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California Energy Crisis

Dariush Shirmohammadi
Shircons@aol.com

October 22, 2001
Outline

Major Events Leading to Deregulation of Electric Power Utility Industry in
California
California Deregulated Electric Power Utility Industry

California Energy Crisis – lessons learned

Dariush Shirmohammadi
Deregulation and Reregulation?
Electric power utility Industry in the U.S. operates under a large number of
rules and regulations:

l The most important rules and regulations are:
– “Cost of service” pricing which says rate charged for electric power
services at both wholesale and retail levels must reflect reasonable
cost of such services
– Obligation to buy from franchise utility
– Obligation to serve customers in franchise service territory
– The above three rules are referred to as “Regulatory Compact”
l Several regulatory bodies that oversee the operation of electric power
utility Industry – these include:
– Federal Energy Regulatory Commission (FERC)
– State Public Utility Commission (in California it is called CPUC)

Dariush Shirmohammadi
Deregulation and Reregulation

Deregulation does not mean the rules and regulations under which electric
power utility industry operates will go away:

l Deregulation is principally meant to relax the Regulatory Compact:
– Allow rates for wholesale or retail electricity to be decided on a
competitive (or market) basis
– Allow customers to buy from “Energy Service Provider” of their
choice
– Allow utilities to serve select customers (?!)

Reregulation principally indicates some level of return to “Regulatory
Compact”.

Dariush Shirmohammadi
Major Events Leading to
Utility Industry Deregulation in California

1978 – US Congress passes Public Utility Regulatory Policy Act (PURPA)

1990 – England and Wales restructures (decentralized) its utility industry

1992 – Federal Energy Regulatory Commission issues Energy Policy Act (EPACT’92)

1994 – California Public Utility Commission Blue Book (CPUC) on Restructuring of utility industry

1995 – CPUC Policy Decision mandated the start of California electric industry restructuring

1996 – FERC issues Orders 888 and 889

1996 – California Assembly passes Bill AB-1890

1996 – FERC approved the formation of CaISO and CalPX

1997 – CPUC mandates full retail competition

1998 – CaISO and CalPX start operation
Dariush Shirmohammadi
PURPA: US Public Utility Regulatory Policy Act of 1978

Law passed by US Congress in 1978, mandated utilities to buy the output
of certain types non-utility generators (Qualifying Facilities or QFs) at
“avoided cost” prices.

California was among the sates most impacted by PURPA:
l CPUC mandated California IOUs to purchase large sums of energy and
capacity from QFs at very high prices
– QFs refers to both generators using renewable resources and
co-generators (generators whose steam by-products was used for
other industrial applications)

Dariush Shirmohammadi
PURPA

PURPA had several very important and unintended consequences:
l Created a very strong independent generation sector and the relevant
supporting markets and regulatory institutions
– This sector plus the supporting traders became a major lobby group
who have been instrumental to bringing deregulation of electricity
markets throughout the country
l It proved that generation did not have to part of a vertically integrated
entity in order to operate reliably and efficiently

l It promoted the development and deployment of highly efficient and
modularized such as Combined Cycle Gas Turbine (CCGT)
– It proved the bigger was no longer more efficient when it came to
generators

Dariush Shirmohammadi
Privatization of England’s Electric Power Utility Industry

England (and Wales) liberalized (decentralized) its electric power industry
by breaking up its central utility (CEGB) and privatizing many of its power
plants.

The functioning of new market in England, albeit with difficulty, encouraged
similar experiments around the world and specially in California:
l Many of the market protocols from England and Wales were adopted in
California
l Many of the people who designed the electricity market in England
contributed to the design of the California electricity markets as well

Dariush Shirmohammadi
Privatization of England’s Electric Power Utility Industry

Market deregulation in England resulted in long-term efficiencies gains
through following mechanisms:
l Better generation investment decision and construction
– Independent power producers (IPPs) showed that they can develop
power plants more cost effectively
• generation is normally the largest component of the electricity cost

l De-politicizing resource planning process
– IPPs were not bound by resource planning processes that had
become very politicized in favor of various social causes

l More efficient operation of generating units
– IPPs usually operated more efficient plants (CCGT)
– IPP plants were operated by fewer staff with lower pays

