Thinking Economically: Will Higher Taxes Provide Texans with More Electricity?

Musings on Economic Freedom from the Texas Public Policy Foundation’s

Center for Economic Freedom

 

 

Capacity Markets Represent a Bad Bargain for Texas Consumers

In our latest research paper, Kathleen Hunker finds that capacity markets will not improve ERCOT’s capacity or reliability; a capacity market’s inherent inefficiencies and artificial incentives cannot compete with the energy-only market, making it a bad bargain for Texas ratepayers.

 

Will Higher Taxes Provide Texans with More Electricity?

Is Texas running out of electricity? Are rolling blackouts just around the corner? Has the competitive market failed to provide meet the needs of Texas electricity consumers? Are billions of dollars in subsidies to generators the only way to avoid Armageddon?

 

These questions are at the center of a debate in Austin that may wind up costing Texas consumers $4 billion a year through a new electricity “tax.”

 

The answer to all these questions—which is no—is discernible through a straightforward examination of the facts. Yet the Public Utility Commission of Texas (PUC) is moving forward with a process to replace competition in Texas’ electricity market with centralized government planning and corporate subsidies.

 

It doesn’t need to be this way.

 

In the 18 years since Texas began its transition to a competitive electricity market, Texas has been blessed with an abundant, affordable supply of electricity. Prices are lower today in real dollars than they were in 2001. The market provided enough electricity to make it through 2011’s record drought and heat wave.

 

This history hasn’t stopped many regulators and generators from claiming that we will soon be running out of electricity because prices are too low to incentivize new generation. The PUC recently held a workshop to examine these claims and discuss what remedies should be adopted to increase generation capacity.

 

The evidence for this claim, however, is not based on experience—the competitive market in Texas has never run out of electricity because of inadequate investment in new generation. Just the opposite—prices are low today in part because we have too much generation.

 

Because reality won’t cooperate, advocates for moving toward what is known as a capacity market—which allegedly would guarantee more investment by imposing fees, i.e., taxes, on consumers—are using projections from reports as the foundation for their claim.

 

One report by Texas regulators claims to show that there is “missing money” in the system, that there is simply not enough money in the market for generators to earn a profit on new investments.

 

However, two energy economists who have done research on this issue for the Texas Public Policy Foundation discovered that this report didn’t count all the sources of revenue that is available to generators. After a careful analysis of the data, they found that new investment in generation can indeed be profitable.

 

Another report by regulators claims that we won’t have enough generation resources in the coming years to meeting future demand. Yet our recent paper shows that past versions of this report overestimate future demand at least 79 percent of the time and consistently underestimate future supply.

 

Correcting for these factors shows that Texas has enough existing and planned generation to meet demand for at least the next five or six years.

 

Confirming these findings are the actions of the market itself. While claiming the market isn’t profitable, generators and investors have announced at least 5,731 MW worth of new generation for Texas. Some of these new projects are quite recent, having been announced since the PUC’s move to increase the wholesale price caps made profits even more accessible.

 

All this doesn’t mean the market is in perfect shape. It’s not, and it could be improved. But the main problem is not the competitive market; it is excessive government intervention in the market. There are three main challenges: 1) renewable energy subsidies, 2) excessive regulation of the wholesale market, and 3) the regulatory uncertainty created by the PUC’s willingness to entertain a move to a capacity market.

 

The chorus from Austin is nearly unanimous in proclaiming the failure of Texas’ competitive electricity market. But that is simply not the case. While there are challenges in the market, it is working. If something doesn’t change, however, Texans might soon be about $4 billion poorer.

 

Bill

 

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Bill Peacock
Vice President of Research

Director, Center for Economic Freedom

Texas Public Policy Foundation

bpeacock@texaspolicy.com

Thinking Economically: Resource Adequacy Hype Doesn't Fit the Facts

Musings on Economic Freedom from the Texas Public Policy Foundation’s

Center for Economic Freedom

 

The big question in the Texas electricity market today—at least in the region of the market known as ERCOT (Electric Reliability Council of Texas)—is if we are going to run out electricity. More precisely, the debate is over whether or not prices are high enough to incent enough new generation to keep the lights on and the air conditioners running during the heat of the summer.

