In an effort that is likely to fall short of the expectations of more than a few participants, the Pennsylvania Public Utility Commission (“Commission”) officially shared its vision of the next steps for encouraging more competitive electricity markets in the Commonwealth.

The Commission’s Order at Docket No. I-2011-2237952, issued at its February 14, 2013 Public Meeting, will produce a result that is nearly identical to the Tentative Order issued last year.  The center-piece of the Order is the Commission’s commitment to eliminating the current default service procurement requirements that require a mixed portfolio of longer and shorter term contracts geared toward providing default service at the “least cost over time”, and to instead go nearly to the opposite extreme—quarterly procured and priced service.  The Commission’s rationale relies on the assumption that a short-term market driven default service price will provide customers with the lowest prices over time, which is probably correct.  The Commission also hypothesizes that a short-term market driven default service price will force suppliers to reduce their prices to the bare minimum in order to compete with that default service price.  This also is probably correct.  The Commission then concludes that its plan of reducing retail suppliers’ opportunity for profit, and forcing them to be price takers as they struggle to convince customers that a one year fixed price that is higher than the current quarterly default service will be a better deal for the customer in the long run.  The Commission goes on to suggest that hitching the default service price to the shooting star variability of a quarterly wholesale price will eliminate the boom and bust cycles in the competitive retail market and increase the level of competition in the retail market.

It is in these last two points that the Commission’s reasoning goes off of the rails.  First, while it may be true that the quarterly procured and priced default service will reduce the price to compare or PTC, the rate at which default service is provided, such a pricing scheme will not encourage the development of a robust competitive market.  Short-term pricing will erode supplier margins, if there are margins to be had at all.

The crux of the problem is the current market fundamentals.  The market currently is contango, which means that short term prices are lower than longer term prices.  The reason this is a problem is that suppliers who do not own generation will need to buy power in a long term market at prices that are higher than the short term market.  This means that it is difficult, if not impossible, for suppliers to make offers to customers, for contracts over 3 months duration, that appear to be at a discount to the quarterly PTC.  Consequently, unless suppliers are willing to sell at a loss, or to offer what can be deceptive teaser rate contracts, they will not be able to offer customers the level of discounts that are typically understood to be necessary to convince customers to switch.  That is, a supplier may be able to offer short term pricing that is at, or slightly below, the quarterly PTC over the short term, but this process is not sustainable, and is likely to produce booms and busts. No matter what, it will drive supplier’s margins down to the point where they may simply choose to leave the market.  And don’t forget, the PTC will continue to be reconciled so that if a default service provider were to mis-price in one quarter, and for the sake of argument, issue a PTC that is lower than the market would otherwise indicate, it could re-coup that money in the next quarter, while the suppliers that lost customers, and possibly went belly-up as a result, have no such opportunity and no recourse.  Recent history has shown that Pennsylvania’s EDCs have had some problems in this regard, layering on even more risk for suppliers.

As this commentator and others have stated, the quarterly procured and priced PTC will likely result in a retail market where only those suppliers that own generation will be able to participate, and eventually will lead to an oligopolistic retail energy supply market in the Commonwealth of Pennsylvania.  It would have been better for the Commission to remove this issue from the proposal and to instead focus on the other aspects of the Order, which actually will improve competition.  These include the first switch capability so that customers can sign up for competitive supply that will begin on the first day of service, so that they need never take default service.  This capability will dovetail nicely into a requirement that new and moving customers must choose a supplier from a list that could include utility service, rather than being placed on that service by default.

In conclusion the Commission should not be in a rush to go further than its soon-to-be implemented retail market enhancements. The Commission should let the electricity market absorb and adjust to these programs before embarking on such further drastic measures.

In a long anticipated Tentative Order, the Pennsylvania Public Utility Commission (“PUC”) finally revealed its vision for the “end state” of the retail electricity market in Pennsylvania.  The problem; many observers believe that the “cure” will kill the patient.

In a Tentative order issued on November 8, 2012, the PUC finally revealed its vision of the end state for the retail electricity market in the Commonwealth.  By most accounts, the retail electricity market in Pennsylvania is one of the most competitive, and the PUC has set for itself the goal of making it even better.  The PUC appears, however, to have eschewed the free market approach which holds that the only way to have effective competition is to eliminate the inherent conflict between true competitors and the quasi-regulated, risk-free default service which has become the de facto competitive benchmark price.  Instead the PUC seems to have adopted what appears to be an incremental approach, and simply opted to make changes to the way that default service is procured and priced.  That is, the PUC would continue to insist that the incumbent distribution utilities, known as electric distribution companies (“EDC”), provide default service at a reconciled price.

The proposed “change” is to eliminate the current diverse procurement strategy that requires EDCs to purchase generation supply through a mix of long term, short term and spot purchases which are geared to provide default service at the “least cost over time,”
66 Pa. C.S. § 2807(e)(3.3), and to instead inject volatility into the default service price by requiring that EDCs purchase supply in successive ninety-day full requirements procurements.  This would mean that every ninety days a new array of full requirements contracts would begin at a new price that would include the reconciliation of the prior 90 day’s over and under collections.  Some interested parties have noted that this scheme will increase PTC volatility significantly and is likely to increase customer dissatisfaction in general.  There is little evidence to suggest, however, that PTC volatility alone will cause residential customers, in particular, to migrate.

The reasons why this new scheme is likely do more harm than good are complex, but foremost is that fact that most electric generation suppliers do not own significant generation assets.  This fact is critical because long-term wholesale electricity supply prices are higher than short-term market prices, meaning the market is contango (the market condition wherein the price of a forward or futures contract is trading above the expected spot price at contract maturity).  What that means is that non-generation owning suppliers will be limited to offering customers short-term prices at or near the level of the default service price i.e. ninety (90) days, because longer term prices will demand too much risk premium.  Only suppliers that own generation, and that are not subject to the non-discriminatory sales regimen enforced by the Federal Energy Regulatory Commission (“FERC”), will be able to able to absorb the risk of offering longer term stable prices that have become the staple of competitive offerings.

The Commission will be receiving comments from interested parties that are due on December 10, 2012, before rendering a final decision on the End State.  Whatever they decide, let’s hope it is not the end of retail electricity competition as we know it.