domingo, octubre 28, 2007

Response to Professor Banks

Dear Professor Banks and Mr. Gould,

As promised, I just published the following articles in energyblogs.com in response to the article and the comments.

The Natural Monopoly Transportation System 10/28/2007 at 06:05 PM...EWPC provides a new configuration, in which the natural monopoly is reduced to the transportation system of the electric market, where the old config...

Handling Sweden’s Electric Reform Threats 10/28/2007 at 06:54 PM...Strong leadership is needed to complete the reform process in the Nordid countries to benefit end customers, by introducing a paradigm shift to EWPC...

A Futures Market under EWPC 10/28/2007 at 07:03 PM...The elements of a futures market under R1E2 EWPC to lead to an stable and competitive electric markets environment are explained. A Futures Marke...

A Little Silicon is Necessary but NOT Sufficient 10/28/2007 at 07:18 PM...There is more to markets than meter electronics. It is important to understand the need for retailers as the bridge between the retail and wholesale...

Best regards,

José Antonio



A Little Silicon is Necessary but NOT Sufficient

There is more to markets than meter electronics. It is important to understand the need for retailers as the bridge between the retail and wholesale markets.

A Little Silicon is Necessary but NOT Sufficient

By José Antonio Vanderhorst-Silverio, Ph.D.
Systemic Consultant: Electricity

Copyright © 2007 José Antonio Vanderhorst-Silverio. All rights reserved. No part of this article may be reproduced or transmitted in any form or by any means, electronic or mechanical, including photocopying and recording, without written permission from José Antonio Vanderhorst-Silverio. Please write to javs@ieee.org to contact the author for any kind of engagement.

It is important to signal that Prof. Banks properly mentioned retailers as a required institution when he wrote: “… it should never be forgotten that while initially deregulation was crafted to prohibit large California utilities (i.e. ‘distributors’ or ‘retailers’) from signing long term contracts when they begin to encounter very high prices, they were not allowed to pass them to e.g. households and small businesses. Why was that? It was because consumer (retail) prices could have escalated by as much as 200%, and as Governor Gray Davis made clear, the California economy might have been shocked into recession.”

That is only true, where lacking a proper institutional market architecture and design. As can be seen in A Futures Market under EWPC, it is no longer necessary to have regulated monopoly retailers to sign long term contracts with generators.

In that basis, I respectfully disagree with Mr. Gould in that “the intelligent application of a little silicon intelligence we can do better by providing a genuine free market for every customer,” while a necessary technological aspect is identified, it is totally insufficient in the institutional sense. A genuine free market in which all customers participate in the wholesale market as he proposes is an unnecessary administrative burden that also leads to an unreliable E1R2 market (please see IMEUC: Unreliable Service and Price Spikes).

To understand how to participate in the wholesale market, in the article “Understanding Demand: the Missing Link in Efficient Electricity Markets,” Marija Ilic et al write: “the ability to expose customers to real-time pricing provides the needed incentives to create demand elasticity. LSEs [competitive retailers] through better understanding of load profiles, customer’s demand elasticities and willingness to reduce or shift load in exchange for compensation, can more effectively bid demand into the wholesale electricity markets and reduce overall market price…”

Except for the balancing real-time market, market price results from generation and load bid commitments made ex-ante under the restrictions of R1E2. Under the R1E2 EWPC markets (in plural), every end customer can participate in the genuinely open retail markets and select the service plan (markets mix) contract that best meet their needs for low cost and/or high value. Such markets are the real-time balancing market, the hour, day and week ahead markets, as well as any other forward market that retailers can provide with their business design innovations. Some customers will also require physical delivery of their futures contract.

In fact, under EWPC all end-customers can participate fully in the market. Some of them will be able to participate in the wholesale markets as they do already in many jurisdictions. Most of them will participate in a genuine retail market, being able to choose, when prepared to do so, a pure and risky balancing real-time market that contradicts Governor Davis statements. However, it is not practical, nor economic, to impose that all end-customers should participate in the wholesale market, as there are very costly procedures to follow.



A Futures Market under EWPC

The elements of a futures market under R1E2 EWPC to lead to an stable and competitive electric markets environment are explained.