Dariush Shirmohammadi
Privatization of England’s Electric Power Utility Industry

l Retirement of uneconomical generating plants
– IPPs did not shy away from retiring inefficient plants

l Economically efficient price signals
– Many of the political and cross subsidies in prices were removed

l Introduction of innovative technologies

Dariush Shirmohammadi
Privatization of England’s Electric Power Utility Industry

Efficiencies were truly gained in the UK electric power industry but were
not, by and large, passed onto customers:

l Although liberalization of England’s electricity markets was an overall
success, the exercise of market power by some generators and lack of
sharing of the benefits with customers resulted in the introduction of
many new rules and caused the redesign of the electricity markets in
England

Dariush Shirmohammadi
US Electric Power Utility Industry - EPACT’92

EPACT’92 was intended as a major step to wholesale competition in the US
electricity markets
l Allowed utilities to own independent power plants
l Allowed utilities to own assets in foreign nations
l Enabled FERC to order wholesale wheeling
l FERC required utilities to publish detailed information about available
transmission capacity
l FERC required utilities to provide transmission service comparable to the
one they provided to their own customers
l FERC required open access tariffs in merger and market based rate cases
l FERC encouraged the formation of Regional Transmission Groups (RTG)

EPACT’92 fell short of spurring wholesale competition in any major fashion.

Dariush Shirmohammadi
US Electric Power Utility Industry – FERC Orders 888 & 889

FERC Order 888: Promote Wholesale Competition Through Open Access
Non-Discriminatory Transmission Service.
l Required transmission owners to file open access transmission tariffs
– Transmission owners had to provide “Network” and “Point-to-
Point” transmission service comparable to services provided to
their own retail customers
l Established federal principles on recovery of “stranded costs”

Dariush Shirmohammadi
US Electric Power Utility Industry – FERC Orders 888 & 889

FERC Order 889: Open Access Same Time Information System (OASIS).
l Required transmission owners to deploy an electronic system that
would display information regarding available transmission capacity
(ATC), ancillary services requirements, and prices
l Required utilities to functionally separate their system operation and
merchant functions
– Established code of conduct for interaction among the staff of
these organizations

Dariush Shirmohammadi
Geographic Map of ISOs and RTOs in the United States

New
England

New York
CV

RTO West Midwest
NMK

GPU
Crescent GPU

Moon Alliance PJM
GPU PPL
GPU

LGE

CA
SPP/
Entergy

DesertStar GridSouth
ETR
SETRANS

ERCOT

GridFlorida

Dariush Shirmohammadi
Specific Events Leading to the Start of California
Electricity Market
PUC Orders Open Access
First FERC Filling Separate CalPX and CaISO
Gov. signs Elec. Dereg. Restructuring Bill AB1890: CaISO/CalPX operating by 1/1/98
$250M spending authorized, Trustee appointed
First procurement contract signed
CaISO/CalPX oversight/governing boards appointed
CPUC issues direct access order
Building of systems starts
Add/change bus. protocols
Final Filing to FERC
FERC Approves Filings
CaISO Operational Dry Run starts
Extended testing

Operation starts

12/95 4/96 9/96 1/97 3/97 5/97 8/97 10/97 11/97 1/1/98 3/31/98
Dariush Shirmohammadi
AB1890: Principle Rules of California Electricity Market

The major provisions of the law AB1890:
l Retail customers can select to receive their generation service through a
Energy Service Provider (ESP) of their choice
l Investor Owned Utilities (IOUs) have to provide open access to their
transmission and distribution systems
– IOUs are: Pacific Gas and Electric (PG&E), Southern Califonia
Edison (SCE) and San Diego Gas and Electric (SDG&E)
– IOUs are also referred to as UDCs (Utility Distribution Companies)
– California Independent System Operator (CaISO) was formed and
took control of IOUs’ transmission system to effectively guarantee
this access (among other of its responsibilities)
l IOU prices are to be unbundled to separately account for cost of
generation, transmission and distribution

Dariush Shirmohammadi
AB1890: Principle Rules of California Electricity Market

The major provisions of the law AB1890:
l IOUs default generation rates for bundled retail customers (those who
did not change their energy service providers) is set equal to wholesale
generation spot prices plus necessary adjustments
l Distribution charges are calculated based on Performance Based
Ratemaking (PBR) process
l Two new non-profit entities are formed
– California Independent System Operator (CaISO) with prime
responsibility to reliably and efficiently operate the transmission
system
– California Power Exchange (CalPX) with prime responsibility of
running Day-Ahead and Hour-Ahead forward (spot) markets for
buying and selling energy and capacity

