1 Introduction
Independent system operator (ISO) development within the US has been based on the UK experience. Such centralized operational planning, analysis, and implementation are duplicated in all US ISOs. The first US ISO to translate the UK operational model was the California ISO (CAISO) but the original CAISO included only sellers as bidders. The power exchange (energy mercantile association – EMA) was split from the ISO and many of the rules were copied from UK and pool experiences. Buyer bidding was added, as the ISO was formed and additional participants voted. There have been many changes within the first year; even now the number of changes are climbing. As this paper is going to press, the state legislature is deciding how and if deregulation is to continue.
Pennsylvania-New Jersey-Maryland ISO (PJMISO) was an established pool with decades of experience and its original form was to continue the pool with UK and CAISO modifications with seller and buyer bids included. The EMA and ISO were combined. However, major changes were voted after all participants could vote, including the new participants. The New England ISO (NEISO) has included many of the UK, CAISO, and PJMISO rules, but new rules for market congestion and efficiency, through control of must run units, has been added.
The many company bankruptcies and forced mergers demonstrate market instability. Volatile markets within the US prompt the question “are the markets moving in the right direction?” Are the markets gradually evolving to be efficient? Is the power system design the cause of volatile price movements? If so, are additional improvements needed to facilitate good power market structure? This paper reviews the criteria of a good market. It identifies factors that may result in a good electric market. It has not been shown at this time that the physical system is causing market instabilities, although there is insufficient information from the markets to assess the cause of the instabilities. Specifically, there is not enough market data available to determine where improvements are needed [1]. This paper examines the generally recognized market characteristics for efficiency of operation to identify why and if the power markets will evolve in the United States? When this paper is published, the State of California could be the newest utility within the United States!
2 Framework of a power market
The industry consists of several companies. The vertically integrated power industry has been divided into several entities [2]. Figure 1 shows the framework of the power industry. Federal Energy Regulatory Commission (FERC) and State Public Utility Commissions (SPUCs) are governmental bodies that regulate the industry. The Electric Reliability Organization (ERO) is a regulatory body that establishes the procedures and standards for the reliability and security of power system operation [3]. The ISO and Regional Transmission Organization (RTO) are non-profit organizations that coordinate participants in the present and future. These organizations provide surveillance to enforce all standards established by ERO on security and reliability. An EMA may be established to provide an organized way of interchanging transaction contracts. An example is the Power Exchanges (PXs) established in the state of California. Even though the EMA may develop contract specifications to allow the market participants to trade, Independent Contract Administrator (ICA) needs to approve them, before any transaction is acknowledged. EMA ensures no price distortion or market manipulation, spots illegal trading, and ensures minimal capital requirement of all members. For this reason, the two entities, ICA and EMA, may exist as one to provide all the required services to create a good market for all market participants. The ICA represents a combined ISO, RTO and EMA.
Conventional utilities have been segmented into generation companies (GENCOs), transmission companies (TRANSCOs), and distribution companies (DISTCOs). GENCOs provide the electricity and associated ancillary services. TRANSCOs are regulated companies that provide long distance transportation of electricity at high voltages, over the transmission lines. DISTCOs are also regulated companies that provide transportation of electricity at low voltages, through the distribution lines. In addition, two additional types of companies are encouraged in the new structure. Broker companies (BROCOs) provide information and negotiated contracts. Energy service companies (ESCOs) are encouraged to provide energy, security, and reliability services to customers.
Figure 1. Framework of a power market.
3 Information and market participants
Market participants may be categorized by information needs. In this section, the information needed by an ESCO, a net buyer, and by a GENCO, a net seller, are outlined.
3.1 ESCO
ESCOs collect revenues from customers for the energy and ancillary services provided. It can also act as a wholesaler, purchasing energy through the power market, and resell it to other ESCOs, GENCOs, etc. Energy may be through the market purchases or accumulated resources. Even when an ESCO owns generation, it is a net buyer of energy and ancillary services [4].
Retaining existed retail and wholesale customers and attracting the new ones are important in maintaining a consistent cash flow. ESCOs need to offer competitive price and quality of services to retain customers. They do this by building a portfolio of energy and ancillary services. Assuming that customers are value seekers, they would select the best-fit combination of price and quality of services. Then, ESCOs require the markets to provide sufficient information and trading opportunities. The various information and trading opportunities, an ESCO needs, include:
· Information on historical spot and future prices. This information is needed to evaluate the cost of serving customers.
· Trading opportunities in spot, forward, futures, and options markets. The futures and options markets let ESCOs lock in the financial obligation on cost. ESCOs need to study the inherent and market risk. These markets let ESCOs contract for long-term customer relationships. Finally, the spot markets allow trades when there is a discrepancy between the customer demand and purchased supplies.
· The contractual terms in the spot, forward, and forward options contracts should be convertible in terms of delivery period and qualities of delivered energy. If the energy contracts are heterogeneous contracts the conversion is more difficult. The delivery location contracted in the futures and options contracts may be different from that in the spot contracts, but the basis risk should have some degree of predictability to allow the ESCO to hedge against the price risk.
· If an ESCO purchases ancillary services independent of energy, the above criteria should hold for both energy and ancillary service. If not, the ESCO should know if the transportation costs were embedded in the bid price or if the ESCO has to pay for the transportation costs in addition to the bid price.
