3BEFORE THE PUBLIC UTILITIES COMMISSION OF THE STATE OF CALIFORNIA Order Instituting Rulemaking ) on the Commission's Proposed ) Policies Governing Restructuring ) R.94-04-031 California's Electric Services ) Industry and Reforming Regulation ) ) Order Instituting Investigation on ) I.94-04-032 the Commission's Proposed Policies ) Governing Restructuring ) California's Electric Services ) Industry and Reforming Regulation ) COMMENTS OF SAN DIEGO GAS & ELECTRIC COMPANY (U 902-E) ON COMPETITIVE WHOLESALE ELECTRIC MARKETS AND MARKET INSTITUTIONS IN THE RESTRUCTURED ELECTRIC INDUSTRY JAMES F. WALSH Attorney for: SAN DIEGO GAS & ELECTRIC COMPANY 101 Ash Street Post Office Box 1831 San Diego, California 92112 (619) 699-5022 July 31, 1994 EXECUTIVE SUMMARY Making wholesale markets more competitive is a vital step in any industry reform. SDG&E supports implementation of an efficient wholesale electricity market based on a non- discriminatory, competitive power pool. A competitive wholesale pool would reduce costs to customers by increasing competition in the market and facilitating bilateral trades through -- improving market information flow optimally dispatching the systems of the pool members optimally using scarce transmission facilities providing nondiscriminatory transmission access reforming transmission pricing to provide price signals that facilitate decisions to add generation and transmission eliminating self-dealing concerns In contrast, proposals for "direct access" or "retail wheeling" do not accomplish any of these reforms. Instead, retail wheeling depends on, and preserves, the current market inefficiencies in order for a few select suppliers and customers to gain advantage. The gains by these few customers are likely to raise the rates of the remaining customers, as well as compromise environmental and public policy programs. This is an inequitable result, and it is not consistent with the Commission's reform objectives. What a Competitive Wholesale Power Pool is NOT: Some have argued that a competitive wholesale power pool is (i) a cumbersome, government-mandated institution that will increase regulatory intrusion, (ii) a delaying tactic to true reform because it is unachievable, (iii) unnecessary because existing market mechanisms are adequate, and (iv) a barrier to bilateral transactions. All of these rhetorical descriptions are incorrect. A competitive wholesale pool is NOT government-mandated. As with existing market devices, market participants interested in eliminating inefficiencies that hinder the market voluntarily develop such an arrangement. Based on the experience from the WSPP and similar mechanisms, once a pool is in place, it should result in less government intrusion than the current system. A competitive wholesale pool is achievable by willing participants in the same manner that RTGs and other existing devices have been accomplished. Moreover, because it is likely to receive regulatory approvals quickly, a pool is likely to be in place and providing the benefits of a more competitive wholesale market in the foreseeable future, in contrast to retail wheeling, which never achieves reform of the generation and transmission market, and faces many legal and regulatory obstacles. Wholesale market reform is necessary because the existing mechanisms are inadequate. In the current bilateral system, a policy that has relied on regulatory intervention through such mechanisms as transmission pricing rules, generation acquisition rules, and asset ownership and use rules has failed to reform the market, although it has increased command-and-control regulation. A competitive wholesale pool does not hinder bilateral transactions; it contemplates them. By establishing a structure that removes the barriers to such transactions, more bilateral arrangements should take place. The pool is simply a market device that helps to overcome the barriers to efficient bilateral trades. What a Competitive Wholesale Pool is: A competitive wholesale pool is operated by an entity independent of all generation and transmission suppliers and owners. This entity, which we call "Poolco", is responsible for dispatching the system on a non-discriminatory basis and obtaining necessary ancillary system services to maintain system reliability. In addition, Poolco operates an open spot market, or pool, to facilitate trading in electricity. The key to . Poolco's dispatch decisions is coordinating the bid prices of suppliers, demand requirements of distribution companies, and transmission congestion that may affect the optimal dispatch. The difficulty of this coordination underscores the need for Poolco's independence. Under the pool, bilateral transactions could take any form the parties desire. If they do not like the pool price, they can engage in bilateral transactions that result in a different price. In the absence of a bilateral contract that provides different terms, the price for power is the spot market price determined from the pool. One convenience of the pool is that it automatically sells all contracting parties back-up energy at the local pool price whenever they need it, and purchases any excess power at the local pool price. This system helps to encourage bilateral