1. The Yellow Book and the Blue Book 1993: PUC staff produces Yellow Book –Blames high prices on regulation and planning –Proposes alternative forms of competition April 20,1994: Blue Book endorses most radical Yellow Book proposal - “Direct Access.” –Intends to let retail users make same types of transactions utilities have benefited from. –Utility wires will be regulated “common carriers” –Provisions for utilities to recover stranded costs

2. Stranded costs If competition comes utilities need ways to recover costs of uneconomic plants –This becomes the real central issue With no explicit legal right to recovery, they claim a metaphorical contract exists –They take on service obligations in return for a low-risk return instead of a competitive one –Claim that PUC required building of nuclear plants and above-market PURPA contracts

3. Reaction to the Blue Book I Pro: Independent power, marketers, large users, some small users, some environmental groups, and PG&E Anti: SoCal Edison, San Diego Gas & Electric, some environmentalists, and small users Ultimately anti: A majority of the PUC Hopelessly split: Economists

4. Reaction to the Blue Book II PG&E endorses opening existing market, slowly with guaranteed stranding recovery SCE and SDG&E [monopolists from birth] propose “PoolCo” to bring competition PoolCo takes bids and sets hourly prices –Said to be patterned on U.K. pool Utilities remain monopolists who pass on PoolCo price and bill for other costs

5. The PUC picks PoolCo, and then... Nearly a year passes, the centralized market gains no support but PUC votes for it –Probably because its easier to regulate and maintains power of retail monopoly utilities Legislature concerned about PUC instituting massive change without its approval PUC fears that Poolco opponents will sway legislature, brokers a compromise in Sept. 1995

6. The market compromise There will be a statewide power exchange [PX] that functions like Poolco Utilities must do all their purchases and sales through it Non-utilities can use the PX or arrange bilateral transactions (“schedules”) Both bilateral and PX schedules will be executed by an Independent System Operator (ISO)

7. Assembly Bill [AB] 1890 [I] Extensive negotiations lead to unanimous passage of comprehensive law Sept. 1996 Bilateral and PX markets will coexist ISO and PX to be nonprofit corporations governed by “stakeholders” Bill creates Electricity Oversight Board of political appointees to oversee ISO and PX

8. AB 1890 [II] Large power users get rates frozen at 1996 levels Small ones get a 10 percent reduction, financed by bonds payable through 2010 Utilities must collect stranded costs using “headroom” in frozen rates Headroom = rate - fixed costs - PX energy cost –Headroom fluctuates with PX price

9. AB 1890 [III] SCE and PG&E [but not SDG&E] must divest half of their in-state gas-fired plants All three decide to sell all of these plants Premium prices on plants are applied to stranded costs Most stranded costs must be collected by Mar. 31, 2002.

11. Changing Times Then Now POWER GENERATORS UTILITY CUSTOMERS POWER GENERATORSPOWER MARKETERS SCHEDULING COORDINATORS CALIFORNIA ISO CUSTOMERS UTILITY ESPs California Power Exchange

12. Clearing the PX Markets Demand and supply bids accepted - 24 settlement periods Bids aggregated to form demand and supply curves MCP is intersection of supply and demand bids May be adjusted for congestion

13. The PX as a Commodity Exchange Role of exchanges in commodity markets –Facilitate trading by acting as counterparty –Provide price discovery –Provide liquidity –Allow construction of new derivatives –Clearing and settlement –Credit management

14. Market Structure PX Auction Bids Schedules of Other Schedule Coord PX Schedules Day Ahead Market Day Ahead Market PX Auction Bids PX Schedules Hour Ahead Market Hour Ahead Market Schedules of Other Schedule Coord Real Time Market Real Time Market Ancillary Services Market Bids from PX Participants and Other Market Participants Resources for Real Time Energy Day-Ahead & Hour-Ahead Trade Deliveries

16. The First Year of PX Prices Day-ahead market running smoothly Day-ahead market running smoothly çaverage price less than 2.5* cents/kWh Price volatility Price volatility ç90% of time price less than 4 cents/kWh