Dariush Shirmohammadi
AB1890: Principle Rules of California Electricity Market

The major provisions of the law AB1890:
l IOUs could recover their stranded cost over a four year period through
a charge item called “Competitive Transition Charge (CTC)”
– During this 4 year period, retail rates for small customers were
frozen at 10% below the rate before deregulation start
• IOUs were allowed to issue bonds (to be repaid by customers) in order
cover the cost of freezing their rates
– During this 4 year period, IOUs must supply all their supply needs
through CaISO and CalPX and must sell all their energy into CaISO
and CalPX
l Two largest IOUs (PG&E and SCE) were ordered to “volunteer” to
divest out of at least 50% of their fossil generation capacity in order to
mitigate their horizontal market power
– All three IOUs effectively sold their entire fossil generation capacity
to Independent Power Producers (mainly utilities from other states)
Dariush Shirmohammadi
Process of Deregulation in California

1994 to 1997 - Numerous meetings of the representatives of industry (IOUs,
power marketers, etc.), customer groups, and regulators to design business
protocols:
l Very contentious process
l Most of business protocols designed

May 1997 to March 1998 - CaISO and CalPX systems were built:
l At times quality was sacrificed in order to meet the January 1, 2000
deadline
l Many of business protocols were developed/modified during and as a
result of developing the systems
– Some due to limitations of IT systems

Dariush Shirmohammadi
California Utility Industry before Deregulation
QF
Generator Generator Resource
kWh

i

kWh
h
k W
Transmission kWh Transmission
System
i System
kWh

kWh
Distribution Distribution
System System
kWh

kWh
i

i
Customer Customer
Dariush Shirmohammadi
Vertically Integrated Utility (IOUs)

Major Responsibilities of IOUs before deregulation:
l Plan
l Build
l Operate
l Manage Regulators
l Manage Customers
l Manage QFs
l Design and Collect Rate

Dariush Shirmohammadi
California Utility Industry after Deregulation:
Intended Structure

Generator Generator Generator

kWh
kWh

kWh
Transmission System

kWh
kWh

kWh
Distribution Distribution
System Distribution System
System

kWh
kWh

kWh

Customer Customer
Customer
Dariush Shirmohammadi
California Utility Industry after Deregulation
Actual Structure
Energy
Energy Supplier
Energy
Supplier $i
Supplier Supply
i $ $ i Broker
Scheduling
Coordinators (
$ i
(
y

(
(SCs)
ne
Power

h
kWh
mo

kW
kW
Exchange (PX)
&

$i
(

o.

( d mone
y
Inf

h
info an
market
Some A/S
(o and money
ISO Some market inf
Provider
$
i

Wh

$
kW, k

i
(

$
Transmission

i
Owner (TO)
$

(
i

kWh Retailer
Retailer Utility Distribution
Company (UDC)
min mrkt info.

$i k$Wh
$

mi
i

h nm
kWh

kW ark
$

et
inf
o.
Direct Access
Customer (DAC) Direct Access Bundled Retail
Customer (DAC) Custmr (BRC)

Dariush Shirmohammadi
California Energy Market Participants

l Energy Suppliers
l Transmission Owner (TOs)
l Utility Distribution Companies (UDCs)
l Bundled Retail Customers (BRC)
l Direct Access Customers (DAC)
l Independent System Operator (CaISO)
l Power Exchange (CalPX also an SC)
l Scheduling Coordinators (SCs)
l Supply Aggregators/Marketers/Brokers
l Retail Aggregators/Brokers/Retailers
l Ancillary Services Providers

Dariush Shirmohammadi
Deregulated California Utility Industry:
Energy Flow and Controls

Energy Supplier Energy Supplier

Scheduling
Coordinators Power Exchange
( (PX)

(

h
(SCs)

h
kW
(

kW
(

A/S
( Provider
ISO
( Transmission kW
Owner (TO)
(
kWh
Retail Utility Distribution
Marketer Retail Marketer
Company (UDC)

kW
h
kWh

kW h
Direct Access Bundled Retail
Customer (DAC) Direct Access
Customer (BRC)
Customer (DAC)

Dariush Shirmohammadi
Deregulated California Utility Industry:
Energy and Money Flows:

