© UB-SK-DEREGULATION-0701-1 Deregulation in the Aftermath of California Steve Kean EVP and Chief of...

© UB-SK-DEREGULATION-0701-1

Deregulation in the Aftermath of California

Steve KeanEVP and Chief of Staff

INGAA Analyst ConferenceHouston, Texas

July 13, 2001


Overview

• Rationale for deregulation

• California– What happened

– Outlook– Lessons learned

• Status of deregulation


Rationale forDeregulation


Benefits of Deregulation

• Not a “zero sum game”

Net benefits created

Better solutions to transition issues

• Cost savings

• Improved reliability

• Improved product choices

• Improved allocation of capital

• Improved allocation of risk

• Improved development and deployment of technology

Improved

speed

flexibility

solutions

to problems in the market


Benefits - Cost SavingsPrice Decrease from Deregulation in Five U.S. Industries

Source: Brookings Institution/George Mason University

0

10

20

30

40

50

2 years

5 years

10 years

40%

Per

cen

t D

ecre

ase

RailroadsTrucking Airlines Long DistanceTelecom

Natural Gas


Benefits - Cost Savings U.S. Average Gas Prices by Sector 1985 vs. 1998

(In constant 1998 Dollars)

The average price to all end users has fallen 43% to date under open access. In the decade prior to open access, prices increased by 71% adjusted for inflation.

0

1

2

3

4

5

6

7

8

9

10

Residential Commercial Industrial ElectricGeneration

-26%

-34%

-49%-56%

$/M

MB

tu

19851998


Benefits - Cost Savings City Gate Gas Prices

1.5

2

2.5

3

3.5

4

4.5

1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997

0

50

100

150

200

250

300

U.S. City Gate Prices (Nominal $)

U.S. City Gate Prices (Real 1984 $)

Cumulative Savings Attributed to Deregulation (Nominal $)

Cumulative Savings Attributed to Deregulation (Real 1984 $)U.S. DOE Natural Gas AnnualU.S. DOE Natural Gas Monthly

Sources:

$/M

Mb

tuB

illion

s


1991 1994 1995 1996 1998

7.25¢ 6.71¢ 6.85¢ 6.54¢5.40¢

Wholesale Liberalization; Privatization of electricity

supply, distribution

and fossil fuel generation

Electricity supply choice extended to more large customers

Coal industry privatized (stranded

cost recovery)

Fossil fuel levy reduced; applied only

to public sector

generation

Retail electricity

competition begins

Benefits - Cost SavingsU.K. Market Transition Timeline

(In Cents per KWH)

Source: OECD Data


Benefits - Product Choice

• Electrons are fungible but contract terms and contracting parties are not

• Physical product differentiation

– quantity

– delivery terms - firm, nonfirm and everything in between

– flexibility to changes in load requirements (timing)

– flexibility in take obligations-

– equipment

– ease -- combining services


Benefits - Efficiency in Capital Investment(Avoiding future stranded costs)

• Open market produces forward price signals

– market-driven, not projections

– signals producers whether investment in new facilities will be supported by the market

• Open market forces producers to find lowest cost solution

– enhancements to existing facilities

– conservation, DSM investments

– “debottlenecking” of existing system

• Forward market makes it possible to finance long term investments more economically


Benefits - More efficient allocation of risk

• Price volatility imposes costs separate and apart from price level

– investors

– manufacturers

• Today, risks of price volatility are allocated to those who are least able to handle them - end users

• In an open market, risk is allocated to those in the best position to manage it - intermediaries


• What happened

• Outlook

• Lessons learned

California


What Happened?

• Supply and Demand Fundamentals

• Politically compromised industry restructuring


CALIFORNIA DREAMING


Supply and Demand

• Economic growth throughout the West has driven up demand

• Power plant construction hindered by regulation

• Old power infrastructure leading to frequent breakdowns

• Emissions limits constraining existing generation

• Poor hydro conditions this year have reduced supplies available to import-dependent California


Columbia River California

2001

2000

1999

55%

93%

80%

94%

116% 108%

1998

1997

1996

98% 153%

152% 84%

138% 129%

Have We Been Fooled by Unusually Strong Hydro in Recent Years?

Volume Runoff Percent of Normal

Source: Columbia River data from NOAA/National Weather Service, Northwest Rivers Forecast Center. California data from CDWR


0

20

40

60

80

100

120

140

160

180

Year

Ja

n-J

ul V

olu

me

, MA

F

Average JAN-JUL VOL (MAF)

You are here (00-01):

You were there (96-97):

95-96

99-0097-98

98-99

Historical Volume Runoff at The Dalles


• 1993-94 Blue Book: Pure deregulation / open access

• 1994-95 CPUC Orders: Emergence of centralized market institution

• 1995-96 The legislature takes over (AB1890):

• 1996-97 FERC “rubberstamps”

• 1998 Implementation: - $500 million computer system

- Three month delay

- Very little residential switching

- Some (10-15%) large customer switching

From Sound Economics to Political Compromise

Something for everyone (customer choice, divestiture, environmental and rate payer subsidies, stranded cost recovery)


Summary

Very little new capacity added

Tight emissions limits

Increasing dependence on imports

Old, inefficient (polluting) facilities subject to breakdown

– emissions costs

– gas costs

Lower hydro capacity availability

Reduced imports into California

Flat to lower supply

Increased demand

Shortages Blackouts

Skyrocketing wholesale prices

Powerful “NIMBY/BANANA sentiment

Rapid economic growth throughout Western U.S.