contracts that might otherwise not occur because, for example, one of the parties is concerned about the need for backup energy. An important feature of the wholesale pool is developing a means for dispatching over congested transmission facilities in a way that not only ensures reliability and optimal use of those facilities, but also provides price signals that affect decisions on transmission additions and on the location of new generation. The wholesale pool SDG&E recommends would establish different prices for generation delivered at locations affected by transmission congestion to provide these price signalsbased on the value those congested facilities provide. The grid will be expanded when users that would benefit from that expansion through reduced energy prices agree to do so. Additionally, if . no coalition of grid users can be formed, regulatory procedures, similar to those in use now, will decide whether additional transmission projects are appropriate. A Competitive Wholesale Pool Facilitates Market Access By Final Consumers One of the significant benefits of improving the wholesale market is the increasing role that market forces will play in long-term decisions, by allowing final consumers, directly or through middlemen, to make their own arrangements for long-term security of supply and price. This market access takes place without retail wheeling. All that is required is that consumers see the real-time spot-market price for power, unbundled from the remaining costs of service (such as costs for transmission and distribution, DSM programs, billing, and public policy programs). With that price signal, a consumer is free to seek financial hedges against this spot-market price. These hedges do not affect Poolco's system operation decisions because the hedges are made entirely separately and are purely financial in nature. This form of market access is significantly more efficient than the common form of retail wheeling. The competitive wholesale pool is a crucial element to industry reform. An important first step is for market participants to discuss their concerns about the market and share alternative ideas for market reform. SDG&E has initiated what it hopes will be cooperative discussions on the wholesale market. The first meeting is scheduled to take place on July 29, 1994 in San Diego. . BEFORE THE PUBLIC UTILITIES COMMISSION OF THE STATE OF CALIFORNIA Order Instituting Rulemaking ) on the Commission's Proposed ) Policies Governing Restructuring ) R.94-04-031 California's Electric Services ) Industry and Reforming Regulation ) ) Order Instituting Investigation on ) I.94-04-032 the Commission's Proposed Policies ) Governing Restructuring ) California's Electric Services ) Industry and Reforming Regulation ) COMMENTS OF SAN DIEGO GAS & ELECTRIC COMPANY (U 902-E) ON COMPETITIVE WHOLESALE ELECTRIC MARKETS AND MARKET INSTITUTIONS IN THE RESTRUCTURED ELECTRIC INDUSTRY In accordance with the Assigned Commissioners' Ruling, dated July 8, 1994, San Diego Gas & Electric Company offers these comments on developing a competitive wholesale electric market. SDG&E's Comments are structured to address the following issues: Part One discusses what electricity consumers, producers and other market traders should expect from a restructured wholesale market and why SDG&E believes that developing a more efficient wholesale market that is equitably open to all traders is an essential part of any industry restructuring and an essential prerequisite of market access at the retail level. SDG&E supports the market participants working together to develop an improved wholesale market; we believe that a competitive wholesale pool is most likely to achieve that goal. Part Two of these Comments outlines SDG&E's current thinking on this wholesale market structure. We offer this outline as a resource for the Commission and all interested parties to answer . specific questions about how we expect the market in the restructured industry should work. I.DEVELOPING A COMPETITIVE WHOLESALE POWER MARKET THAT PROVIDES BENEFITS TO ALL CONSUMERS A. INTRODUCTION: WHAT CALIFORNIA HAS ALREADY ACCOMPLISHED The Commission's Bluebook has brought about a revolution so significant that the industry cannot return to where it was before April 20, 1994. As we look forward to the next steps in this proceeding, it is well to focus on what has already been accomplished: For the first time in history, all three major California investor-owned utilities have offered plans to reduce the cost of their generation to market levels over a defined period. At least two of the utilities have now announced that they are out of the new generation business, and SDG&E has gone the next step and stated its intent to separate its generation from the utility into an affiliate, consistent with proposals by many of the parties. The industry is actively discussing ways to make the wholesale market more competitive. The role of performance-based mechanisms in reducing costs for services which will still remain under regulation has now been recognized, and all three of California's major IOUs have advanced proposals to establish such mechanisms. Each of these steps recognizes market realities in anticipation of greater