Energy Supplier Energy Supplier

$ $
Scheduling
Coordinators Power Exchange
(PX)

kWh
(SCs)

h
kW

$
A/S
Provider
ISO
$

$
kW

$
Transmission
Owner (TO)
$

kWh
Retail Utility Distribution
Marketer Retail Marketer
Company (UDC)

k
h $ Wh
kWh
$

kW $
Direct Access Bundled Retail
Customer (DAC) Direct Access
Customer (BRC)
Customer (DAC)

Dariush Shirmohammadi
Deregulated California Utility Industry
Information and Money Flows:

Energy Supplier Energy Supplier

i $ $ i
Scheduling
Coordinators Power Exchange
y

(PX)
ne

(SCs)
mo

oney

i
&

$
and m
fo.

info
arket
In

m
Some A/S
Provider
ISO Some mar ket info and m
oney
$

$
i

$

i
i
Transmission
Owner (TO)
$
i

Retail Utility Distribution
Marketer Retail Marketer
Company (UDC)
min mrkt info.

mi
nm
$i
$

$?
i

ark
et
inf
o.
$
Direct Access Bundled Retail
Customer (DAC) Direct Access
Customer (BRC)
Customer (DAC)

Dariush Shirmohammadi
California Market Structure

California has a mix of several interrelated markets:

l Markets are defined by the commodities (services) traded
– Energy
– Transmission
– Ancillary Services

l Markets are defined by time-frame of the trade
– Day-ahead
– Hour-ahead (Day-of)
– Real-time

Dariush Shirmohammadi
Energy Markets

Structure allows multiple forward energy markets:

l Bilateral Markets
– Marketers develop their own trading and pricing rules
– Schedule supplies and demands with the Independent System
Operator (CaISO) through Scheduling Coordinators (SCs)

l California Power Exchange (CalPX -- a particular SC)
– Day-ahead and hour-ahead pool auctions

A single real-time energy market run by CaISO.

Producers and consumers can select the energy markets in which they
wish to trade.

Dariush Shirmohammadi
Transmission Markets

CaISO runs day-ahead and hour-ahead transmission markets via
Congestion Management (CM) process:
l CalPX and other SCs bid for transmission access

CaISO also auctions transmission over longer terms:
l Firm Transmission Rights (FTRs) are financial rights to collect
congestion revenues
l FTRs have physical tie-breaker rights
l FTRs auctioned yearly by CaISO
l FTRs can be traded freely in multiple secondary markets

Dariush Shirmohammadi
Ancillary Service Markets

CaISO specifies ancillary service (A/S) requirements.

CaISO runs day-ahead and hour-ahead markets:
l Suppliers can bid to sell reserves or regulation capacity
l SCs can purchase their requirements

SCs can also self-provide their A/S requirements.

Dariush Shirmohammadi
CalPX Day-Ahead and Hour-Ahead Energy Markets

PX day-ahead energy market uses optimization:
l Minimize cost of supplies minus value of demands scheduled
l Schedule at intersection of supply and demand curves

Price
Overall Supply Curve

P* Overall Demand Curve

Q* Quantity

Dariush Shirmohammadi
CaISO Day-Ahead and Hour-Ahead Transmission Markets

SCs bid for the transmission required for their energy schedules in each
hour of the day.

CaISO allocates transmission capacity to SCs to maximize the value of the
available transmission:
l CaISO does not run a forward energy market
– CaISO does not arrange trades between SCs beyond those that the
SCs arrange themselves

CM process does not model inter-temporal constraints:
l CM process in one hour is independent of CM process in other hours of
the day

Dariush Shirmohammadi
CaISO Ancillary Service (A/S) Auctions

Five Ancillary Services in California structure:
l Regulation Down
l Regulation Up
l Spinning Reserves
l Non-spinning Reserves
l Replacement Reserves

CaISO sets requirement for each Ancillary Service:
l SCs can self-provide A/S capacity
– CaISO determines amount of self-provided A/S that it can use
l CaISO and CalPX run auctions to acquire remaining A/S capacity

Dariush Shirmohammadi
California Independent System Operator (CaISO)

An independent not-for-profit company to:
l Facilitate energy market operation in California
l Ensure reliability of power system operation

Dariush Shirmohammadi
CaISO Responsibilities
Provide Open and Nondiscriminatory Access to the Grid
l Honor Existing Transmission Contracts

Ensure transmission system reliability and efficiency:
l Manage transmission congestion: Transmission Market
l Procure needed A/S based in a competitive auction: Ancillary
Services Market
l Conduct “real-time” imbalance energy: Real-time Market
l Coordinate the operation of forward markets

Dispatch generation and transmission systems.

