BEFORE THE PUBLIC UTILITIES COMMISSION OF THE STATE OF CALIFORNIA Order Instituting Rulemaking on the ) Commission's Proposed Policies ) Governing Restructuring California's ) R.94-04- 031 Electric Services Industry and ) Reforming Regulation ) Order Instituting Investigation on ) on the Commission's Proposed Policies ) Governing Restructuring California's ) I.94-04- 032 Electric Services Industry and ) Reforming Regulation ) COMMENTS OF MAGMA POWER COMPANY ON CUSTOMER CHOICE THROUGH DIRECT ACCESS Karen K. Edson Karen M. Peterson Edson + Modisette 1303 "J" Street, #770 August 24, 1994 Sacramento, CA 95814 2 TABLE OF CONTENTS Page I. Introduction and Summary. 1 II. The Commission's Proposed Program Will Not Achieve Its2 Own Objectives. III. The Market Resulting From The Commission's Decisions 3 Will Be Shaped By Commission Policies. IV. Markets Alone Will Not Achieve The Commission's 4 Objectives. V. The Commission Must Strike A Sensible Balance Between 5 Reliance On Market Forces And Its Obligation To Achieve Critical Policy Objectives. VI. A Renewable Policy Should Protect Consumers From 6 Fuel Price Fluctuations, Work In Either A Retail Or Wholesale Market, And Spread Costs Across All Consumption. VII. Magma's Proposal Achieves These Goals. 7 VIII. Conclusion. 10 i COMMENTS OF MAGMA POWER COMPANY ON CUSTOMER CHOICE THROUGH DIRECT ACCESS I. INTRODUCTION AND SUMMARY. The California Public Utility Commission's (CPUC) April 20th Order entitled "Proposed Policy Statement on Restructuring California's Electric Services Industry and Reforming Regulatory Policy" (Blue Book) has been met with widespread opposition and criticism from numerous and diverse interests. This criticism results to a large degree from the proposal's failure to include meaningful mechanisms to achieve important state policy objectives, including resource diversity, demand-side management, low-income assistance and environmental protection goals. Although Magma agrees in large part with these criticisms,1 Magma also believes that lower electricity rates through increased competition and direct access need not preclude continued pursuit of critical diversity, efficiency, environmental, and other policy goals. Unfortunately, the controversy resulting from this widespread and vocal criticism has foreclosed useful discussion of the mechanisms that could be used to achieve these policy objectives, consistent with the 1For a full discussion of Magma's concerns, see "Comments of Magma Power Company on the CPUC's Proposed Program to Restructure California's Electric Services Industry and Reform Regulatory Policy," June 8, 1994. 1 overriding need to lower electricity rates. In these comments, Magma recounts the Commission's commitment to resource diversity and other public policy objectives; the importance of establishing clear commitments to achieving these objectives now, so that parties can begin to work constructively on the issues; and one possible mechanism for maintaining the State's resource diversity policy, consistent with existing State law and policies. II. THE COMMISSION'S PROPOSED PROGRAM WILL NOT ACHIEVE ITS OWN OBJECTIVES. The Blue Book repeatedly acknowledges the importance of state resource diversity and environmental policies and includes these among its key objectives. For example, the proposal contains the following statements: o It "recognizes and embraces California's commitment to resource diversity and environmental quality."2 o The Order states that "these important goals [resource diversity and environmental quality] will continue under any restructured resource procurement program."3 o It states that the proposal "will assist in statewide efforts to improve environmental quality and resource 2Proposed Policy Statement on Restructuring California's Electric Services Industry and Reforming Regulatory Policy, April 20, 1994, p. 27. 3Ibid., p. 33. 2 diversity."4 Magma welcomes these indications of the Commission's commitment to resource diversity but remains convinced that this objective will not be achieved with the mechanisms identified in the Blue Book. Without modification, the State's legitimate resource diversity and environmental concerns will not be mitigated. III. THE MARKET RESULTING FROM THE COMMISSION'S DECISIONS WILL BE SHAPED BY COMMISSION POLICIES. The Commission's assertions in the Blue Book that it remains committed to the State's resource diversity and environmental quality policies suggest that the agency does not recognize the extent to which its proposals actually harm the competitiveness of renewable resource technologies. When power purchasers assess the relative attractiveness of power supply alternatives, relative risks are central considerations. Power purchasers can be expected to ask, for example, about the relationship between fixed and variable costs, the extent to which costs can be controlled, the exposure to future regulatory changes, and the term of the commitment. The answers to these and other questions will determine the position of competing supply alternatives in the future market. The Blue Book suggests answers to these and other questions. The answers, however, systematically bias wholesale and retail 4Ibid., p. 52. 