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5/14/01

Mark Shwartz, News Service (650) 723-9296; e-mail: mshwartz@stanford.edu

Deregulation will cause significant fluctuations in electricity prices, new study reveals

Despite California's ongoing energy woes, many states are continuing to move toward deregulation of their electric utilities a trend that will encourage more economic investment in new plants but also cause significant fluctuations in the price Americans pay for electricity in the next decade, according to a study released this week by Stanford's Energy Modeling Forum (EMF).

The new study follows an EMF report published three years ago that foreshadowed the current California electricity crisis.

"More and more states have begun to restructure their utilities, while trying to avoid the policy mistakes that contributed to the California disaster," says Hillard Huntington, executive director of EMF and coordinator of the new study.

The nationwide trend toward restructuring will push electricity prices upward in some parts of the country and pull prices downward in others a result of regional differences in demand, natural gas prices, transmission capacity and other market conditions, according to the study.

"States that generate electricity from hydropower, coal or lower-priced fuels will see their generating capacity increase as they try to meet internal demand while continuing to export power to other states," Huntington says.

"These adjustments to market conditions will place additional pressure on prices in these states," he adds. "Conversely, those states whose generation is based upon gas and higher-priced fuels will look to reduce their costs by importing more electricity from less-expensive states."

Market conditions

The new study is based on a comparison of estimates from five major economic models of electricity markets in the United States and Canada. Although the estimates vary by model, all show a substantial range of prices under different market conditions.

For example, the study estimates that the national wholesale electricity price in 2010 will be 7 to 17 percent higher if electricity demand grows by 2.6 percent a year during the next decade, instead of the expected 1.6 percent annual increase forecast by many energy experts. However, electricity prices will be 7 to 15 percent lower if natural gas rates drop between 13 to 19 percent in 10 years.

Regional price adjustments will be sharper, according to EMF projections. In one model, prices in the Midwest will increase 27 percent if the demand for electricity there grows faster than expected. Another model shows that prices in New York state will be 22 percent lower if natural gas prices decline.

Early warning

In 1998, EMF published a report titled "A Competitive Electricity Industry," which offered an early warning about California's now-failed deregulation plan. The report concluded that California could face a sharp electricity rate hike of 65 percent during certain times of the year when hydroelectric capacity is limited in the state and throughout the Pacific Northwest. The report warned that under these conditions, companies that generate electricity could drive prices higher if they each owned a significant share of the California market, if utilities in the state were not allowed to sign fixed-price contracts on their wholesale electricity purchases, and if there was a limited demand response to price.

"Those are precisely the conditions that face California today," comments Huntington. "The response of demand to wholesale prices is low because California consumers pay a retail price that is not linked to increases in the wholesale cost of power."

The May EMF study does not seek to explain the factors contributing to the recent electricity crisis in California and other Western states. Instead, participants in the new study assume that all states will adopt policies that encourage competition and allow flexible prices. So far, 24 states have legislated restructuring programs, including New York, Pennsylvania and Texas. England, Wales, Norway, Australia and other countries also have implemented deregulation plans.

Transmission capacity

Having sufficient transmission capacity between regions is critical, say the authors of the EMF study. On a national level, expanding the transmission capacity or reducing transmission fees will influence average U.S. wholesale electricity prices by less than 2 percent over the next decade, according to the study. But regional prices could be 12 to 13 percent higher or lower depending on the capacity and cost of transmission. In general, the study concludes that importing regions now paying higher prices will experience relative rate reductions if they obtain more transmission access, while low-cost exporting regions will experience higher prices.

"These rate adjustments reflect the search for the right balance between supply and demand conditions in the various parts of the United States," observes Huntington. "Regions like the Pacific Northwest may not like to see their prices rise, but their export sales will benefit their own economies as well as those in higher-cost states like California."

Environmental impact

The study also addresses the impact that restructured electricity markets will have on the environment particularly on the amount of carbon dioxide emissions, considered a leading cause of global warming.

According to the study, if electricity generation goes up by 1.6 percent a year during the next decade as expected, carbon dioxide emissions from U.S. power plants will increase by a slower annual rate of 0.9 to 1.3 percent. This trend reflects a strong shift toward natural gas as a fuel source, according to EMF. The study predicts that new gas-fired plants will account for more than 80 percent of the additional electricity generated over the next 10 years. Slower retirement of nuclear power plants also will contribute to the slower growth in carbon dioxide emissions.

Emissions of nitrogen oxide pollutants from power plants will tend to remain relatively stable over the next decade if no new policies are implemented to retard their growth. In contrast, sulfur dioxide emissions are expected to decline over the decade, as generators try to meet federal SO2 caps imposed by Congress.

The release of atmospheric pollutants in the power sector is sensitive to changes in electricity demand and generation, according to the study. For example, carbon dioxide emissions could be 7 to 10 percent higher by 2010 if power generation ends up being 12 percent higher than expected. Under the same conditions, emissions of nitrogen oxides will increase 5 percent, while sulfur dioxide emissions will remain relatively unchanged despite higher electricity demands. That's because current law prevents national sulfur dioxide emissions from growing. However, with higher electricity demands, generators will have to invest in new technologies to control sulfur dioxide emissions, which will drive up electricity costs.

The Energy Modeling Forum was established in the School of Engineering in 1976 to help improve the use of modeling for understanding complicated energy and environmental public policy problems. Each study is conducted by a working group of experts and advisers from universities, government and business. A complete list of study participants is available on the web at www.stanford.edu/group/EMF/publications/index.htm.

 

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By Mark Shwartz

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