A Futures Market under EWPC

By José Antonio Vanderhorst-Silverio, Ph.D.
Systemic Consultant: Electricity

Copyright © 2007 José Antonio Vanderhorst-Silverio. All rights reserved. No part of this article may be reproduced or transmitted in any form or by any means, electronic or mechanical, including photocopying and recording, without written permission from José Antonio Vanderhorst-Silverio. Please write to javs@ieee.org to contact the author for any kind of engagement.One of the key elements to develop competition between generation, retail and both of them, without price controls, is the guarantee of the development of a vibrant future market. Electricity markets are no longer radically different after the R1E2 discoveries.

As I expressed in the Conspiracy Theory Against Mr. X “An underlying intention of the conspiracy theory is to send a strong message to investors and Wall Street, that the unstable environment of the industry is about to end, and that financial capital is set to be replaced by production capital, as the industry becomes once again very predictable with the implementation of EWPC.” A key instrument for predictability is futures contract, which facilitates power generation development and financing, without the need for contract signing by monopoly retailers.

I agree that under E1R2 deregulation it is not possible hedge electricity. However, under R1E2 EWPC re-regulation, a futures market can be developed to satisfy the original NYMEX electricity contracts, which require high physical reliability.

John Flory, at the time with Tabors, Caramanis & Associates, wrote: “To maintain the integrity of this future market, NYMEX insists that the future contract clearly provide for physical delivery,” which could never be accomplished with E1R2 deregulation. Under R1E2 EWPC, NYMEX requirement is fulfilled with the ultra-quality imperative.

Flory added: “Thus, the futures contract’s main value is providing a tool for price risk management, but, it is defined in such a way as to not jeopardize the reliability of physical delivery… Futures contracts provide another important function in addition to price risk management. That function is price discovery. That is, by following the transaction prices in the futures market, a participant discovers the market price for electricity for the next 12/18 months.”

The key to such high physical reliability is the ultraquality imperative, which was explained as follows in EWPC: People Coordinating and Cooperating with Electrons Part 2:

Eberhart Rechtin and Mark Maier, in their book “The Art of System Architecting,” explain that “social system quality… is less a foundation than a case-by-case trade-off; that is, the quality desired depends on the system to be provided. In nuclear power generation, modern manufacturing, and manned space flight, ultraquality is an imperative. But in public health, pollution control, and safety, the level of acceptable quality is only one of many economic, social, political, and technical factors to be accommodated.” [I published this insight on March this year [2006] at the Academy of Science of the Dominican Republic.]

In the first case, the experts are the engineers. For the center stage, controlled market, system engineer institution to assures that electrons and people have the same purpose, as I mentioned on 12.30.06, ultraquality is an imperative to manage short run and long run systemic risk, with both supply side and demand side resources.

In the second case, according to Rechtin and Maier, the accommodation is done by the architect with “a professional response to the public needs and perceptions.” It is such unjustified perceptions that fueled the decade long debate. Bill Hogan mistake was that he didn’t understand what Fred Schweppe meant by the fourth criterion: “consider the engineering requirements for controlling, operating and planning an electric power system,” which can only be met by ultraquality. As time has advanced and new digital technology market share becomes larger, electricity demand for quality is only increasing. A professional response is needed, however, for the remaining, non real-time, free market activities of retail and generation. EWPC for the customers is such a response.








Handling Sweden’s Electric Reform Threats

Strong leadership is needed to complete the reform process in the Nordid countries to benefit end customers, by introducing a paradigm shift to EWPC, and making them active participants in the electric market.

Handling Sweden’s Electric Reform Threats

By José Antonio Vanderhorst-Silverio, Ph.D.
Systemic Consultant: Electricity

Copyright © 2007 José Antonio Vanderhorst-Silverio. All rights reserved. No part of this article may be reproduced or transmitted in any form or by any means, electronic or mechanical, including photocopying and recording, without written permission from José Antonio Vanderhorst-Silverio. Please write to javs@ieee.org to contact the author for any kind of engagement.

The version of the article “Why has the Nordic electricity market worked so well?” that I found on Internet is written by Professor Lars Bergman for Elforsk AB, which is owned by the Swedish electrical utilities. Maybe explaining the question mark, Professor Bergman starts the conclusion of the article with: “There are two major threats to the success of electricity market reform in the Nordic countries. The first is that security of supply can not be maintained. The second is that market power prevents the potential benefits of competition to be realized.” That is a clear message for those in the ship that they are operating under E1R2 deregulation.

