Download McDermott, Karl A.. “Transmission Pricing: A Regulator`s Perspective”.

Transmission Pricing & Regional
Electric Markets
Transmission Pricing: A Regulator's Perspective
Zagreb, Croatia
May 2001
Karl A. McDermott
Vice President
National Economic Research Associates, Inc.
875 North Michigan Avenue, Suite 3650
Chicago, IL USA 60611
Telephone 312.573.2800 Facsimile: 312.573.2810
E-mail: [email protected]
Internet: http://www.nera.com
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Regulatory Context for Transmission Pricing
• Regulatory Goals/Trade-offs Often Conflict
– What are the goals for transmission pricing?
• Recover costs of providing services
• Provide incentives for efficient use of system in
short-run
• Provide incentives for long-term investment
• Promote electricity trading in non-discriminatory
manner (externality issues)
• Protect consumers from monopoly practices
• Meet international standards
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Recovering Total Costs
• Total cost recovery is necessary for viable
commercial operations
• Large fixed cost investment tends to drive a
wedge between marginal and average cost
• Total costs can be recovered in many
different ways, the trade-offs impact
different customer classes differently
(although equal sharing in fixed cost
recovery is not likely to be efficient)
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Recovering Total Costs
• Embedded cost
– Pros:
• date verifiable and subject to audit
• “simple” to calculate
• emphasis on financial data can encourage financial discipline
– Cons
• past does not predict future
• significant adjustments required if inflation has eroded value of
rate base
• no incentive for performance
• Current records may not be accurate enough to implement this
method
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Recovering Total Costs
• Marginal cost
– Pros:
• Economically “efficient”
• Takes into account the actual resource costs that are
needed to meet demand
– Cons
• Probably does not recover total revenue
• May be controversial to calculate
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Short-run Efficiency
• Transmission networks experience opportunity
costs when multiple users share the network.
– Re-dispatch costs are incurred when users schedule
transactions that cause the dispatch order to change and
increase the total cost of providing service
– “Congestion costs” are real and need to be priced
– Loop flow can cause costs on seemingly unrelated
portions of the network
• Short-run efficiency requires that users who cause the increase
in costs face an increased price to reflect those costs
• Result may be that certain transactions will no longer be
economic
– Ancillary services
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Congestion Control
– Traditional engineering methods (TLRs, central
planning, etc.)
– Priority service (firm, non-firm)
– Price signals
• Nodal pricing
• Bidding for backdown
– Tradable transmission rights
– Regulators need to assess the extent of the problem in
deciding which method to use. In the US, transmission
constraints can be significant in many areas of the
country thus more sophisticated, market-based methods
are needed. In countries with excess transmission
capacity, encouraging cost recovery and trading is
probably a more pressing need.
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Long-run Efficiency
• Transmission networks require on-going capital
and maintenance investment.
– Investment in network needs to be driven by the use of
the network.
– Incentive to expand network comes from the
opportunity costs of not expanding network
• If network is congested into a load center such that $1 billion
in congestion costs are calculated annually then investment
that is equal to or less than $1 billion is warranted to relieve the
congestion (zero congestion is not optimal)
• Transmission providers need to have confidence that they will
have a reasonable opportunity to recover prudently incurred
expansion costs
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Long-run Efficiency
• Rolled-in pricing
– Should new facilities be treated as an increment
to the network?
– This type of pricing shares the benefits of the
network externalities
• Incremental pricing
– Should only those that directly benefit from
investment pay for it?
• Access fees (two-part tariffs)
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Promote Electricity Trading
• Multiple party trading makes transmission
pricing and the terms and conditions of
transmission service more complicated
• Would a simple transmission tariff make
more sense in the beginning stages of
reform?
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Protecting consumers
• Transmission remains a “natural” monopoly for
the most part
• Consumers expect that services should reflect
costs (of course the question is what cost)
• Terms and conditions should be complex enough
to function on a long-term basis, but simple
enough for reasonable people to understand
• Charging for economic costs, even if they are
above the revenue requirement does not constitute
monopoly power abuse
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International Standards
• Meeting international standards may not be feasible in
the short-term
• Providing a reasonable time for adjustment to new
system, as well as providing “good” (although maybe
not perfect) incentives for investment is a good first
step
• In first steps toward meeting international standards,
regulators will need to prioritize goals. Regulatory
choices should implement the least cost reforms first
and then move on to more sophisticated and costly
reforms. It is very likely that most of the benefits of
restructuring will come about with the least costly and
most unsophisticated reforms
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Summary
• The targets (goals) of transmission pricing are
numerous and often conflicting
• Appropriate instruments need to be used to
address the financial, economic and regulatory
issues
• Putting a system that “works” in place should be
first step. Sophisticated approaches to
transmission pricing should be phased-in over
time as the benefits exceed the costs of doing so.
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