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Electric Competition, One Year Later: Winners and Losers in California

Fortnightly Magazine - March 1 1999

calculation reflects that the first unit of electricity purchased is worth a great deal. The net benefit to the buyer is the difference between the point of the demand curve (P3) and the price paid (P2). The immediately preceding kilowatt-hour is worth a little more. The polygon shows the economic value of the area below the demand curve and the price paid to the supplier.

Pacific Northwest utilities noticed that California's purchases fell below their estimates based on a careful analysis of California's needs. Prices in the market also tended to be less than the avoided costs reported to the FERC by the Californians.

Early Results: 1998 Prices

Pacific Northwest expectations for California prices under AB 1890 were mixed. Some, including the author, felt that the market concentration under AB 1890 would not change and the results would mirror experience. Others, including forecasters at Bonneville Power, predicted that the power exchange would eliminate California's market power and raise prices to competitive levels.

The 1998 results support the opinion that the power exchange has eliminated California's oligopsonistic advantage.

At the beginning of 1998, the New York Mercantile Exchange futures at the COB reflected traditional wisdom concerning the California market. In figure 2, the lower blue line reflects the best information we had concerning summer prices in the California market. The price is substantially below our true estimates of California marginal cost during the period, reflecting traders' beliefs that California would retain its dominant market position. The yellow line shows actual on-peak prices during 1998.fn2

The red line shows the NYMEX for the same trading day in 1999. NYMEX now believes that last year's prices are a good forecast for the future. This chart indicates that NYMEX, like many of the rest of us, was surprised by the prices in the summer months when California's loads increased dramatically. Prices during the rest of the year have not changed markedly. This result makes sense, as California's power requirements tend to drive the market in the summer. We would expect different fundamentals for the winter months, when Pacific Northwestern loads peak, and the spring, when the market is dominated by hydro-electric generation.

The timing for NYMEX is very important. Pacific Northwest prices are largely determined by flows on the Columbia River. Information on the river becomes available in January and improves as time passes.fn3

The price information is not sufficient in itself to signal a change in the terms of trade between California and the rest of the region. Although the "terrible twins" of administered pricing in California have put a brave face on their failings, the PX and ISO prices often cannot be explained by traditional market forces.

In September, for example, the ISO experienced a series of crisis purchases even though overall supplies were sufficient and no extraordinary events took place. Figure 3 describes the system in the first week of September.

The ISO real-time price often reached the ISO price cap of 250 mills per kilowatt-hour ($250/MWh). In effect, the ISO set spot prices to 250 mills for much of the first week