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Conclusion from Pat Wood GCPA Keynote: Texas Electric Deregulation Has Failed

April 10, 2013

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Copyright 2010-13 EnergyChoiceMatters.com
Reporting by Paul Ring • ring@energychoicematters.com

Listening to Pat Wood's keynote at the spring Gulf Coast Power Association conference, the inescapable conclusion is that electric restructuring in Texas has failed.

That's because Wood, former PUCT and FERC Chair, said, "it is time for a capacity market," in ERCOT.

Why? Because Wood is unwilling to risk the consequences that would arise if the state has insufficient capacity under the current energy-only design.

"I'm not just willing to put all these kilowatt-years of hard work [in creating the Texas market] at risk over the possibility that we're going to have a supply-demand shortage," Wood said.

This cannot be considered anything but an admission that deregulation will not attract private investment without placing investment risk back onto the customer through a capacity market.

While Wood himself did not reach the conclusion that the need for a capacity market inherently means that Texas deregulation has failed, and capacity market proponents can valiantly try to spin the need for a capacity market as a "reform" to the existing market, it is indisputable that if a capacity "market" is needed, the market experiment for electricity generation has failed, and that government intervention (in the form of mandated capacity purchases) is needed to support capacity investment.

By saying a capacity market is needed, proponents have admitted that private investors are unwilling to support new capacity without guaranteed payments from ratepayers. These payments might be extracted from customers under a different mechanism than under the old vertically integrated model, but it's a distinction without a difference -- the end result is that under a capacity market, ratepayers have been assigned investment risks and costs from which they were supposed to be freed.

Indeed, Wood cited as one of the successes of Texas deregulation the fact that the risks have been shifted from customers to the parties that can most effectively handle the risk. Wood called this the "great victory" from deregulation.

However, it is indisputable that risks would shift back to customers under any mandatory capacity obligation, regardless of market mechanism used. So long as the government is setting a mandated forward reserve margin, customers are at risk that actual experience will diverge from forecasts, and that the government-purchased capacity portfolio during the delivery year is not the most cost effective solution to meeting actual capacity requirements at that time (either due to changing demand making prior capacity purchases unnecessary, or because disruptive technologies, arising after the forward clearing of the market, drastically lower the cost of installed capacity, making the prior purchases uneconomic).

But the conclusion from Wood's reasoning is that deregulation has failed, and government intervention is needed to "save" what has been worked for.

But what would actually be saved? The whole point of deregulation, as Wood notes, was to transfer risk away from customers and to have investors take on the risks (and therefore, enjoy the rewards) of capacity infrastructure investment. A capacity market removes investor risk, and removes customer choice, so what's left to save? Well, the only part of the market which wouldn't be changed would be unregulated profits earned by capacity owners. As entrepreneurs ourselves, Matters has no issue with profits, but when customers are compelled to purchase a product by the government, it is no longer free enterprise, and profit should be treated, and regulated, accordingly.

"It's not unfair, unethical, or unwise to ask to be paid for the certainty of standing ready to provide power," Wood said of a capacity market.

Which, or course, mischaracterizes what a capacity market is. No one is asking customers to pay for capacity to stand ready, which in a market would entail customers negotiating a price and refusing service if they were not satisfied with such price; rather, in a capacity market, the government compels customers to pay for capacity to stand ready.

Wood's plea for government intervention stands in stark contrast to dozens of citizens testifying before a Texas Senate hearing yesterday on a variety of electric issues. Citizens, testifying on several topics but most vocally on the need for a smart meter opt-out, railed against government intrusion into their lives, and compulsion to use a government-mandated smart meter.

While most citizen comments were not focused on capacity, the arguments remain applicable. Citizens denounced the erosion of choice and freedom attendant with any form government mandate -- whether that mandate be the compulsory purchase of health insurance, the requirement to have an advanced meter, or a requirement that each customer must purchase a centrally-planned amount of capacity.

Texans were aghast that smart meter mandates, although claimed to be benign now, may later lead to a rationing of electricity, or limits on the amount of demand customers may place of the grid. Citizens said that the state has no business directing when Texans can use their air conditioners, washers and dryers, or other appliances. While Matters understands the political implications of any adequacy-related blackout, is it realistic to think that Texans are just going to roll over and accept compulsory, state-mandated capacity purchases, for which customers do not receive any entitlement to cost-based capacity or energy; a capacity market is an anathema to the freedoms espoused by most Texans, and introducing government intervention back into the electric market jeopardizes the hard work of the past 10 years just as much as a blackout would.

Wood said that then-Gov. Bush told him prior to deregulation that the goals were: better prices, better customer service, technological innovation, and "reduced role of government." A centrally planned a reserve margin, with mandated purchases, is patently inconsistent with those goals. Yes, a capacity market might "preserve" some of the market mechanisms developed over the last decade in Texas, but to what end?

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