competition in the future. If the . Commission did nothing more than to guide these actions to a conclusion, the Bluebook would be a success. But there is much more that can be accomplished to reduce costs to customers. A necessary step in this work is action to achieve a more competitive wholesale market. B. ACHIEVING EQUITABLE BENEFITS FOR ALL MARKET PARTICIPANTS Many parties have criticized as unattainable the Commission's challenge in the Bluebook to restructure the industry in a way that does not harm any of the stakeholders involved. While we admit to some skepticism ourselves, this proceeding does have the potential to accomplish precisely what the Commission envisioned. It is possible to have greater competition, which enhances pressure to reduce rates, without treating customers inequitably, or forcing the numerous owners of utility stock to bankroll wealth transfer payments to finance industry change. It is also possible to achieve all of these things while preserving the State's aggressive pursuit of cost- effective demand-side management and important public policy programs, such as low income ratepayer protection and environmental preservation. However, implementation will require a delicate balancing of competing interests. A portion of this balancing process is already underway through utility proposals to bring generation assets to market. These proposals should serve the dual purpose of protecting customers from rate shock and utility investors from the severe cost penalty that would arise if the Commission abandoned its regulatory commitment on which those investors relied. The more . difficult task is to ensure that, as competition increases, it does so in a healthy way that meets the Commission's goals of allocating benefits equitably to all consumers, through reliance on the market and not command-and-control regulation. This is a fair expectation for industry restructuring. If all industry restructuring accomplished was to provide special benefits for a limited few customers, it would be a dismal failure. Economists caution us that the competitive market can be surgically efficient, allocating benefits to some frequently at the expense of others. The belief that this will be the result of the Commission's proposed industry restructuring is one reason why parties such as TURN are very concerned that "retail wheeling" will cause their constituents to pay higher rates. TURN observes that the market will not yield advantage to its constituents because they do not have the political or economic influence to achieve the special arrangements that "retail wheeling" contemplates. TURN's concerns are legitimate. However, SDG&E believes that economic theory can yield a result which provides equitable access to the benefits of industry restructuring. At the same time, unless care is take in the means by which we attempt to achieve reform, TURN's vision will come true, and the restructured industry will skew benefits to only certain classes of customers, and actually raise costs to some customers. This inequitable result will occur if the Commission does not stimulate improvements to the wholesale market, or if the Commission pursues retail wheeling in a way that apportions benefits only to some, and penalizes others. In the remainder of . this Part, SDG&E discusses why the inherent flaws in a bilateral trading/retail wheeling model unfairly impact some customers and why SDG&E's proposal provides a structure and blueprint for success. C. ACHIEVING A COMPETITIVE WHOLESALE MARKET In the Bluebook, the Commission expressed considerable concern about problems it saw in present wholesale markets. The Commission observed that limited access to information and high transaction costs, as well as barriers to access and efficient use of the transmission infrastructure, hinder the competitiveness of the wholesale market. 1 This was not the first time that the Commission has expressed concern about the functioning of the wholesale market and the need for improvements to that market as a fundamental element in meeting the Commission's key objective of "reliable service at reasonable cost".2 The Commission has stated that one of its goals to achieve this key objective was -- [T]o promote competition in electric generation by facilitating participation in the wholesale market by as many sellers from as many areas as possible. This includes exchanges among sellers within California, and between California and out-of-state producers. In order for these exchanges to occur, these sellers must have reasonable access to the transmission system.3 Thus, for the past several years, the Commission has had a goal to improve the competitiveness of the wholesale market as a crucial feature of the Commission's efforts to reduce the cost of 1 Bluebook at 17. 2 See, e.g., D. 92-09-078, slip op. at 4; see also, D. 91-06-022, slip op. at 12 in which the Commission stated: "[W]e are still opening up the avenues of competition and establishing the bases of competition, as we've just discussed. Those tasks are under way, but far from finished". 