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Fortnightly Magazine - November 15 2001

I will have a one-way ticket out of Milwaukee."

"IF YOU WANT PERFECT HEDGES, YOU NEED FLOWGATES." That was Shmuel Oren, the engineering professor from Cal-Berkeley, who led an engaging dialogue with Reem Fahey from Edison Mission Energy. And here's the issue: Do you get a healthier transmission sector by relying on financial hedges linked to actual physical transmission constraints at interfaces (flowgate rights, or FGRs), or from virtual hedges as we have now in the Northeast (known as fixed or firm transmission rights-FTRs), that guarantee the right to move power through congestion from point to point?

But Oren believes that while FTRs coupled with locational marginal pricing (LMP) help make gen plant siting more efficient, it doesn't tell you where to upgrade the wires. Oren adds that FTRs are fine for the holders, but he believes they impose an added socialized uplift cost on the have-nots, especially when the holders don't exercise all their rights, which leaves grid assets unused. But with FGRs, claims Oren,"the hedging contract is tied to physical elements in the grid." Reem Fahey concedes that FGRs "lend themselves better to trading in the secondary market," but she claims FTRs are more practical for traders.

"If you have an FGR system," she says, "then you have to buy 200 different FGR contracts to be hedged." Oren's answer: limit FGR trading only to the "commercially sensitive" flowgates, but then Fahey wants to know who decides that. She warns that since you can't know that in advance (or perhaps even the optimal amount of FTRs to release to auction, either, says Oren), that any program of congestion hedging contracts forces the RTO in effect to take a position in the market-to accept a certain degree of financial risk that congestion revenues will fail to cover its actual cost to the market. Does that auger for a transco-type RTO?

Fahey's solution: Trade both FGRs and FTRs. Let the traders choose.

"I'M HEARING STORIES ABOUT LOTS OF NEW GAS TURBINES BUILT IN LOUISIANA," said Commissioner Massey, "but primarily for export [to neighboring states]. They're afraid that it will take lots of transmission upgrades, and that all the upgrade costs will get rolled in, and weigh heavily on Louisiana customers."

Massey's comment drew out William K. Newman, sr. v.p. for transmission planning and operations for The Southern Company, who complained about the same thing happening in southern Mississippi and Alabama, where the natural gas is plentiful, but the need for power just isn't there.

"It's two to three times more expensive on a per-megawatt basis to build transmission than to build gas pipeline," Newman explained. "So I question the idea of building all these gas turbines at the wellhead and then assuming that you're going to string wire to get to market."

Newman's quote offered an implied indictment of LMP, and its ability to send price signals both to power producers and to grid managers to help steer capital investment to the right place.

Out West they don't much like LMP. They say it ignores costs that hydro plants incur for items not