[BETA] Fortnightly

Contrary to findings, the conditions seen in June 1998 were not that unusual. And next year could promise prices even worse (em or, for the first time, real reliability problems.

The recent report by the staff of the Federal Energy Regulatory Commission on the causes of the power price spikes that occurred in the Midwest performs an important service (em it acknowledges that in competitive markets, the price of wholesale power can be quite high in periods of peak demand.

Nevertheless, the staff went wrong in reporting that the conditions behind the price spikes were unusual.

In fact, given the uncertainty of the current transition period, the next year might likely see a repeat of the 1998 spikes, or worse. That's because the transition to full deregulation is likely to prove a bit more messy than the staff report might lead one to believe.

The FERC's misunderstanding stems from its failure to undertake a loss-of-load study. The staff report also misses the opportunity to explain more clearly the extent to which policy mistakes have and appear likely to continue to help make the transition more difficult than it needs to be. A number of reforms are urgently needed during this transition, such as (1) explicit rules on generation reliability, (2) publication of independent data about reliability, (3) identification of a lead regulatory authority, and (4) a rapid finish to key parts of wholesale and retail deregulation.

Price spikes are linked inextricably with reliability problems and blackouts. Most retail customers cannot participate in wholesale markets. Instead, they must rely on utilities and policy makers. Only government action can help.

Situation: Worse Than Acknowledged

In late June 1998, in the Midwest, prices briefly reached $7,500 per megawatt-hour. That price was "extraordinarily high," in the words of the recent FERC staff report entitled "Staff Report to the Federal Energy Regulatory Commission on the Causes of Wholesale Electric Pricing Abnormalities in the Midwest during June 1998." %n1%n The report, however, goes on to downplay the event by noting that average prices were closer to $40/MWh in August and that no blackouts occurred, nor did there occur any curtailments of service to firm customers.

Most importantly, the report concludes that "combination of factors was not typical, is not likely to recur, and is not representative of how wholesale markets usually work."

These statements represent both a service to industry and a missed opportunity. They reinforce the fact that deregulated wholesale prices will on occasion be extremely high (em even hundreds of times higher than on average. Publicizing this fact is especially welcome, since one motivation for the study was to allay concerns that the high prices reflected market manipulation and should be suppressed. %n2%n However, the report fails to highlight the fact that the current transition period could well prove much more difficult than expected, with blackouts or prices higher than equilibrium levels.

A price of $7,500/MWh is extremely high (em even if the FERC correctly concludes that some very high price spikes are part of a regulated power business. Were those prices to prevail for even