3 D. 92-09-078, slip op. at 5. . energy services. The Bluebook appears to continue to recognize the problems with the current wholesale market and the need for a comprehensive solution. The goal of reforming the wholesale energy market has not yet been accomplished. As a potential solution, the Bluebook expressed interest in the development of a wholesale pool to facilitate wholesale transactions and improve efficiency4. The Commission is right. Although the existing wholesale market has provided significant cost savings and efficiencies for customers, it has not achieved equality among competing suppliers, and, as presently structured, it cannot maximize efficiencies. More must be done to improve the competitiveness of the wholesale market. Unfortunately, other than those who support a competitive wholesale pool, no party has offered any proposals for achieving wholesale market reform. SDG&E believes that a competitive wholesale pool is a crucial feature to improving the competitiveness of the wholesale market. It will -- ù Improve information flow on the pricing and availability of power on a real-time basis, Result in optimal dispatch of the system members of the pool, Make optimal use of scarce transmission facilities and provide nondiscriminatory transmission access, Provide market price signals to facilitate decisions to add both generation and transmission when it is economic to do so, AND 4 Bluebook at 26. . Eliminate self-dealing concerns. Moreover, because it is designed to provide the market clearing price to all end users through a highly competitive process, it spreads the benefits of low cost power equitably among all consumers. In contrast, various forms of bilateral trading, which reduce to retail wheeling, preserve the inefficiencies of the existing system and strive to take advantage of those inefficiencies to create inequities among customer classes. That is not reform or progress, and it is not the road to achieving the Bluebook's vision. If the Commission pursues a course of action designed to preserve inefficiencies for the privileged few to capitalize on, it will have failed the State's electric consumers. Our proposal to take specific action to correct the flaws in the bilateral trading model addresses the Commission's long-held concern that the wholesale market needs reform to be more competitive. Until recently, the means of achieving that reform have not been apparent. Now, the experiences and successes of countries around the world in wholesale market reform offer California a clear path by which we can develop a more competitive wholesale market mechanism that can be adapted to meet California's unique circumstances and needs. The competitive wholesale pool offers an opportunity which the State should pursue. 1. DEFINING A COMPETITIVE POWER POOL The concept of a pool is quite simple. A pool provides a market for electricity that allows all traders to participate in the market. The pool facilitates bilateral trades in electricity . by providing -- (a) pricing information to all participants, (b) a spot market in which to buy or sell surplus generation, including backup service, (c) nondiscriminatory transmission access, and (d) pricing for transmission congestion to encourage proper placement of generation, and to give price signals for constructing new transmission. In the wholesale pool SDG&E recommends, sellers bid a price, location, and amount of power to be delivered into the grid and retailers bid a price, quantity and location of power they seek to purchase. The pool operator ("Poolco") dispatches the system optimally and establishes a market clearing price. Sellers that are dispatched receive this clearing price; buyers pay the clearing price plus an additional payment to reflect other costs of the grid, such as voltage support. A key feature of this pool is the development of market clearing prices at different locations that reflect the scarcity or abundance of transmission at those locations. This will give price signals that will stimulate interest in building new transmission, where there is scarcity, and encourage new generation where transmission is abundant. SDG&E describes the structure and operation of the wholesale market and the pool in more detail in Part Two. By definition, a pool ensures that operation and dispatch of the system is completely unbiased, based solely on what is the optimal dispatch, determined from prices that suppliers bid. It achieves this because the Poolco is completely independent of any buyer or seller of power or transmission. It is Poolco's job to . dispatch the system optimally, determine how existing transmission is to be used, balance loads and resources on a real-time basis, and ensure the safe and reliable operation of the grid. Some of this goes on today. Various pools currently operate to optimize utilization of resources under their control.5 The simplest example is a single utility operating its generation and transmission, along with any purchase or sale contracts, for the benefit of its own customers. In this model, the utility also likely interacts with other systems or pools on a voluntary basis.6 However, as the Commission has pointed out, while the current system does the best it can with the tools it has, limited information flows, parochial interests in transmission, transmission pricing and availability uncertainties, and lack of price signals for new generation, among other things, have made the existing system imperfect, and at times, ineffective. 