Paper trading is here, introducing an element of speculation in wholesale electric markets.The electric power industry joined the commodity markets on March 29, 1996, when power futures began to trade on the New York Mercantile Exchange (NYMEX). This first tentative step in the commoditization of electricity promises the emergence of a paper market for power, which, as in the case of other commodities, will likely prove substantially broader and more complex than electricity's physical market. From the interaction of the physical and paper markets will surface the long-term price structure for electric power, and the discovery of the full potential for interregional trade.
As was the case with other energy commodities, the paper and financial markets will tend to exert downward pressure on power prices because, among other reasons, free trade in electrons will make evident the classic market condition of commodities: that capability to supply chronically exceeds typical demand. Current electricity rates will come to be seen as a reflection of local regulatory inertia, while the market price of electrons will internalize the economics of state and regional excess capacity, a decade of deflation in the cost of the critical generation fuels, and the effects of the historic opening of the national transmission system by the Federal Energy Regulatory Commission.
Compare electricity with fossil fuels. Figure 1 illustrates how real fossil-fuel prices fell over the last two decades from 216.3 cents per million British thermal units (Btu) to 132.9 cents, while electricity rates rose inexorably over the same period.1 In combination, fuel price deflation, uneconomic rate structures, and excess capacity represent sources of "rents" that fall prey to attack by commodity markets.