THE CALIFORNIA ELECTRICITY CRISIS: WHAT, WHY, AND WHAT’S NEXT This page intentionally left blank THE CALIFORNIA ELECTRICITY CRISIS: WHAT, WHY, AND WHAT’S NEXT Charles J. Cicchetti School of Policy, Planning, and Development University of Southern California Los Angeles, California Jeffrey A. Dubin Division of Humanitiies and Social Sciences California Institute of Technology Pasadena, California Colin M. Long Pacific Economics Group, L.L.C. KLUWER ACADEMIC PUBLISHERS NEW YORK,BOSTON, DORDRECHT, LONDON, MOSCOW eBook ISBN: 1-4020-8032-8 Print ISBN: 1-4020-7692-4 ©2004 Springer Science + Business Media, Inc. Print ©2004 Kluwer Academic Publishers Boston All rights reserved No part of this eBook maybe reproducedor transmitted inanyform or byanymeans,electronic, mechanical, recording, or otherwise, without written consent from the Publisher Created in the United States of America Visit Springer's eBookstore at: http://www.ebooks.kluweronline.com and the Springer Global Website Online at: http://www.springeronline.com Dedication This book is dedicated to Sally, Jackie, and Molly. This page intentionally left blank Contents List of Tables and Figures ix List of Terms xiii Preface xvii 1. Introduction 1 2. Power Production Economics 5 3. Principles of Traditional Regulation 15 4. Reconciling Marginal Cost and Revenue Requirements 25 5. Competitive Wholesale Markets for Electricity 47 6. California’s Market Design: an Initial Success Followed by a “Perfect Storm” 53 7. Design Flaws and a Worsening Crisis 63 viii The California Electricity Crisis: What, Why, and What’s Next 8. Testable Hypothesis 71 9. Survey of Electricity Models for California 75 10. An Economic Analysis of Natural Gas Price Movements During the Crisis 85 11. An Econometric Analysis of Electricity Prices in California 103 12. Market Manipulation 127 13. Gaming and Cheating 137 14. Market Monitoring and Initial Regulatory Response 147 15. Refunds and Mitigation 159 16. California Responds 173 17. Handicapping the Winners 185 18. Conclusion: Wrapping Up and Lessons Learned 195 Index 203 About the Authors 207 List of Tables and Figures Tables Table 5-1. Economic Actions of Sellers Table 5-2. Economic Actions of Buyers Table 5-3. Economic Choices of the Power Exchange Table 5-4. Transactions that Result in this Competitive Market Table 7-1. Market Hedges Compared to the Spot Market in Other Deregulated Electricity Markets Table 7-2. Volume of Megawatts Purchased Out of Market, June – December 2000 Table 9-1. Quantitative Analyses Relevant to the California Energy Crisis Table 10-1. Interstate Deliveries to California Table 10-2. California Interstate Pipeline System Table 10-3. List of Variables Table 10-4. DailyNatural Gas Price Regressions Table 10-5. Daily Natural Gas Price Regressions for Simulations Table 10-6. Average Monthly Actual and Predicted Southern California Natural Gas Prices Table 10-7. AverageMonthlyActual and Predicted Northern California Natural Gas Prices