2. FALLACIES REGARDING A POOL There are two fallacies regarding a pool that need to be understood. First, some have claimed that pools are slow-to- develop, governmentally-encumbered mechanisms that will frustrate the free market. That emotion-charged description is a false description. A pool is a market device that can only be developed by 5 The WSPP is not a "pool" that operates to optimize dispatch. It is a limited bulletin board system for short-term transactions, in which only some of the available prices are posted. Although it is a vast improvement over the systems that existed prior to its inception, it leaves unaddressed such issues as coordinated system dispatch, transmission pricing, transmission availability, price signals for system expansion, and ancillary services, which are still the subject of separate agreements. 6 The current systems have historically worked together through cooperation of interconnected utilities. As competition grows more fierce, this cooperative environment breaks down and may no longer be relied on to ensure the best operation of the system. . agreement among the market participants. It is not a "government-mandated" institution; neither is it operated by the government. Market participants that want to improve the competitiveness of the market act together to develop a pool, and those interested in doing so can make immediate progress.7 An independent entity, not a government agency, is responsible for operating a pool. A pool will involve less government intrusion than the current bilateral system which involves multiple agreements, and under which every contract is subject to regulatory oversight and the continually changing regulatory environment. There is every reason to believe that motivated players in the market can develop a pool successfully. The participants have the history and experience with system operations and formation of related organizations such as the WSPP, and regional transmission groups that will provide a good starting point for establishing a pool. Moreover, FERC's interest in RTGs and in the efficiency of wholesale markets would ensure a speedy course through the regulatory process, particularly if the CPUC provides its leadership and strong support. The second fallacy is the belief that a pool prevents traders from engaging in bilateral transactions. To the contrary, with a pool, market traders are expected to engage in bilateral transactions. The pool helps these transactions to occur by, among other things, (i) making market information 7 Consistent with our belief that market participants can, and should work cooperatively to develop such structures, SDG&E has initiated a process for the market participants to conduct cooperative discussions to improve the wholesale market. The first meeting on these issues is scheduled to take place in San Diego on July 29, 1994. Over 30 parties to the Bluebook proceeding have indicated their intention to attend this meeting. . available to the participants, (ii) providing for transmission, and (iii) providing a structure in which back-up energy is automatically available at the pool price, so buyers do not need to bargain this out separately8. Traders are free to bargain any kind of legal transaction they desire. Thus, a pool supports, rather than hinders, bilateral transactions. Ironically, the current bilateral structure actually constrains the optimum number of transactions because of the transaction costs, the complexity of developing necessary contractual arrangements, and the number of disputes that arise from those arrangements. Without substantial intervention to change existing institutions, the existing bilateral structure is also likely to frustrate the development of retail wheeling. Existing mechanisms were not developed with retail wheeling in mind and would not automatically be able to accommodate such new transactions. New systems intended to address scheduling of retail transactions, transmitting power along contract paths, and addressing control area services, among other things, will need to be developed and approved by regulators. The solution offered by those supporting bilateral trading to correct these problems is not reliance on the market, but further regulatory intervention. 3. MARKET ACCESS FLOWS BEST FROM A WHOLESALE POOL In contrast to using "retail wheeling" as the means of reforming the electric industry, developing an efficient 8 Those who have experienced attempting to obtain backup service for QFs in the early 1980s or backup service for other wholesale supplies are already familiar with the problems that have arisen in the bilateral system regarding the price and availability of such service. . wholesale market and ultimately providing customers with access to the spot market price which emerges is the best way to meet the Bluebook's goals of (i) ensuring that the market access it provides to customers is equitable, (ii) ensuring that policy and social goals can continue to be woven into California's electricity markets, and (iii) protecting against possible wealth transfer payments by the utility to