Principles for WellFunctioning Competitive Electricity Markets

July 16, 2013

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Market Principles

ompetitive electricity markets continue to demonstrate their substantial value to customers through lower prices, increased efficiencies and service innovations that allow customers to more effectively manage their energy portfolios. In competitive markets, customers benefit from the flexibility to choose from a variety of technologies, products and services offered by competing providers.

The success of retail electricity markets is inextricably linked to the efficacy of wholesale markets, and vice versa. A broad regional wholesale market that provides a level playing field for all resources as well as accurate, timely and transparent prices is essential for the supply choices and innovative services that drive competition for retail customers. And because retail providers shop in the wholesale market, the pressure on retail providers to keep costs down and innovate further sharpens the need for the wholesale markets to operate as efficiently as possible. Despite the proven customer benefits of well-structured electricity markets, significant policy challenges threaten their long-term sustainability. These challenges include government subsidized and rate-based generation in competitive markets, preferential treatment of some resources, non-bypassable retail charges to recover the generationrelated costs of certain resources, and resources procured without using a competitive market process. Based on the substantial value of electricity markets to customers, COMPETE will continue to promote and defend competitive electricity markets and to vigorously oppose policies that threaten the sustainability of existing markets. To provide clarity and guidance to those endeavors, the following principles will be reflected in all of COMPETEs positions and activities.

Electricity markets must have accurate and transparent price signals to guide investment and consumption decisions.

Price Signals
Prices should reflect market fundamentals, account for the location of transmission network bottlenecks, and be available to market participants as close to real time as possible. Because of the unique characteristics of electricity, market fundamentals can change quickly. Accordingly, price signals are needed in time for customers to react to them and have the opportunity to make cost-saving adjustments. Seeing price signals after consumption and other energy portfolio decisions have been made, or having static prices that are unresponsive to changes in the market, as is the case under traditional regulation, results in inefficient usage decisions and higher energy bills for customers. Prices should perform certain basic functions: ensure that the least costly generators are selected to operate, signal how much generation is needed, provide the tools to transparently manage price risks and provide the basis upon which resource developers can assess the value of investments based on market fundamentals (supply, demand, fuel prices, etc.). Distinct services should have distinct prices. Electricity supply in wholesale markets is comprised of a number of different services provided by different generators with different operating and cost characteristics. For example, some generators are needed to follow the minute-to-minute variations in demand on the system and thus must be able to change output quickly. Pricing the various services separately helps ensure that the most efficient resources are used for each service, creating greater reliability at the lowest possible price. End use customers could elect to respond to prices by reducing demand or installing on-site generation.

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Competitive markets must be open to all market participants without arbitrary restrictions on market participation.

Open Markets
There must be no arbitrary limits on which entities, resources or customers may participate in wholesale or retail markets. Examples of arbitrary restrictions are the percentage limitations imposed in some states on how much load is subject to retail competition (e.g., Michigan and California). Preventing some customers from shopping for their electricity suppliers while allowing others to shop violates fundamental notions of fairness. Moreover, it artificially limits the demand for service from competitive suppliers, keeps investment in potentially lowercost resources out of the market, and leads to unnecessarily high prices.

Preventing some customers from shopping for their electricity suppliers while allowing others to shop violates fundamental notions of fairness.
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Fair Rules & Practices

Market rules and practices must be non-discriminatory so that all resources participate on a level playing eld.
A variety of resources can provide the services needed to keep supply and demand in balance, including traditionallyfueled generators, renewable intermittent generators, storage facilities such as batteries and flywheels, and demand response. These resources have different operating characteristics that must be recognized by the market rules so that all have a fair chance to compete. A level playing field also requires basing the market rules and practices on the principle of comparability: all resources must abide by the same rules, must meet the same obligations, and must be compensated for a comparable service actually provided to the grid. Otherwise, customers are forced to subsidize the choices of a resource. Assuring a level playing field for all resources enables customer choice, and ensures vibrant competition, innovation and the lowest available prices for customers.

Comparability: All resources must abide by the same rules, must meet the same obligations, and must be compensated for a comparable service actually provided to the grid.

Non-bypassable surcharges are anti-competitive, acting as a tax on shopping customers by forcing them to pay twice for generation service if they choose a competitive supplier.

Surcharges for Generation

Non-bypassable charges that retail customers are forced to pay must not be used to recover the costs of generation and other supply services.
Some states seek to recover the costs of certain generation facilities from all customers through a non-bypassable surcharge on distribution wires service. These charges are anti-competitive, acting as a tax on shopping customers by forcing them to pay twice for generation service if they choose a competitive supplier. Such charges can also saddle customers with risk of poor generation supply decisions and practices of others, over which the customer has no control. Eliminating anti-competitive non-bypassable charges ensures that electricity customers pay for service based solely on voluntary contracts with competitive suppliers. Customers that shop for their retail energy service bear the risks of that choice, and should not be asked to pay for services or resources they did not choose (e.g., NJ LCAPP plants).

