Tuesday, November 24, 2009

Electricity in NH - Restructuring Overview

"...the ultimate challenge for the bonsai designer is to expose the essence of the tree. "


Beginning in the early 1990s, electricity markets in New Hampshire and across the country have been restructured and reorganized.  As with the Bonsai tree pictured above, regulators have worked hard to shape these new markets, trimming, pruning, and pinning up where necessary.   The goal is to coax the new electricity markets to take on the shape of capitalism's beloved free markets.

Electricity Market Restructuring - Some historical context

In the early days of commercial electric service, electric companies mostly developed into natural monopolies.  Although there were exceptions, especially in the early wild-west days of the industry, it was soon recognized that it didn't make sense to string up redundant sets of wires to serve each potential customer.  For most of the twentieth century, electricity was provided under the staid and stable regulated monopoly model.  Electric utilities were vertically integrated and provided everything from power generation, to transmission, to neighborhood distribution and customer service.  Utilities were typically organized as investor owned for-profit firms, or municipal non-profits.  Under either model, outcomes were generally stable and predictable for everyone involved.

Then in the 1980s, there was a national trend to deregulate and restructure several industries that had historically been heavily regulated.  This move was partly fueled by the success of the conservative movement under Ronald Regan, and was later spurred along by the collapse of communism in the Soviet Union and a nearly worldwide change-of-heart on the benefits of free-market capitalism .  By the early 1990s, in the US and around the world, several industries, including airlines, telephony, and gas and electric utilities, were deregulated or restructured in hopes of harnessing the forces market competition to the benefit of investors, customers and the economy. 

Electricity Market Restructuring - The rationale

The timing of the global sea-change toward free markets couldn't have been worse for regulated electric utilities.  By the late 1980s, the industry was suffering from the effects of multiple energy price shocks during the 1970s followed by a nasty nuclear hangover.  The cost-plus-guaranteed-return pricing model of regulated electric utilities was a natural fit for nuclear power's high capital cost, low energy cost model.  With nuclear power, utilities hoped to leverage their cheap access to debt and lock in the price of electricity for years to come.  

Nuclear power promised boundless clean electricity that according to its advocates would be "too cheap to meter."  If only it had turned out to be so.  By the late 1980s, the nuclear "experiment" was floundering in a sea of red ink and ratepayers across the country were fed up.  Businesses and industrial users in the Northeast were especially hard hit by high electricity costs and demanded action from their state legislators.

Meanwhile, supporters of "deregulation" suggested that the utilities' experiment with nuclear power wasn't the problem per se.  It was just that the risk-model was broken and the regulations were excessive .  They suggested that with a free-market approach, investors would be free to search out new ways to generate electricity as they saw fit. With enough competition and enough experimentation, free-markets would ferret out the lowest cost solution and everyone would win.  As a bonus, it would be hapless investors who would bear the costs of the failures, not ratepayers.

The plan to move the electricity industry toward a free market structure started with an analysis of where competition had the best chance of working.  Electricity generation seemed like the most obvious place to start. The idea was that if independent power producers were given open and free access to statewide and regional electricity grids, market competition could flourish.

Electricity Market Restructuring - The model

To make way for competition in power generation, the market power that utilities enjoyed in both generation and transmission had to be diminished.  Different states took different approaches, but New England generally followed the design presented in the Federal Energy Regulatory Commission's (FERC) Order 888, which was issued in 1996.  This order, along with subsequent orders, presented a framework where utilities would sell off their generation capability and give up control over the power grid to pave the way for competition.  Most reform plans included the creation of a regional transmission organization to manage the power-grid and create a fair and open process for connecting to the grid.  The groundwork for restructuring in  New Hampshire was kicked-off with the creation of ISO-NE in 1997.  Regional system operators were also charged with the task of creating standardized wholesale power markets, where market participants could sell and buy electricity as though it was a commodity.

The creation of standardized wholesale power markets paved the way for another market reform.  Once power could be traded like a commodity in a "virtual world" running parallel to the wires and transformers, end-customers could choose who to buy their power from.  Regulated utilities would still maintain the distribution infrastructure, but customers could choose to buy their power from an independent  "power marketer" instead of their local utility.  The model was similar to long-distance phone service, where customers could choose a long-distance provider other than their local telephone company.

Finally, restructuring would leave legacy utilities as regulated monopolies to maintain local power distribution systems and take care of customer service.   In New Hampshire the original idea was for utilities to sell off their generation and transmission resources, however some utilities, most notably PSNH, were permitted to retain some "grandfathered" resources until the end of their useful life.  All regulated utilities in New Hampshire are prohibited from building or owning new power plants and new transmission resources.


Restructuring - Progress and Pitfalls

As I've mentioned in previous posts, New Hampshire relies on ISO-NE for both maintaining the power grid and operating regional power markets.  I've also posted about the companies in New Hampshire that own and operate power plants as independent power producers.   ISO-NE also maintains a connection queue so that power plant owners can get open an fair access to the power grid.

So far, so good, but unfortunately, it's not all roses from there.  The model for competitive electricity markets here in New Hampshire is complicated and evolving.  For lots of reasons, it's been tough to get the structure just right, and some believe that the current "sort of a free-market" system is deeply flawed.  Still others are confident that the right mix of regulation and market incentives can and will be found, and the benefits will far outweigh the costs.

Status of Electric Industry Restructuring (Source: DOE EIA, 2003)

There's lots to cover with this topic, so the plan is to do a short series of posts on some of the challenges that we're facing with restructuring here in New Hampshire and around the country.

Stay tuned...

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