3 choices against renewable resource technologies. Wholesale choices by investor-owned utilities are biased by performance- based ratemaking "Z factors" which shield utilities from fuel price changes and future environmental costs. These are among the attributes which give renewable resource technologies their greatest value. Retail choices by end-use consumers are biased by the proposal to permit consumers to return to the utility system with twelve month's notice, thereby permitting end-users to escape the long-term consequences of their resource decisions. Magma respectfully suggests that it will be virtually impossible for the Commission to eliminate these and other unintended consequences of its regulatory proposal. IV. MARKETS ALONE WILL NOT ACHIEVE THE COMMISSION'S OBJECTIVES. Even if utilities are removed from the generation business, as recommended by Magma and many others, and retail wheeling is made a consumer option, Magma believes that utilities will remain the dominant purchaser of power in the market. As a result, the CPUC's treatment of their power purchase costs, the nature of transmission pricing policy, and the handling of transmission upgrade choices over time will have a direct impact on the market and the relative competitiveness of competing interests. Suffice it to say that regulation will shape the market to some degree. More specifically, markets alone will not necessarily render judgments which result in a diverse and 4 efficient electricity system. The very long-lived nature of power generation options makes it difficult if not impossible to ensure that specific retail consumers will bear the long-term consequences of their choices. V. THE COMMISSION MUST STRIKE A SENSIBLE BALANCE BETWEEN RELIANCE ON MARKET FORCES AND ITS OBLIGATION TO ACHIEVE CRITICAL POLICY OBJECTIVES. Regulatory and market failures are precisely the issues which public agencies appropriately address. Yet the Commission's proposed reforms in the Blue Book emphasize the mechanisms it believes are necessary to implement competition and direct access and do not acknowledge or address the market failures attendant to its proposed structure. This not only renders the proposal inadequate but also has precluded meaningful dialogue on alternative mechanisms to achieve policy goals under the proposed restructuring. Magma urges the Commission to reconsider this approach and sequence its decisions to allow parties to engage more constructively in its deliberations. More specifically, Magma recommends that the Commission: (1) define the consumer benefits that would be achieved under a retail v. wholesale power market; (2) quantify the cost of programs to achieve specific renewable resource development objectives, maintain low-income assistance programs, maintain and encourage 5 energy conservation, and regulate for a continuing utility role in the generation market, should they remain in that market; (3) promulgate a decision on retail v. wholesale wheeling, the utility role in power generation, and the specific diversity, energy conservation, and low-income policies that will be achieved through continuing Commission regulation of the market; and (4) deliberate on implementation issues, including ways to achieve continuing policy objectives. VI. A RENEWABLE POLICY SHOULD PROTECT CONSUMERS FROM FUEL PRICE FLUCTUATIONS, WORK IN EITHER A RETAIL OR WHOLESALE MARKET, AND SPREAD COSTS ACROSS ALL CONSUMPTION. Several principles are key to any resource diversity program. First, the program should establish a minimum level of ongoing development designed to ensure that renewable resource technologies continue to mature and advance. This serves as an important hedge against future fuel price fluctuations and environmental costs by ensuring that these technologies remain current and competitive. Second, the program should work in either a retail or wholesale wheeling market so that it does not prejudge the nature or evolution of the competitive market. Third, the program should rely on a competitive market mechanism to ensure that the lowest cost, most competitive renewable resources are developed. Fourth, the program should ensure that 6 costs are paid by all California consumers so that all competitors in the generation market remain on an even footing. Magma is not proposing a return to standard offer or BRPU- type arrangements on the assumption that utilities will be removed from the generation market. In this way, a utility power purchaser will have no regulatory or economic reason to favor one bidder over another. Regulatory mechanisms like the BRPU are only necessary when a utility is a competitor at the same time that it remains a dominant power purchaser or a transmission owner. In the event that utilities are no longer in the generation market, the purchasing entity in Magma's proposal could be allowed to tailor its solicitations