Peter Fritz, the Secretary of Market Design-program of Elforsk AB, starts the foreword of the article with “The development of liberalized electricity markets around the world is, partly, an experiment of applied market theory with uncertain outcome. For this paradigm to benefit customers thru efficient supply of electricity, we need increased and better knowledge on how competitive electricity markets really work and how to solve the problems that might occur.” That is the kind of knowledge that the EWPC paradigm is offering.

To handle both threats, Sweden and the other Nordic countries should complete the reform by introducing EWPC with its R1E2 policy. In the 1996 article “Lessons from the UK and Norway,” Richard Tabors, one of the authors of the book “Spot Pricing of Electricity,” and at the time with Tabors, Caramanis & Associates, wrote that “No restructuring can take place that does not guarantee system reliability. Whoever the operator may be, that entity must have a pool of resources that can be dispatched to supply balancing functions, ancillary services, and reserves… its operators must have at its disposal the short term resources needed to maintain reliability and stability.” This is an excellent synthesis of the R1E2 policy.

Professor Bergman also wrote that: “… retail electricity prices (before tax) have become strongly lined to wholesale electricity prices.” It is precisely the development of the resources of the demand side, to integrate the retail and wholesale markets under EWPC, what is needed in the Nordic market to complete the reform and reap the benefit of competition. There is, however, a need for a very strong leadership in the Nordic countries if there are contracts and regulations of the weird kind that may be in the way of such development.

Now that it is clear that the natural monopoly can be restricted to the transportation system (see The Natural Monopoly Transportation System ), I can take the first part of a sentence (not being out of context) that Professor Banks wrote to respond to Mr. Len Gould’s comment: “The business of creating an electric market in which customers enjoyed a meaningful participation was discussed by Fred Schweppe (of MIT) at a long conference in Portugal that I have mentioned a number of times in this forum. Doing this is almost certainly correct, but I stay away from this topic because I don't really understand the details,…”

It seems strange that Professor Banks “don’t really understand the details” of meaningful customer participation, since he just stated under The Old Response to Jack Casazza that “The economy that Fred Schweppe was thinking about was the economy in the first part of your econ 101 textbook. That economy is irrelevant for the deregulation discussion.”

As I responded to Prof. Banks on 4.3.06, Prof. F.C. Schweppe understood that a successful [regulated energy] marketplace require, among other elements, "No monopsonistic behavior on the demand side" and said that "monopsonistic behavior is difficult on the demand side because the number of customers ranges from thousands to millions." How many (transmission) customers are there in Sweden?”

That is why that understanding the details of a meaningful participation of customers is of the utmost importance. In addition, as can be seen in my presentation at Carnegie Mellon University, “electric restructuring is ‘fundamentally an information technology event.’” as Stanley Klein’s wrote in 1998. Writing about technological revolutions, Dr. Carlota Pérez adds “these new technologies provide the potential for modernizing the whole productive structure and for raising the general level of productivity and quality to a higher plateau.”

In fact, Schweppe et al criterion for economic efficiency in the regulated energy marketplace is “Motivate customers to adjust their own electric energy usage patterns to match utility marginal costs. (See the book Spot Pricing of Electricity)” That is why EWPC concerns itself strongly with the development of the resources of the demand side.

Furthermore, the application of a marginal cost pricing algorithm as NordPool employs together with an undeveloped and unresponsive demand side is a sure “mechanism for bleeding electricity customers,” as Professor Banks explains. However, instead of the kind of the “surfeit of increase ‘choice’ in Sweden,” what is needed is developed and responsive customers on the demand side, that allow 2GRs under EWPC to set the marginal cost pricing at reasonable levels in line with individual customers set price caps (see No Need for Regulated Price Caps - I and No Need for Regulated Price Caps - II).

Writing about that if deregulation could not be achieved in the U.S., … “then it could not be realized any where in the face of earth, at least in the medium to long run” Professor Banks states and adds: “By that I mean after any excess capacity that might be available has been utilized.” Such statement is faulty because, while the generation and transmission capacity may be utilized with respect to current demand, the development of the resources of the demand side can change the situation in the medium run. In addition, the U.S. lobby activities have led to an unacceptable extension of the VIUs paradigm.

