices. One such experiment is real-time pricing.

Real-time pricing (RTP) is important; it can help convey the true cost of power in an industry whose costs vary hour by hour. Historically, wholesale electric markets in the U.S. have not operated on the basis of market-clearing prices, i.e., prices equal to marginal costs. Retail markets have set prices at average costs, calculated without time differentiation. For their inter-company transactions, utilities have used some form of split-savings approach, but these transactions serve as a crude proxy for competition. Recently, bilateral contracts between utilities have been set in reference to marginal costs with increasingly shorter time horizons. These contracts better reflect the marginal costs of sellers in bulk power markets.

As efficient, hourly signals, real-time prices can yield enormous savings for consumers. In restructured power markets, they will also support trading of risk-management services for customers seeking fixed or less volatile prices or other customized pricing options. Beyond consumer savings, RTP will help defer capacity needs and reduce peak loads for individual utilities. Eventually, these benefits might be seen on a regional level. In short, real-time prices built from competitive spot prices will provide the raw material for pricing and service packages (em the primary weapons of war in tomorrow's energy services market.

Early Rationale (em

a Proxy for Spot Markets

Today, many view a competitive power exchange, or "PX," as a cornerstone for electric restructuring. The typical PX would set spot prices that clear markets and ration power among competing users. It would offer price signals to aid capacity investments in new generation and load management. To offer some perspective, the history of real-time pricing programs in the U.S. can be thought of as a series of attempts by individual utilities to mimic the future operation of a PX (em to transmit prices that come closer to tracking marginal costs.

The bidding systems now contemplated by some power pools should yield spot prices that, in part, will reflect short-run marginal costs. Utilities' own systems already use short-run marginal costs as a basis for efficient dispatch of units in order to meet changes in customer demand. For the marginal-energy-cost component, present-day RTP starts with "system lambda," the short-run cost of power from the incremental unit in the dispatch order. To attain a complete proxy for a spot-market price, a second "capacity-rationing" or "scarcity-value" price component is added to system lambda to produce the hourly price.

We will not know how well current, real-time pricing programs have anticipated the future spot market until power markets emerge with independent system operators. Yet, it is