Perform related financial settlements functions.

Dariush Shirmohammadi
CaISO Principal Components
Physical Facilities: Folsom and Alhambra

Primary systems
l Data Communication: Private Intranet (Wenet)
l Power System Operation: EMS and SCADA
l Market Operation: Scheduling Infrastructure (SI) and Scheduling
Applications (SA) Subsystems
l Back Office Operation: Meter Data Acquisition System (MDAS),
Settlement, Billing & Credit and Administrative Subsystems
l Market Monitoring: Datawarehouse

Dariush Shirmohammadi
CaISO Integrated System Operations

Scheduling Infrastructure Balance of Business System
• Settlements ready
• Final Schedules
• Energy & A/S Bidding & Schedule • Final Prices Settlements
Meter Data
Schedules/Bids
Intranet
WEnet))

Management
(WEnet

•Settlements

Market Information Billing & Credit
• Settlements
Publishing • Final Schedules
• Public Info. Admin. Systems
• Adj/Final Schedules
• A/S and Ex-post Prices • Load Forecasts
• Congestion Prices • Bids/Schedules
• Gen. Loss Multiplier
• Tx Utilization Scheduling Applications
Ancillary Services
Market Participants Scheduling & Pricing Power Management
(CalPX,SCs,TOs,UDC • Net Interchange
System
Congestion Mgmnt
s) • Balancing Energy
Network Security
& Pricing
• Network Model
Balancing Market & • Dispatch Info. System Dispatch
• System Load
Ex-Post Pricing
Transmission
Metering Assessment • Disputes
Agent • Invoices

• Energy Meter Data
Meter Data Acquisition System
Dariush Shirmohammadi (MDAS)
California Power Exchange (CalPX)

An independent not-for-profit company to:
l Conduct energy auction in forward markets
l Match supply and demand bids and evaluate Market Clearing Price
l Settle forward markets

Dariush Shirmohammadi
CalPX Responsibilities

Provide a competitive spot market for electricity with published prices.

Act as an SC for CalPX participants:
l Balance resource and load schedules
l Schedule transactions with CaISO
l Self provide or procure from CaISO ancillary service obligations
l Participate and pay for congestion management
l Respond to CaISO operating instructions during emergency and
curtailment
l Perform CalPX financial settlement functions

Dariush Shirmohammadi
CalPX: Principal Components
Physical Facilities: Alhambra and Folsom (Folsom site was never
completed)

Principal Systems:
l Data Communication: Wenet
l Market Operation: Trade Application, ISO Data Bridge, Zonal Price
Calculator
l Back Office Systems: Settlement, Billing & Credit, Meter Data
Management
l Market Monitoring: Datawarehouse

Dariush Shirmohammadi
CalPX Integrated System Operation
Customer Interface Function Trading & Scheduling Functions
WEnet))
Intranet

Customer Interface

Intranet
WEnet))
(WEnet

Trading

(WEnet
Customer Registration CAO (IS0) Gateway

Web Publishing Price Calculation*

Market Participants Settlements & Clearing Functions CaISO
Compliance Function Settlements Calculation

Data Warehouse Dispute Resolution

Analysis Metering*

Invoicing

Credit Management
Dariush Shirmohammadi
California Electricity Market Fundamentals before Crisis:
Consumption, Wholesale Prices, Retail Prices
24,000,000 $350
Source: CaISO
23,000,000
$300
22,000,000

21,000,000 $250

20,000,000
$200

19,000,000

$150
18,000,000

17,000,000 $100

16,000,000
$50
15,000,000

14,000,000 $0
Apr-98

Apr-99

Apr-00
Aug-98

Aug-99
Jun-98

Oct-98

Jun-99

Dec-99
Dec-98

Oct-99
Feb-99

Feb-00

Dariush Shirmohammadi
California Electricity Market Fundamentals:
Representative of IOUs’ Contribution to Stranded Costs
24,000,000 $350

