PowerFacts

Synapse Climate Report Misfires Wildly - Part One: Discussion of Organized Power Markets is Flawed

Part One: Discussion of Organized Power Markets is Flawed

This two-part EPSA PowerFact is prompted by the July 15, 2009, release by several organizations of a report prepared for them by Synapse Energy Economics, Inc. In Part One, EPSA addresses the report's flawed discussion of the organized wholesale power markets that serve two-thirds of the country. In Part Two, EPSA demonstrates that the report's discussion of the House-passed Waxman/Markey bill's inclusion of merchant coal allocations in the bill's overall allocation to the electricity sector actually justifies these important transitional provisions, despite claims to the contrary by the sponsors of the Synapse report.

Legislating across almost the entire economy to address concerns about greenhouse gas emissions and climate change is serious business, nowhere more so than for the electricity sector that is a fundamental building block for the U.S. economy and our nation's standard of living. The legislation will require all power plants that emit greenhouse gases to annually provide U.S. EPA with allowances to cover each plant's emissions. This is true regardless of whether the plant is owned by a competitive power supplier, a rate-based vertically integrated utility, a public power agency or a rural cooperative. This is also true regardless of whether the plant is in an organized power market or a bilateral one.

EPSA has long been on record in favor of economy-wide, market-based federal climate legislation consistent with its climate policy principles. EPSA addresses carbon allowances from the simple starting point of fairness to all electricity consumers and producers as all are essential to the reliability of the nation's interconnected power systems and all will be making significant investments to achieve a substantially lower carbon future. The Synapse report fails that test in many particulars and these two EPSA PowerFacts are designed to set the record straight for policymakers.

This Part One stems from the fact that while the Synapse study purports to be instructive in fashioning how carbon allowances are distributed in federal climate change legislation, much of the report veers off into an entirely red herring discussion of how wholesale power prices are set in the independently-operated organized electricity markets. This appears to be nothing more than an editorial rather than serious analysis. Among other failings, the report does not begin to say how climate legislation's allowance allocations should actually reflect the fact that these organized markets exist, they serve fully two-thirds of the country, and hundreds of power plants in them would be required to obtain allowances each year.

The Synapse report's very first page makes the sweeping assertion that "any" allowance allocation in "deregulated" power markets will result in "windfall profits" and that "any" free allocation to "merchant generators" will serve to increase them, thus allegedly increasing consumer costs, all of which the report terms "unproductive." While this is pretty strong rhetoric, the report's own later "analysis" reduces it to rubble.

The fundamental flaw in the report's discussion of organized markets is that it erroneously assumes that competitive suppliers will not continue to make significant investments in lower-carbon electricity with the revenue from any higher market prices due to enactment of climate legislation. This assumption is belied by the record of past, present and future investments by competitive suppliers in each of the organized markets that tally into the billions of dollars. The report utterly fails to state how investments to maintain and expand lower carbon generation in organized markets could be made without a fair opportunity to earn a return on investment.

The report contrives a distinction between "productive" and "unproductive" costs, but only applies it to organized wholesale markets, and no surprise, not to rate-based generation including that of the two report sponsors whose members own generation. The report's supreme weakness is evident by noting that it classifies all increased revenue in organized wholesale markets as "unproductive" even though the report explicitly (a) acknowledges that investments in lower carbon electricity are "productive," (b) admits that the ultimate cost to consumers will depend on how allowance proceeds are used, yet (c) confesses that the report did not attempt to quantify productive investments in wholesale markets. This should disqualify its use in making policy choices.

The report vastly overstates the increased revenue that may occur in organized markets from federal climate legislation. Any model or analysis is only useful if it closely replicates reality. This report does not, and its authors admit as much, because of at least two false assumptions. First, the data assumes that all wholesale sales are made on hourly spot markets, when the vast majority of transactions are not on the spot markets. Second, as a result, it incorrectly assumes that all competitive power generators receive the single market clearing price.

At the same time, the report seriously understates the likely cost of complying with carbon legislation that competitive power suppliers will face and thus will impact the customers they serve. For example, the data runs (page 9) assume that abatement costs will consistently be half the assumed allowance price of $20 per ton, yet the authors later admit (page 18) that allowance prices could be as high as $50 per ton.

The report only looked at the "early years," and did not at all examine the "long run" covered by a program extending into mid-century, yet admits that in that "long run" the market mechanisms some report sponsors criticize may very well be "an efficient driver for the development of new low-carbon resources." (page 4)

The report largely gives a pass as to how carbon allowances would work in states with vertically integrated utilities, even though on page 17 it indicates that cost-based consumers would also pay more than the authors deem "productive." With consumer costs in the Synapse model higher than "productive" abatement costs in both organized markets and cost-of-service regions, what are the report's sponsors really trying to advocate?

CONTACT: JOHN SHELK
(202) 349-0154or 703-472-8660

EPSA is the national trade association representing competitive power suppliers, including generators and marketers. These suppliers, who account for nearly 40 percent of the installed generating capacity in the United States, provide reliable and competitively priced electricity from environmentally responsible facilities serving global power markets. EPSA seeks to bring the benefits of competition to all power customers.