some or all customers that would result from refusing to allow full recovery of costs for past commitments prudently made. We have discussed public policy issues in our comments filed on June 24, 1994 and July 21, 1994 and will not reiterate them here, and we intend to discuss more fully the issue of transfer payments in our comments for the September full panel hearing currently planned by the Commission. Our comments here are directed toward the equitability to consumers of various plans to enhance competition. The Commission should not consider taking a final step into retail wheeling until the market is competitive, providing properly-priced transmission and open information on spot market prices. With these conditions in place, customers can engage in separate hedging transactions that provide them the "choice" the Commission has indicated it would like to provide, even though there is no actual "retail wheeling".9 This structure provides retail access through access to the market price for power, rather than through the fiction of retail wheeling, and it affords such access equitably to all customers. If, instead, the Commission chooses to pursue "retail 9 This type of market access was described by Professor Hogan in his comments to the Commission dated June 15, 1994. . wheeling", not only will benefits be inequitable, it will raise the costs to some consumers, fulfilling TURN's nightmare, and compromising implementation of environmental and public policy initiatives.10 This occurs because "retail wheeling" without wholesale market reforms simply preserves the inefficiencies of the existing system in order for a select few to make power sales to the customers with the best load patterns, creating inequities among customers that may increase the costs to customers that are not able to take advantage of "retail wheeling". An example illustrates the point. SDG&E currently purchases substantial amounts of power in the market, buying as much as the market and system reliability will allow. These purchases help to keep SDG&E's rates down for all of our customers. Under the common definition of "retail wheeling", SDG&E expects that those currently selling to SDG&E at wholesale at a low price, will seek to sell directly to those SDG&E customers with the best load profile, at a higher price. If such a sale occurs, SDG&E's remaining customers will no longer receive the benefits of this low-cost power, and their rates will increase as a direct result of having provided "retail wheeling". This same result will occur even if all customers are given the opportunity to take advantage of "retail wheeling" because only the customers with the best load characteristics will be attractive enough to be able to take advantage of this opportunity. Instead of providing benefits to all customers, "retail wheeling" provides benefits to a few, at the expense of other customers. This violates the 10 Those promoting demand-side management or public policy programs have long been concerned that retail wheeling will discourage such programs, even if they are otherwise deemed desirable. We discuss this issue in more detail in our Reply Comments on balancing public policy objectives, dated July 21, 1994. . Commission's fundamental objective of fairness. This kind of customer "choice" is illusory. Under this system, the only customers with a true "choice" are the ones with the most attractive load characteristics.11 In contrast, by making the wholesale market more competitive, the Commission can provide the benefits of that competition to all customers, rather than an elite few. With a competitive wholesale pool, low cost suppliers bid into the pool, and all customers share the benefit of the market clearing prices resulting from the bid. Unlike the bilateral trading model, customers need not make a commitment to market access in order to gain the advantages of market-based prices, and they retain the option to purchase at the pool's spot price or to take the average price over the month from their local distribution company. Effective customer "choice" does not depend on retail wheeling from individual generators any more than consumer choice for vegetables requires buyers to be able to shop directly with farmers. What is needed is active competition among producers, and the competitive wholesale pool provides that competition. The bilateral trading model alone fails to do this. D. CONCLUSION Industry reform must start with improving wholesale markets. A competitive wholesale pool provides to all customers, rather than an elite few, the benefits of the market price for power. Once a competitive wholesale market is in place, and customers' 11 SDG&E understands that New Zealand endeavored to initiate retail wheeling before putting in place the wholesale market mechanisms necessary to provide for meaningful competition and has achieved nothing. Without market reforms, at best "retail wheeling" is meaningless, as in New Zealand, but at worst, it is inequitable. . prices reflect the spot market price for power, they have true access to the market. As Professor Hogan has explained, customers will be able to expand this access further by entering into contracts that hedge against this spot market