As my hero Uno Lamm proved, when he introduced High Voltage Direct Current technology (see The Sixth Disruptive Technology), facing a strong opposition by the same California IOUs referred to in The BIG California LIE, the Nordid countries don’t need to wait for the experience of the U.S. What they need, I repeat, is a strong leadership.


The Natural Monopoly Transportation System

EWPC provides a new configuration in which the natural monopoly is reduced to the transportation system of the electric market, where the old configuration produces much higher and more volatile prices.


The Natural Monopoly Transportation System

By José Antonio Vanderhorst-Silverio, Ph.D.Systemic Consultant: ElectricityCopyright © 2007 José Antonio Vanderhorst-Silverio. All rights reserved. No part of this article may be reproduced or transmitted in any form or by any means, electronic or mechanical, including photocopying and recording, without written permission from José Antonio Vanderhorst-Silverio. Please write to javs@ieee.org to contact the author for any kind of engagement.

In The Magic Deregulation Formula, I took the challenge to respond in full to Professor Ferdinand E. Banks article A New Lecture on Electric Deregulation Failure, and in particular the statement “No playing games on the consumer side of the market can possibly offset the pressure on prices resulting from conventional profit maximizing behavior on the supply side. Put another way, given the technological configuration of the electric sector (e.g. increasing returns to scale), deregulation invariably leads to much higher and more volatile prices.”

I read slowly the article now and the other three comments. He is right that deregulation as practiced with economy first, reliability second, (E1R2) is a failure. However, the industry as a whole is not a “natural monopoly.” Under EWPC, the transportation utility is considered a natural monopoly. Once you apply the reliability first, economy second, (R1E2), policy, all things get settled, since the centralized market can be divided into two interrelated markets:

1) The controlled natural monopoly integrated (T&D) transportation market, and

2) The open market without price controls, but under prudential regulations, on the generation, retail, and customer value chain.

Economic efficiency gets divided in two sequential steps. With the “reliability first,” the grid is planned to enable maximum welfare in the open market as explained in Free Market and Central Planning, Under R1E2. With “economy second,” actual social welfare is practiced, “as each competitive retailer develop, with business model innovations, the resources of the demand side, to integrate demand into power system planning, operation and control, [then] a robust, vibrant, and fully functional, electrical and market, power sector can evolve.”

This results in the Rethinking Electricity Restructuring as EWPC, which gives “Strong EWPC market architecture and design recommendations to restructure worldwide electricity markets, [which] supersedes those proposed in 2004 by Peter Van Doren and Jerry Taylor of the Cato Institute by resolving the "previously unknown" problem created by a flawed [E1R2] deregulation. Those recommendations are developed to support slicing the last of the regulated monopolies with a strong sense of urgency.”

In Full Retail Choice Emerges, “As distribution becomes an integral part of transportation under EWPC structuring without incumbent retailers, the [previously known] shortcomings [identified by Van Doren and Taylor] disappear and full retail choice emerges as Second Generation Retailers (see Second Generation Retailer - 2GR), not the first generation retailers of … [the] article [The Potential for an Effective and Timely Deregulatory Endeavor], compete under federal prudential regulations (which should hopefully become global prudential regulations under the discipline of the WTO). High returns to scale also appear for 2GRs which should operate under federal or better yet global prudential regulations.

Repeating the basic idea, EWPC restructures the old configuration VIUs controlled market into two markets: one controlled market of natural monopoly of integrated electric (T&D) transportation and one market without price controls, but under prudential regulations. That is the new configuration of the electric sector.

The old configuration leads to much higher and more volatile prices than the new (R1E2 EWPC) configuration. In the old configuration physical risk management (reliability) was performed only with the resources of the supply side. The failed configuration (E1R2 deregulation) leads to much higher and more volatile prices than the old configuration because of the conventional profit maximizing behavior on the supply side. In the new configuration physical risk management (reliability) is perform with a combination of supply side and demand side physical risk management.

Instead of playing games on the consumer side, EWPC develops the resources of the demand side to produce demand side physical risk management.

At least three other companion articles are being written.