Session 10e & 11e

Competition: Economics of Market

Structure and Market Reform
Ted Kury
Director of Energy Studies, PURC
ted.kury@warrington.ufl.edu
 Session Overview
• Introduce Case Study
• Clarification Questions
• Group Discussion of the Case
• Debriefing
 Introduction
• Practice in deciding the process of reform –
sequence and prioritization
• Regulators usually just charged with
implementation, but any guidance you can
provide to legislators helps the process
• Decisions and the justification are both
important
 State of the System
• State-owned, vertically integrated electric utility
• 3,000 MW peak load
• 2,500 MW generating capacity
– 2,000 MW at 2x1,000 MW hydro plants on different
rivers
– 500 MW at 10x50 MW oil-fired CTs in 3 cities
• 45% capacity factor on existing generation due to
poor hydrological conditions and poor
maintenance, among other factors
 State of the System
• Only 55% of the country has access to electric
service
• Poor reliability due to lack of capacity
(generation, transmission, and distribution)
• Technical losses of 12%
• Non-technical losses of 25-30%
– Illegal connections
– Non-payment (including government)
– Meter reading “errors”
 State of the System
• Large, unionized workforce with a balanced
mix of younger and older workers
• Workforce may be up to twice what is needed,
but most workers support large extended
families and it’s difficult to make cuts
 Current Finances
• Tariffs are not cost-reflective
– Rural customers pay far less than urban customers
– Industrial customers pay far more than residential
customers
• Revenue does not cover costs and the
government subsidizes utility
• Layoffs would cut costs
• Improving efficiency would cut costs
 Future Resources
• Two rivers could provide another 4,000 MW of
hydro capacity
• Teslavania has a limited supply of fossil fuels
• Neighboring countries have fossil fuels and
electric systems
• Teslavania is potentially well-suited for solar
energy, and moderately well-suited for wind
energy
 Goals for Reform
• Elimination of government subsidies
• Attraction of new investment
• Technical and economic efficiency
• Cost-reflective tariffs should also reflect social
goals (e.g. low income assistance)
• Minimize rate shock
• Future environmental policies
• Expand scope of service
 Questions to Address
• What other information would you like to have about this country in order to better
ascertain how best to address its problems and how to achieve its goals? As you go through
the questions below, think about how this information would impact your decisions.

• For each part of the supply chain individually (generation, transmission, and distribution),
identify ways in which the utility can reduce costs and improve efficiencies.
• You may include items that have been mentioned above as well as others that may not have
been included explicitly.
• Will these alone help solve the revenue sufficiency problem?
• What kinds of incentives could you provide to improve efficiency?

• For each part of the supply chain (generation, transmission, distribution), prioritize those
areas you identified for cost reductions and efficiency gains.
• What improvements will provide the largest incremental improvement?
• What will provide the smallest improvement?
• Which will be the easiest to get first?
 Questions to Address
• Given that tariffs currently do not cover costs, identify whether tariffs should be raised before,
during, or after actions to cut costs have been taken. Explain what effect you think your
sequencing will have on attracting investment.

• Explain whether making each segment of the utility (generation, transmission, and distribution)
its own corporation, or making each segment commercially responsible for itself is appropriate.
• Should the state owned utility be reorganized so government can put sufficient controls (regulatory
or competitive mechanisms) in place to correct perceived problems? Explain.
• Would it help bring investment?

• Identify whether vertical unbundling is appropriate.

• Should the utility be broken up into generation, transmission, distribution, and retail supply?
• Would vertical unbundling help in promoting better regulation or competition as proposed above?
• How should this unbundling take place?
– Accounting/financial separation only?
– Separate companies under the same holding company?
– Completely independent companies?
• Would it help bring investment?
 Questions to Address
• Identify whether horizontal unbundling is appropriate.
• Should any parts of the supply chain be spit, regardless of form be split separate, and
potentially competing, companies? Would this help in promoting regulation or competition?
• For example, multiple generating companies? Multiple transmission companies? Multiple
Distribution companies?
• Would it help bring investment?

• Is privatization or private participation appropriate?

• Should the state-owned companies be eventually privatized? Do you believe this will correct
perceived problems and meet and fit with the chosen regulatory or competitive mechanisms
(next question below) more easily than commercializing the companies? Explain.
• Should privatization be done before or after the regulatory and competitive mechanisms are
chosen?
• Is there a need for cash infusion into the government? Does privatization help?
• Would it help bring investment?
• Would it help improve efficiency?
 Questions to Address
• What regulatory or competitive mechanisms do you believe would be helpful in providing the
right incentives for firms to reduce costs and become more efficient, and provide the desired
“risk allocation” for consumers.
• Competition in the market or for the market?
• Rate-of-return, price caps, revenue caps, hybrids, benchmarking?
• Application to supply chain components
– Generation
– Transmission
– Distribution
• What risk allocation would your propose for each part of the supply chain between the utility and
consumers and how does your chosen regulatory/competitive mechanism accomplish this?
• Would it help bring investment?

• Develop a pricing/rate design strategy that will move toward cost reflectivity and accomplish
social goals.
• How might prices be designed to be more efficient versus current practice?
• What would be the length of the transition period for revenue sufficient tariffs?
• How would you propose reconciling efficient and cost-reflective tariffs with the need to promote
social objectives?
 Thank You!

Ted Kury
ted.kury@warrington.ufl.edu