Highly compromised, negotiated legislation

Retail Rate Caps(no demand response)

Stranded cost recovery mechanism inhibiting switching (utilities continue to serve most load)

State constructed spot market; no hedging

Deregulated wholesale prices

Bankruptcy

Utilities totally exposed to spot prices


Outlook


Prices are Falling

Natural Gas

• June prices at Topock fell to $7.85 MMBtu - first time prices had fallen to below $8/MMBtu since November (Natural Gas Weekly)

– The American Gas Associate recently confirmed continued rapid replenishment of storage

Electricity

• Contracts for on-peak power to Southern California form July-September recently traded at $145 MWh, compared to up to $450/MWh in April (DJ Newswire)


Demand is Decreasing

• Industrial load shedding and utility load reductions in Pacific Northwest

• Higher retail rates in Pacific Northwest, which have been in effect since last fall

• Higher CA retail rates going into effect in January and June 2001

• Conservation: Californians used 11% less energy in May 2001 than in May 2000 (Source: California Energy Commission, L.A. Times, 06/06/01)

– Some predict demand will further decrease once consumers begin to get their bills reflecting higher electricity rates

– But, most of reduction appears to be weather-related, so far


Demand is Decreasing

Weather:

• The month of May was warmer than the normal in the state-as much as 8 degrees hotter in San Jose,

according to the Western Regional Climate Centre

• On an average Northern California temperatures have been close to 65ºF

• However, the recent drop in temperatures might be a temporary development as a hot summer is

anticipated


Supply is Increasing

• Increased imports: Hydropower from the Pacific Northwest has increased (Source: LA Times, June 06,

2001)

• Plants have been brought back on-line after maintenance

• QFs are coming back on line

• Natural Gas Storage injections have increased significantly


Natural Gas Spot Prices - SoCal(Daily midpoint in $/MMBtu)

$-

$5

$10

$15

$20

$25

$30

$35

Jan-9

9

Feb-9

9

Mar-

99

Apr-

99

May-9

9

Jun-9

9

Jul-99

Aug-9

9

Sep-9

9

Oct-

99

Nov-9

9

Dec-9

9

Jan-0

0

Feb-0

0

Mar-

00

Apr-

00

May-0

0

Jun-0

0

Jul-00

Aug-0

0

Sep-0

0

Oct-

00

Nov-0

0

Dec-0

0

Jan-0

1

Feb-0

1

Mar-

01

Apr-

01

May-0

1

Jun-0

1

Jul-01

Source: Gas Daily

$51


Natural Gas Prices - SoCal(in $/MMBtu)

Spot (monthly midpoint average)

Future

Source: Gas Daily Price Guide (Dec ‘98 - Jul ‘01)and Enron

$-

$5.00

$10.00

$15.00

$20.00

$25.00

$30.00Ja

n-99

Mar

-99

May

-99

Jul-9

9

Sep

-99

Nov

-99

Jan-

00

Mar

-00

May

-00

Jul-0

0

Sep

-00

Nov

-00

Jan-

01

Mar

-01

May

-01

Jul-0

1

Sep

-01

Nov

-01

Jan-

02

Mar

-02

May

-02

Jul-0

2

Sep

-02

Nov

-02

Peak Spot Electricity Prices - COB(Daily weighted average in $/MWh)

$-

$100

$200

$300

$400

$500

$600

$700

$800

$900

$1,000

Jan-9

9

Feb-9

9

Mar-

99

Apr-

99

May-9

9

Jun-9

9

Jul-99

Aug-9

9

Sep-9

9

Oct-

99

Nov-9

9

Dec-9

9

Jan-0

0

Feb-0

0

Mar-

00

Apr-

00

May-0

0

Jun-0

0

Jul-00

Aug-0

0

Sep-0

0

Oct-

00

Nov-0

0

Dec-0

0

Jan-0

1

Feb-0

1

Mar-

01

Apr-

01

May-0

1

Jun-0

1

Jul-01

Source: Megawatt Daily

$3,000


Electricity Prices - COB(in $/MWh)

Source: Megawatt Daily, Nymex (7/11/01)

Spot (end of month)