23,000,000
$300
22,000,000

21,000,000 $250

20,000,000
$200

19,000,000

$150
18,000,000

17,000,000 $100

16,000,000
$50
15,000,000

14,000,000 $0
Apr-98

Apr-99

Apr-00
Aug-98

Aug-99
Jun-98

Oct-98

Jun-99

Dec-99
Dec-98

Oct-99
Feb-99

Feb-00

Dariush Shirmohammadi
Average Wholesale Price Calculation (source: CaISO)

l The forward market costs are computed using CalPX prices and the
total forward schedules (CalPX and bilateral) before Jan. 2001.
Thereafter, they are computed as the sum of the production costs for
the IOU generation, CDWR forward contracts scheduled, and other
bilateral contracts priced at trading hub prices.
l The Out of Market Costs and RMR are computed per corresponding
contract or purchase agreement.
l The real-time costs are computed using the MCP before December 8,
2000. Thereafter, they are computed using the MCP for bids below soft
cap and as-bid above.
l The sum of the above is the total cost of energy.
l The average cost is computed by dividing the total cost by the total
quantity.

Dariush Shirmohammadi
California Electricity Market Fundamentals:
Retail Customers Switch Over

Customer Class Percent of Customers Percent of Load
Switched by Year 2000 Switched
Residential 1.7 2
Small Commercial 3.4 4.2
Large Commercial 6.5 14.6
Industrial 20.1 32.0

Source: CPUC

Dariush Shirmohammadi
California Electricity Market Fundamentals
Emergency Alerts

Event 1998 1999 2000 2001
(Till June)
No Touch 8 12 77 103
Warning 7 2 34 104
Stage 1 Emergency 7 4 55 58
Stage 2 Emergency 5 1 36 54
Stage 3 Emergency 0 0 1 36

Source: CaISO

Dariush Shirmohammadi
California Electricity Market Fundamentals

Low wholesale prices allowed utility company’s to operate profitably and
recovering their stranded cost:
l Retail rate (collected by IOUs) remained higher than the wholesale rate
(paid by the IOUs)

Low occurrence of emergency and outage conditions indicated reliable
system operation.
Low switchover rate, specially for smaller customers, meant that it was
difficult for other ESPs to compete with IOUs based on price at retail level:
l Mainly attributed to requirement for all demand to pay for Competitive
Transition Charge (CTC or stranded cost)

Dariush Shirmohammadi
California Energy Crisis
Consumption, Wholesale Prices, Retail Prices
24,000,000 $350

Source: CaISO
23,000,000
$300
22,000,000

21,000,000 $250

20,000,000
$200

19,000,000

$150
18,000,000

17,000,000 $100

16,000,000
$50
15,000,000

14,000,000 $0
Apr-98

Aug-98

Apr-99

Aug-99

Apr-00

Aug-00

Apr-01
Jun-98

Jun-99

Oct-99

Dec-99

Jun-00

Dec-00
Oct-98

Dec-98

Feb-00

Oct-00
Feb-99

Feb-01
Dariush Shirmohammadi
California Energy Crisis
Representative of IOUs’ Financial Losses
24,000,000 $350

23,000,000
$300
22,000,000

21,000,000 $250

20,000,000
$200

19,000,000

$150
18,000,000

17,000,000 $100

16,000,000
$50
15,000,000

14,000,000 $0
Apr-98

Aug-98

Apr-99

Aug-99

Apr-00

Aug-00

Apr-01
Jun-98

Jun-99

Oct-99

Dec-99

Jun-00

Dec-00
Oct-98

Dec-98

Feb-00

Oct-00
Feb-99

Feb-01
Dariush Shirmohammadi
California Energy Crisis

Emergency alerts increasing with frequent load interruptions, brownouts
due to supply shortage and transmission constraints
l Many of these alert conditions were occurring during non-peak load
conditions

Event 1998 1999 2000 2001
(Till June)
No Touch 8 12 77 103
Warning 7 2 34 104
Stage 1 Emergency 7 4 55 58
Stage 2 Emergency 5 1 36 54
Stage 3 Emergency 0 0 1 36
Source: CaISO

Dariush Shirmohammadi
Causes for California Energy Crisis

Demand kept on growing in California and the West due to an economic boom:
l Demand growth in California between 1996-2000: 3000 MW*
l Demand growth in the West between 1996-2000: 8200 MW*

Very little new generation was added in California or the West:
l Total generation capacity added in California between 1996-2000: 400 MW*
l Total generation capacity added in the West between 1996-2000: 3000 MW*

Severe reduction in hydro energy from Northwest:
l Northwest traditionally supplied about 15% of energy consumption in
California
* Source: EEI