 

The Foundation’s answer to this question can be found in a series of paper we have released this year examining the subject. In particular,a paper by economists Robert Michaels and Andrew Kleit and a new paper we released today, The Reliable Texas Electricity Market: Resource Adequacy Hype Doesn’t Fit the Facts, offer the answer that the market has enough existing and planned generation to power Texas’ growing economy well into the future.

 

The answer comes in two parts. First, Michaels and Kleit do some groundbreaking work on evaluating the current generally accepted calculations on peaker net margin and show that the potential for profitability is much greater than seen in the standard calculations. As they put it, “Computations that assume an ancillary services option and rational bidding behavior cast new light on the viability of ERCOT’s energy-only market.” They contend, based on a careful analysis of the data, that new investment in generation can indeed be profitable.

 

The second part of the answer comes from evaluating the soundness of their academic findings by observing the market. If the findings by professors Michaels and Kleit are accurate, then we will find that there is in fact sufficient investment in generation taking place to maintain future resource adequacy and reliability. If their findings are inaccurate, then we won’t.

 

In our new paper, we examine the estimates of peak load in forecasts of demand from 2006 through 2013 and find a significant bias toward overestimation throughout the forecasts. About 79 percent of the forecasts for 2008-13 overestimated the load. If the record peak load caused by the record heat and drought of 2011 is adjusted for, the rate of overestimation rises to 87 percent.

 

Taking this bias into account results in the reserve margin forecasts that show sound reserve margins through 2019:

 

May 2013 Reserve Margin Forecast Adjusted for Overestimation of Load
	2014	2015	2016	2017	2018	2019
May 2013 Forecast	13.8%	11.6%	10.4%	10.5%	9.4%	7.4%
Adjusted	14.02%	12.64%	12.85%	13.81%	13.99%	12.14%
Adjusted w/o 2011	15.15%	13.83%	13.58%	14.14%	14.48%	13.06%

 

Our paper also  looked at the resource side of the past forecasts. This essentially involved looking at new announced generation that is likely to occur but hasn’t been added to the forecasts. Adjusting the Resource forecast for this again results in sound future reserve margins:

 

ERCOT Reserve Margins 2014-18
	2014	2015	2016	2017	2018
Oct. 2012 Forecast	12.1%	9.7%	9.9%	9.8%	10.4%
Oct. 2012 Forecast Plus	17.77%	15.59%	16.06%	15.37%	14.29%

 

It looks like Texas has adequate reserves of electricity for the next five to six years. 

The market itself has actually affirmed this conclusion with recent announcements of 5,731 MW of new generation. While not all of the projects may come online, the level of new investment makes it obvious that companies themselves see opportunities for profit in the market—especially since the increases in the offer price cap.

 

All this doesn’t mean the market is in perfect shape. It’s not, and it could be improved. But the main problem is not the competitive market; it is excessive government intervention in the market. There are three main challenges: 1) renewable energy subsidies, 2) excessive regulation of the wholesale market, and 3) the regulatory uncertainty created by the PUC’s willingness to entertain a move to a capacity market.

 

The competitive market is forever pushing for increased efficiency. So while there are challenges in the Texas market, the market is addressing them. We should let it do its work.

 

Bill

 

Click here to subscribe to Thinking Economically.

 

Bill Peacock

Vice President of Research

Director, Center for Economic Freedom

Texas Public Policy Foundation

bpeacock@texaspolicy.com

 

Thinking Economically: The Push for Subsidies through a Texas Capacity Market

Musings on Economic Freedom from the Texas Public Policy Foundation’s

Center for Economic Freedom

 

Next week, Tuesday, October 8, the Public Utility Commission of Texas (PUC) will hold a workshop examining issues related to maintaining reliability in the Texas electricity market. The Foundation’s Center for Economic Freedom has steadily maintained that free markets are the best way to achieve this. 