and final purchasing arrangements as it sees fit. Renewable developers would, presumably, receive their bid price or the price negotiated with the purchasing entity and not a price predetermined or altered by regulation. VII. MAGMA'S PROPOSAL ACHIEVES THESE GOALS. In prior comments Magma has articulated its belief that increased competition and direct access need not preclude achieving critical diversity, efficiency, environmental, and other policy goals. At the same time, Magma continues to believe that the proposal contained in the Blue Book is wholly inadequate. Under the Commission's Blue Book proposal, renewable 7 resource technologies will not be developed. This is because high capital cost, low variable cost alternatives will not succeed in a market where variable costs are currently low for the low capital cost alternative, and utility and retail power purchasers are insulated from the risk inherent in relying on a short-term market, as described in Section III above. As a result, consumers will be exposed unnecessarily to risks associated with fuel price and environmental controls that may be required for coal or natural gas competitors. In the absence of a policy to achieve a balanced portfolio of resource development, the technologies most desirable in the event of unexpected price fluctuations or future environmental mitigation requirements will have been mothballed, with accompanying efficiency penalties and start-up cost consequences. Magma describes below one possible means to achieve resource diversity through a competitive mechanism in a restructured power market. It is offered not as a definitive proposal but as an indication of Magma's sincere interest in identifying a way to achieve the Commission's objective of lower rates for California consumers which does not sacrifice the State's long-standing diversity and environmental objectives. Magma proposes that the Commission incorporate a resource diversity policy in its final order designed to achieve a specific, sustained development objective. The policy should: (1) commit to a specific, continuing level of renewable 8 resource development;5 (2) require the transmission and distribution utility to obtain competitively-priced, long-term (at least 15 year) contracts with renewable6 generators to achieve the desired level of development; (3) establish a measure of the market clearing price for capacity and energy appropriate to long-term power delivery commitments either from an appropriate reference price emerging from the market or a proxy constructed to approximate this market price;7 and (4) periodically determine whether the contract price for renewable resources exceeds the market clearing price, and if so, set a charge on all electricity consumers which collects the difference between the market 5Magma does not intend to imply by this recommendation that an elaborate resource planning process is necessary to establish this development objective. It could be as simple as setting a specific development level based on a simplified assessment of expected resource additions, a simplified definition of future power needs, or the level of development needed to cause continuing technological innovation. 6Magma recommends that the Commission rely upon PURPA to define renewable resources. By that definition, they include biomass, waste, wind, small hydro, and geothermal technologies. 7A variety of reference prices should emerge as the electricity market becomes more competitive and moves towards a fully developed commodity market. As pointed out by the NYMEX in its June 26th Comments, price transparency and price discovery increase as commodity markets mature. Because the development of a mature electricity market will take time as barriers to competition are reduced or eliminated, a proxy for market pricing may need to be constructed in the initial stages of the program. 9 clearing price of power and the price paid under the power purchase agreement. Magma proposes, therefore, that the cost of the diversification program fluctuate with competitive market prices. In the event the renewable projects acquired under this program are above prevailing competitive prices, consumers would share the cost. In the event that prices are below prevailing competitive prices, all consumers would benefit. VIII. CONCLUSION Magma acknowledges the enormity of the task before the Commission and appreciates that unlike the Commission, the company has the luxury of addressing a small slice of the issues in these and prior comments in this proceeding. Despite the magnitude of the task, however, the Commission's diversity and other policy objectives can be achieved if the agency moves systematically and thoughtfully to address the difficult issues pending before it. By resolving outstanding policy issues before confronting the questions essential to achieving a competitive generation market and customer choice, the Commission would empower a diverse mix of parties to participate constructively in deliberations to achieve those ends. 10