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Scarce Resources, Real Business or Threat to Profitability?

Fortnightly Magazine - October 1 1997

rules benefit them. Curtailment procedures affect the profits of individual transactions. The ISO takes control over corporate assets and nobody cares. Is anybody out there? t

Marija Ilic is a senior research scientist at MIT. Leonard S. Hyman is a senior industry advisor at Smith Barney Inc.

Table 1. Electricity Infrastructure and Demand in the U.S.

% Annual Growth

1975 1985 1995 1975-1985 1985-1995

Capacity (1,000 MW) 527.6 711.6 817.2 3.0 1.4

kWh Generated and Imported (Billions) 2014.2 2614.2 3450.9 2.6 2.8

Peak Load (1,000 MW) 356.8 460.5 620.5 2.6 3.0

Transmission Circuit Miles (1,000s) 513.9 607.1 672.2 1.7 1.0

Source: Edison Electric Institute

Table 2. Dutch Auction Bids Example (Requires Amount = 550 kWh)

Bid Amount Marginal Cost Price/ Available Price Revenue to Produce Profit cents from Amount Paid/ Received at Bid on per Bidder Accepted cents per by Bidder Price TransactionBidder kWh (kWh) by ISO kWh (cents) (cents) (cents)

A 0.5 100 100 2.0 200 50 150

B 0.6 50 50 2.0 100 30 70

C 1.0 200 200 2.0 400 200 200

D 1.5 150 150 2.0 300 225 75

E 2.0 60 50 2.0 100 100 0

F 3.0 100 0 (em (em (em (em

G 4.0 50 0 (em (em (em (em

550 1100 605 495

Note: ISO requires 550 kWh. Seven bid at marginal cost. The ISO accepts all the power bid from A to D and part of E's bid power. All bidders collect 2.0 cents per kWh. The accepted suppliers receive 1100 cents, which is 495 cents above marginal cost. That profit represents a return on investment.

1This policy resembles the Federal Power Commission's old and discredited attitude toward natural gas pricing. Gas, the agency believed, was discovered only as a by-product of oil exploration. Therefore, there was no reason to raise gas prices to induce greater supply.

2Richard E. Balzhiser, "Technological Transformation: What's the Bottom Line," presentation to Wall Street Utility Group, Jan. 18, 1996, New York City.

3Marija Ilic, Leonard Hyman, Eric Allen and Ziad Younes, "Transmission Scarcity: Who Pays?" Electricity Journal, July 1997.

4The ISO itself seeks bids from service providers to determine the lowest cost means of consummating the transaction. See M. Ilic, L. Hyman, E. Allen, R. Cordero and C-N. Yu, "Interconnected System Operations and Expansion Planning in a Changing Industry," in Shimon Awerbuch and Alistair Preston, eds., The Virtual Utility: Accounting, Technology and Competitive Aspects of the Emerging Industry (Boston: Kluwer, 1997).

5As an alternative, one could attempt to modify the existing regulatory system, putting emphasis on long-term incremental costs. That, at least, might help to attract capital to transmission. See Alfred F. Mistr, "Incremental-Cost Pricing: What Efficiency Requires," PUBLIC UTILITIES FORTNIGHTLY, Jan. 1, 1996, p. 33. See also, "Electric Transmission: Jury Still Out on Flow-Based Pricing," by Bruce W. Radford, PUBLIC UTILITIES FORTNIGHTLY, June 15, 1997, p. 41.

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