Future

$-

$100

$200

$300

$400

$500

$600Ja

n-99

Mar

-99

May

-99

Jul-9

9

Sep

-99

Nov

-99

Jan-

00

Mar

-00

May

-00

Jul-0

0

Sep

-00

Nov

-00

Jan-

01

Mar

-01

May

-01

Jul-0

1

Sep

-01

Nov

-01

Jan-

02

Mar

-02

May

-02

Jul-0

2

Sep

-02


Peak Spot Electricity Prices - Palo Verde(Daily weighted average in $/MWh)

$-

$100

$200

$300

$400

$500

$600

$700

$800

$900

$1,000

Jan-9

9

Feb-9

9

Mar-

99

Apr-

99

May-9

9

Jun-9

9

Jul-99

Aug-9

9

Sep-9

9

Oct-

99

Nov-9

9

Dec-9

9

Jan-0

0

Feb-0

0

Mar-

00

Apr-

00

May-0

0

Jun-0

0

Jul-00

Aug-0

0

Sep-0

0

Oct-

00

Nov-0

0

Dec-0

0

Jan-0

1

Feb-0

1

Mar-

01

Apr-

01

May-0

1

Jun-0

1

Jul-01

Source: Megawatt Daily

$4,175


Electricity Prices - Palo Verde(in $/MWh)

Spot (end of month)

Future

Source: Megawatt Daily, Nymex (7/11/01)

$-

$100

$200

$300

$400

$500

$600Ja

n-99

Mar

-99

May

-99

Jul-9

9

Sep

-99

Nov

-99

Jan-

00

Mar

-00

May

-00

Jul-0

0

Sep

-00

Nov

-00

Jan-

01

Mar

-01

May

-01

Jul-0

1

Sep

-01

Nov

-01

Jan-

02

Mar

-02

May

-02

Jul-0

2

Sep

-02


0

50

100

150

200

250

300

350

400

450

2/2

5/2

000

3/1

0/2

000

3/2

4/2

000

4/7

/2000

4/2

4/2

000

5/8

/2000

5/2

2/2

000

6/6

/2000

6/2

0/2

000

7/6

/2000

7/2

0/2

000

8/3

/2000

8/1

7/2

000

8/3

1/2

000

9/1

5/2

000

9/2

9/2

000

10/1

3/2

000

10/2

7/2

000

11/1

0/2

000

11/2

8/2

000

12/1

2/2

000

12/2

7/2

000

1/1

1/2

001

1/2

6/2

001

2/9

/2001

2/2

6/2

001

3/1

2/2

001

3/2

6/2

001

4/9

/2001

4/2

4/2

001

5/8

/2001

5/2

2/2

001

6/6

/2001

6/2

0/2

001

7/5

/2001

Futures Prices Have Dropped Palo Verde September Contract

Trade Date

Co

ntr

act

Pri

ce

($/M

Wh

)

$31

8/M

Wh

dro

p

Source: NYMEX


Lessons Learned


Lessons Learned

• Liberalization did not cause California’s problems– supply and demand– regulatory barriers

• to new facilities• to hedging• to choice and competition

• Full liberalization is the answer for California– real choices, real opportunities to manage price risk– ease of entry to generation sector– real market prices to end users (phase in)– remove utility (and state regulators) from the procurement role

• What doesn’t work– heated political rhetoric (actually increased costs in California)– price caps (discourage new production and conservation)

• no alternative allocation mechanism proposed


Status ofDeregulation


Electric Restructuring Update

TX

OKNMAZ

CA

NV

UTCO

KS

OR

WA

ID

MT

WY

ND

SD

NE

MNWI

IA

MO

IL INOH

AR

LA

MS AL GA

TN

KYNC

WVVA

FL

SC

MI

PA

NY

MEVT

NH

RICT

NJDE

MD

AK

HI

MA

Restructuring Legislation/ Order Enacted

Restructuring Enacted, Delayed Implementation

A Commission and/or Legislative Investigation is Ongoing

No significant Activity

Source: Enron Government Affairs Status current as of 07/01

*

*

*

*

*Utilities OutsourcingMA implementing processCentral Maine PowerBangor HydroPECOGPUDQE


Natural Gas Restructuring UpdateFor Residential and Commercial Customers

Source: Enron Government Affairs Status current as of 07/01Note: Industrial open nationwide

TX

OKNMAZ

CA

NV

UTCO

KS

OR

WA

ID

MT

WY

ND

SD

NE

MNWI

IA

MO

IL INOH

AR

LA

MS AL GA

TN

KYNC

WVVA

FL

SC

MI

NY

MEVT

NH

RICT

NJDE

MD

AK

HI

MA

PA

States with legislation passed or comprehensive PUC orderissued for all customers; however, the quality of access may vary

States with access for some commercial customers

States considering reform

Competitive Bidding for customer

No Activity


®

© UB-SK-DEREGULATION-0701-1 Deregulation in the Aftermath of California Steve Kean EVP and Chief of...

Documents

Transcript of © UB-SK-DEREGULATION-0701-1 Deregulation in the Aftermath of California Steve Kean EVP and Chief of...