Dariush Shirmohammadi
Causes for California Energy Crisis
Fixed retail rate would not allow IOUs to recover their cost of buying energy
in wholesale markets:
l At the same time retail customers who were not seeing the high
wholesale prices had no incentive to conserve energy
Inability of IOUs to hedge their risk by purchasing long-term energy:
l IOUs had to rely on spot market for practically all energy purchases
– CPUC had disallowed long-term energy contracts by IOUs
– Later CPUC allowed IOUs to buy up to 25% of their energy needs in
CalPX’s long-term block forward market
Competing with neighboring utilities for the same energy:
l While neighboring utilities could pay much higher for the energy since
their payment would not set the marginal price for the entire demand

Dariush Shirmohammadi
Causes for California Energy Crisis

“Exercise of Market Power by IPPs:”
l Utilities had to buy the output of the units that they once owned at very
high wholesale prices
– According to CaISO, 30% of wholesale electricity price was due to
market power exercise through physical and financial capacity
withholding
– According to Kahn and Joskow, wholesale market prices during
Summer 2000 period “far exceeded competitive benchmark prices”

FERC refused to take any actions based on market fundamentals and
mainly focused on market structure.

Dariush Shirmohammadi
California Electricity Market Today

PG&E and SCE, stopped paying for wholesale energy they had purchased
in the electricity market:
l PG&E declared bankruptcy and recovering under a very new shape
l SCE has been close to insolvency but will survive based on the recent
rate increase approved by the CPUC
l California Department of Water Resources (CDWR) stepped in to buy
electricity for IOUs
– CDWR has contracted for about $40B of short and long-term energy
– California’s credit rating has slipped from AA to A+

CalPX was forced to declare bankruptcy:
l Effectively terminated the electricity spot market as the main source of
energy procurement in California

Dariush Shirmohammadi
California Electricity Market Today

California implemented aggressive conservation and demand
management programs:
l Raised average retail rate by more than 30%
– Bulk of price increase is for those with high consumption
l Demand has reduced by 12% between 2000 and 2001

California streamlined the process of generation approval
l $1M rewards was given to generators that came on line by summer
2001
l More than 1000 MW of new generation have come on line by
summer 2001

Dariush Shirmohammadi
California Electricity Market Today

FERC ordered a major price mitigation measure across the west:
l Normal day prices will be set at 85% of the last Stage 1 emergency
l During emergencies production cost of the most expensive dispatched
generator would set the price
l FERC had granted market-based rate authority without sufficient review
of conditions allowing exercise of market power
California (CPUC) has effectively canceled retail competition:
l Large customers are disputing this decision of CPUC

California has established Consumer Power and Conservation Financing
Authority (CPCFA).

Dariush Shirmohammadi
California Electricity Market Today
24,000,000 $350

Monthly Consumption (MWh)
23,000,000
Average Energy Cost per MWh $300
22,000,000

21,000,000 $250

20,000,000
$200

19,000,000

$150
18,000,000

17,000,000 $100

16,000,000
$50
15,000,000

14,000,000 $0
Jul-98

Jul-99

Jul-00

Jul-01
Mar-99

Mar-00

Mar-01
May-98
Jun-98

Jan-99

May-99
Jun-99

Jan-00

May-00
Jun-00

Jan-01

May-01
Jun-01
Apr-98

Apr-99

Apr-00

Apr-01
Sep-98

Nov-98
Dec-98

Sep-99

Nov-99
Dec-99

Sep-00

Nov-00
Dec-00
Feb-99

Feb-00

Feb-01
Oct-98

Oct-99

Oct-00
Aug-98

Aug-99

Aug-00

Aug-01
Dariush Shirmohammadi
Source: CaISO
Closing

While deregulation of electric power industry has, by and large, been
successful worldwide, it failed in California:

l There is need for careful design and implementation of such markets
– California market was implemented from scratch in less than a year
• start date was considered more important than any other consideration
– Many of the rushed business protocols that were “broken” became
ingrained in the market and very difficult to correct later

l There is need for close oversight of deregulated markets
– FERC allowed a broken market to continue operation for too long

Dariush Shirmohammadi
Closing

l There is need for close oversight of deregulated markets
– FERC allowed a broken market to continue operation for too long

l There is need for close cooperation among all major stakeholder to
identify signs of crisis and implement solutions
– During the entire deregulation process and energy crisis in CA,
regulatory bodies, IOUs, CalPX and CaISO deeply mistrusted each
other and pointed finger at one another rather than solving the
problems

Dariush Shirmohammadi