For many years, outside opposition to free markets came mainly from left-leaning groups seeking increased government intervention through higher levels of regulation. More recently, the opposition to free markets has come mainly from corporate interests seeking increased government intervention through higher levels of subsidies. Which brings us to the intervention du jour: capacity markets and payments. The Foundation has released two papers in the last week examining capacity markets and if they would work in Texas. 

Last week we released  A Texas Capacity Market: The Push for Subsidies, an Energy Perspective by Kathleen Hunker, policy analyst with the Foundation’s Center for Economic Freedom, examining the potential shift from Texas’ energy-only electricity market into a capacity market. Kathleen explained the problems with the proposed move: “Capacity markets are a redistribution scheme that wastes billions of dollars through corporate subsidies. They offer Texas nothing that it couldn’t get from an energy-only market at a cheaper, more efficient price.”

Kathleen goes on to point out that, “Capacity markets rely on taxes, subsidies, and penalties to recreate the incentives naturally found in an energy-only market. Past experience shows that capacity markets, at best, have a threadbare track record at boosting energy investment. And as recent events on the East Coast have shown, neither will they fulfill the promise of increased reliability that some are touting.” 

Today, we released another Energy Perspective,  Does Competitive Electricity Require Capacity Markets? The Texas Experience: A Summary. This paper, authored by economists Andrew N. Kleit and Robert J. Michaels, senior fellows at the Foundation’s Center for Economic Freedom, examines whether reliability concerns justify the introduction of a capacity market into Texas’ electricity market. It is a summary of an earlier study published in February. 

“Our examination of ERCOT’s history and operation brings a conclusion that the costs of instituting capacity markets in its territory will almost surely exceed any benefits they might bring,” said Dr. Michaels, professor of economics at California State University, Fullerton. “Shifting to a capacity market is unnecessary and would in reality be a source of inefficiency and a barrier to competition that would likely increase the cost of electricity for consumers. 

Dr. Kleit, professor of energy and environmental economics at Pennsylvania State University, added, “We find the economic theory behind capacity markets to be deeply flawed, both in general and when applied to ERCOT. Many of its arguments depend on oversimplified assumptions that are at variance with reality, particularly those that are necessary to produce the ‘missing money’ phenomenon.  Other possible market failures including the inefficiencies of nonprice rationing during shortages are becoming less relevant as markets develop, more users see prices based on marginal cost, and demand management becomes more widespread. The theoretical case for capacity markets is weak at best.” 

Markets work because they represent the collective wisdom of millions or even billions of market participants garnered through billions or trillions of decisions. Government intervention never works as well because it substitutes the opinions of a few policymakers, regulators, and special interests for the consumers and producers in the marketplace. Yet too often the special interests win—often because they are able to build a winning narrative. 

Our series of papers on the electricity market is designed to tell the story of the success of Texas’ world-class electricity market—and the problems of government intervention—through an examination of the facts. The facts show that, despite claims to the contrary, the Texas electricity market is reliable and has adequate supplies well into the future. The reliability of the current market will be the subject of our next paper. The following paper will debunk the claim that a capacity market would provide greater reliability that Texas’ current energy-only market. 

I’m writing this note while attending a conference on the Texas electricity market. As it concludes, the one thing that really stood out for me here is that the people involved in this market are innovating constantly, seeking to overcome any challenges that get in their way. There is no need to radically increase government intervention in the market here. We just need to let competition work. 

Bill 

Click here to subscribe to Thinking Economically.

Bill Peacock 
Vice President of Research
Director, Center for Economic Freedom
Texas Public Policy Foundation
bpeacock@texaspolicy.com