Subsidized Resources
Subsidized resources distort the market and harm customers, and should not be allowed to interfere in competitive markets.
Subsidies for supply resources can occur through various means. One way is when a state provides a guaranteed revenue stream to a new generator that is not available to competing existing generators. Another is by limiting procurements to a specific type of resource. Resources are subsidized to the extent the price paid to them exceeds the price that would have resulted from an unrestricted market without government intervention. Subsidies unfairly pick winners and losers in the supply market and lead to above-market solutions and higher prices for customers. Subsidies can give the short-term illusion of reducing market prices by adding new supply resources. However, subsidies must be paid by customers (or taxpayers) and, over time, can result in non-subsidized competitors leaving the market, taking with them the investment and competitive discipline needed for a well-functioning market. COMPETE recognizes that subsidies currently exist for energy technologies. Where they exist, such subsidies should be identified for consumers and there should be a plan in place to reduce and eliminate the subsidy within a reasonable time. There must be strong protections from buyer-side market power, such as the Minimum Offer Pricing Rules (MOPR) in the organized regional wholesale markets, like PJM, to protect customers from the negative impacts of price subsidies.

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Competitive procurements must be open to all qualifying resources, and not restricted to specic technologies, locations or vintages.

Competitive Procurements
Utilities or states sometimes direct the procurement of resources to meet forecasted demand. However, eligible resources are sometimes restricted to new resources, resources in certain locations, or resources using certain technologies. Similar to subsidies, these restrictions can unfairly pick winners and losers, result in above-market solutions and uneconomic entry. Customers ultimately pay higher prices for their electricity. Requiring that competitive procurements consider all qualifying resources achieves the greatest customer benefit by ensuring that potentially lower-cost resources that can perform the needed service are not kept out of the market.

Requiring that competitive procurements consider all qualifying resources achieves the greatest customer benefit.

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Market Based Resource Adequacy

To ensure long-term resource adequacy, electricity markets must have clear and transparent standards that rely on marketbased mechanisms, which can include a capacity construct where needed.
Resource adequacy is the availability of an adequate supply of generation or demand responsive resources to support safe and reliable operation of the grid. Resource adequacy standards provide incentives for the siting of resources for future reliability needs, mitigate price volatility, and help assure that load serving entities maintain adequate resources. Resource adequacy standards should be durable and not require modifications from year to year. Such standards should ensure sufficient incentives and meaningful obligations for all resources, and all resources should have equivalent obligations.

Resource Adequacy: The availability of an adequate supply of generation or demand responsive resources to support safe and reliable operation of the grid.

Competitive Wholesale Markets

Independently administered organized wholesale markets, such as those operated by Regional Transmission Organizations (RTOs) and Independent System Operators (ISOs), are needed for competitive electricity markets.
RTOs and ISOs operate and manage the interstate electricity grid over large regions, are independent of any market participant, and dispatch their systems by means of competitive auction-based energy markets. Accordingly, these organized markets provide the fair, transparent rules and the access to grid services needed for a level playing field, and produce prices that signal the true cost of resources needed for a wellfunctioning competitive market. The organized markets are the best way to assure an affordable, efficient and adequate supply of electricity and to meet environmental goals. They provide the tools that foster efficient investment and the products and services consumers want, provide a level playing field for all resources, foster renewable and demand response resources, enable innovation, attract infrastructure investment in the right places, and reward efficiencies. States that have restructured retail electricity markets but are not within the footprint of an RTO or ISO should establish an independent entity to perform the critical function of scheduling generation and transmission services. Independence from market participants is essential to ensure that such important functions are performed in a non-discriminatory manner that ensures a level playing field.

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Effective independent oversight provides the confidence in results that attracts transmission and generation investment and ensures customers of a reliable supply of electricity at the lowest available costs.

Independent Oversight
Competitive markets must have clear and transparent rules and effective independent oversight to ensure compliance with the rules and accountability to customers and regulators.
The fair market rules needed for a level playing field and efficient operation must be enforced, and regularly evaluated. Effective independent oversight provides the confidence in results that attracts transmission and generation investment and ensures customers of a reliable supply of electricity at the lowest available costs. Accordingly, appropriate sanctions must be imposed for violating rules to ensure that all participants have confidence in the market. In addition, there should be periodic assessments of market performance to ensure prices are accurate and the market is sustainable.

Principles for WellFunctioning Competitive Electricity Markets

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