price. All of this is achievable through the cooperation of the market participants. The effort to achieve that cooperation will begin at the initial meeting on wholesale markets in San Diego on July 29. In contrast, "retail wheeling" grafted onto a bilateral trading model institutionalizes inefficiencies in the market and reduces costs only for a few customers, at the expense of other customers. The resulting discrimination will violate the Commission's commitment to fairness to all customers. This is not reform and it will not solve the fundamental inefficiencies in the market. In the next Part, we describe in detail how an efficient wholesale competitive market based on a pool would function. II. AN EFFICIENT WHOLESALE ELECTRICITY MARKET: THE SDG&E POOLING PROPOSAL A. INTRODUCTION SDG&E supports the establishment of an efficient wholesale electricity market based on a nondiscriminatory, competitive power pool open to all qualified wholesale utility and nonutility entities. The objective of a pool-based wholesale market is to reduce the costs of electricity by increasing competition in those parts of the electricity system where market forces can be effective and efficient, while legislative and regulatory attention focuses on the remaining monopoly parts of the industry . and on the environmental and social goals that competitive markets cannot be expected to handle. Although SDG&E is confident that an efficient, competitive electricity market can be developed, doing so is inherently difficult in practice and even in theory. Indeed, a major justification for treating electricity supply as a monopoly has been the impossibility of coordinating the actions of competitors by using prices to match supply to demand instantaneously at each of hundreds of locations, as required on an interconnected electricity grid. Recent advances in information technology make it practical now to use competitive markets much more extensively in managing an electricity system, but only by carefully integrating market processes into the still-essential central control and coordination functions. A pool-based wholesale electricity market is complex, not because a pool makes it so, but because a pool recognizes and deals with the real complexities of an electricity system. Assuming that somehow an "invisible hand" will create an electricity market that can deal with or can ignore the technical complexities is an invitation to supply disruption, high costs, and inequitable shifting of costs. Those who really want competition to accomplish the objective of reducing costs to consumers, as opposed to creating opportunities for some players to exploit gaps and inefficiencies at the expense of others, will invest the time and effort necessary to develop the market arrangements required for efficient and effective competition. . Once an efficient wholesale pool has been established, consumers can obtain market access through retail utility prices that unbundle the pool price from the balance of utility costs. This will make it possible for consumers to make their own contract arrangements for longer-term price stability and portfolio diversity, with the utility's obligation to supply redefined as the obligation to provide access to the wholesale market. Retail access to the market and redefinition of utility obligations can proceed as quickly as the pooling institutions and technical facilities (e.g., metering) are put in place. To advance understanding of wholesale markets and pooling, SDG&E has invited interested parties to join a working group to produce one or more specific wholesale market proposals for submission to state and federal regulators, and offers this outline of SDG&E's current thinking on the subject. The ideas presented here reflect theory and experience developed in electricity markets around the world, but are expected to be modified when tested by discussion and analysis of the specific issues facing California.12 B. A POOL-BASED WHOLESALE ELECTRICITY MARKET 1. STRUCTURE OF THE INDUSTRY Effective competition in any market requires multiple buyers and sellers interacting through efficient contracting and physical trading arrangements. The basic commercial arrangements 12 The wholesale market outlined here is essentially the same in concept as the market outlined by Southern California Edison. The differences are in the details of implementation, particularly in dealing with congestion on the grid. These differences and other details will be resolved through further discussion, analysis and quantitative modeling in the working group proposed by SDG&E as well as elsewhere. . in a competitive market will be determined by informal, decentralized negotiations between individual buyers and sellers, culminating in bilateral, usually confidential commercial contracts. However, for many commodities, particularly those that are costly to move and to store, efficiency and competitiveness are greatly enhanced by the establishment of centralized transport, storage and/or trading facilities. Such facilities have many characteristics of natural monopolies and hence access to and pricing of these facilities should not be controlled by any of the potentially competitive traders in the market. .