· When bidding for energy, the ESCO will need to know the contracted energy delivery location associated with the price. For example, if the contracted energy will be delivered to a group of transmission buses (zone), the ESCO will need to estimate the transportation costs to have the energy delivered to the transmission bus where the customer resides in addition to the price of energy. This is important to an ESCO in estimating the actual cost of serving customers and in developing strategies to lower such transportation costs.
3.2 GENCO
A GENCO collects its revenue from selling energy and ancillary services in the power market. Even though a GENCO may own local generation units, it is a net seller of energy and ancillary services from the power market. To keep the company operational, the GENCO incurs the cost of generation and hiring staff to carry out the daily tasks [5].
A GENCO strives to maintain efficient productivity. Thus, a GENCO needs to know what the market participants will need, maintain a low production cost, and lower the risk of uncertain for that production cost. The power market should provide sufficient information and trading opportunities for a GENCO to thrive. The information needed is similar to those found in ESCO operation with suitable replacement of terms. The GENCO is the counter party for the ESCO. Any terms associated ESCO items for the customer is replaced with the market for the GENCO. The fuel, labor or financial markets replace any associated ESCO items for the market for the GENCO. Any internal processing for the ESCO is replaced with production for the GENCO.
4 Good power market qualities [2, 6-9]
Institutional requirements for markets are based on the fundamental concept that companies need markets to collect information, inexpensively and reliably. Reilly and Brown [6] define a market as a means adopted by buyers and sellers to aid in the transfer of goods and/or services. The attributes of a good market are [6]:
· Timely and accurate information is available on the price and volume of past transactions and the prevailing bid and ask prices.
· Liquidity, meaning an asset can be bought or sold quickly at a price close to the prices for previous transactions (i.e., has price continuity), is the norm, assuming no new information has been received. In turn, price continuity requires depth.
· Transactions are contracted with all market costs, including the cost of reaching the market, the actual brokerage costs (fees), and the cost of transferring the asset.
· Prices rapidly adjust to new information; thus the prevailing price is “fair.” It is fair because it reflects all available information regarding the asset.
The
information technology evolution has significantly improved the flow of
information. The application of
information technology to the power market is considered elsewhere. The more important issue is what information
should be available to buyers and sellers.
In addition, how may the power market association on behalf of the
participants to develop contract specifications desired by both buyers and
sellers use this information?
A liquid market requires good regulations to prevent market participants from collusion or exerting market power. The “certification” of players allowed to trade can be important. Given present concerns for security, the certification issue is more sensitive. The market wishes to maximize the number of players. Thus, the market must evaluate how contract specification changes may attract more participants and thus improve market liquidity.
There
are three types of transaction costs. First, the transaction cost
corresponding to the delivery of financial obligation. There should be little credit risk. Second, the brokerage cost and cost of
reaching the market must be predictable.
The brokerage cost should include all costs to ensure reliable power
transfer. The cost of reaching the
market includes all expenses to trade.
Third, the costs corresponding to the delivery of the physical products
should be predictable [10]. The
transportation costs include transmission use, transmission losses provision,
and needed ancillary services. The cost
of power system analysis and the transportation costs for procured services are
not commonly found explicitly in other trading. Such costs result in additional spread between the bid and
offer. Handling of such procured
services have been addressed [11].
Do these factors explain the price swings? Do the big swings in prices represent a volatility that could be avoided? A good market should minimize these costs. Figure 2 shows the costs that spread the accepted bid and offer. The cost of reaching the market is not considered explicitly in the market.
If the market prices rapidly adjust to new information, there will be no surplus as shown in Figure 2. If a market is liquid and if timely and accurate information is available, any surplus will be earned by any opportunistic participant. If the market prices rapidly adjust to new information, an efficient market must have sufficient participants who will seize profit opportunities by arbitrage.
A good power market should (1) prevent market participants from colluding or exerting market power, (2) provide sufficient information to participants to analyze the market trends, (3) develop contracts or products that attract participants and (4) lower transaction costs.
Even though the brokerage fees and financial delivery fees are relatively constant, the transportation costs are not. Thus, the ISO needs to inform market participants of the transportation costs. By knowing how transportation costs and bid and offer prices change, the participant may learn to lower the transportation cost and reduce the surplus. Knowledge of excessive transportation costs will lead opportunistic participants to reduce the differences. This information will provide earning opportunities and improve transmission system reliability. ISO should identify each of these to inform the participants. If the participants know these values, the buyer (seller) of the contract will learn to purchase (sell) it at a lower (higher) price. In the long run, the surplus will be lowered.
Transportation costs, bid and offer prices are important information to be passed on to the participants. As the generation facilities and transportation facilities require time for construction, the different participants may find profitable expansion plans given the opportunity to review the information. Any excessive buildup of facilities increases the cost of energy that is passed on to the consumers. Clearly, the information about the transportation costs, bid prices, and offer prices is insufficient alone to give proper price signaling.
A good market should allow the participants to lock in future prices to assure them the opportunity to properly plan for the short and medium long term given the facilities in place. A good market should provide a place where the different participants may coordinate and compete to earn from any opportunity. To lock into future prices, the forward, future, and options markets need to be established and coordinated. It is important that the basis risk, the potential for the spot price to evolve differently from that of the future price as the future contract progresses toward delivery, should be predictable if the forward, future, and options markets are to serve their purpose.
