[Opinion] Obstacles to Electricity Spot Market

The operation of the Wholesale Electricity Spot Market (WESM) in the Visayas Region was met with skepticism from the people connected in the Visayas electric cooperatives and from consumers for fear of high rates.

There are numerous issues being confronted by the operations of WESM in the Visayas. Some of the concerns serve as temporary obstacles in the operation of WESM while others can be considered substantial and are more long-term.

Recently, Engr. Wilfred Billena of Iloilo Electric Cooperative-1 (Ileco-1) pushed for the postponement of WESM operations until March 2011. On the other hand, I-CARE party-list representative from Iloilo Salvador Cabaluna III cited legal questions and high prices as grounds why it requires postponement.

Engr. Billena asserts that operating a spot market under the context of a power supply deficiency will result to high electricity rates. For this reason, postponement of WESM operations is necessary until March 2011, for he believes that after this period, coal-fired power plants will be fully operational like the 164-MW of Panay Energy Development Corporation (PEDC), and supply reliability is assured. Billena also questions the policy that directs EC’s and distribution utilities to source 10-percent of its demand from the spot market.

On the other hand, Rep. Cabaluna calls for a six month suspension of WESM operations in order to provide time and space for EC’s to secure bilateral contracts with power suppliers. The bilateral contract that Rep. Cabaluna refers to is what is commonly known as the power purchase agreement between the generator and the distributor of electricity.

Rep. Cabaluna likewise emphasized that WESM operations in the Visayas has yet to secure the nod of the Energy Regulatory Commission (ERC) and that the Philippine Electricity Market Corp. (PEMC) while PEMC – the operator of WESM – has yet to establish the mitigating measures required from them by the Department of Energy which ensures protection from the open market volatility and price fluctuations.

It was also found out by Rep. Cabaluna that electricity rates in WESM Visayas reached P32.00 per kilowatt-hour level in its initial days of operations.

Adequate safeguards are essential issues that points out why it is necessary that WESM operations in the Visayas be suspended. This is the first obstacle being confronted by WESM in the Visayas. However, I believe that these concerns will be addressed by the PEMC and ERC in a given period of time.

This will bring us to a more substantial concern which has yet to be raised in the Visayas – what about safeguards and protection against price manipulation?

The issue of price manipulation like what happened in Luzon is a major obstacle in the operation of WESM considering the promise that open market electricity will bring down electricity rates. This particular concern explains why many consumers are doubtful on the effectivity of adopting a trading system in order to bring down cost of electricity.

As mentioned by Rep. Cabaluna, we need “protection from the open market volatility and price fluctuations”. Indeed, we need to put in place protective measures. However, our experience in trading a commodity in an open market system has resulted to “price spikes” because market volatility and price fluctuation is a characteristic of an open market.

By bringing electricity in this track, we have subjected electricity to open market forces wherein prices is now exposed to the vulnerabilities of the market like price fluctuations. Good if these fluctuations will result to cheap prices of commodity being traded (electricity), but more often our experience points out that it is the other way around.

In the case of electricity, EC’s and private distribution utilities are directed to source 10-percent of its demand in the WESM. This will automatically subject the 10-percent electricity by EC’s and DU’s to prices which is not determined by bilateral contracts.

The ball started rolling for the operations of WESM in Luzon five years after the passage into law of the Electric Power Industry Reform Act (EPIRA).

The original intention in operating a spot market for electricity is not only in Luzon but including Visayas and Mindanao. However, WESM confronted many obstacles which temporarily put on hold its operations in Visayas and Mindanao. The operations of WESM in Visayas kicked off recently and some questions regarding adequate safeguards against open market forces were put forward.

Its operations met resistance after concrete experience of price fixing was uncovered in its initial operations in Luzon. Although the ERC released a report from its investigative unit that it found no “prima facie evidence against the Power Sector Asset Liabilities and Management Corp. (PSALM) for anti-competitive behavior and market power abuse” the reluctance remains.

The reluctance is also a result of the various Philippine experiences on open market competition involving vital commodities which brought prices up instead of down. And while believing that open market will usher competition and new players will be brought in, the competition became a contest among few players.

The petroleum products are a case at point when the oil industry was put into an open market regime. Now, we will have electricity in an open market without learning lessons from the oil industry.

In July 2007, Freedom from Debt Coalition and the Philippine Electricity Governance Initiative issued a statement rejecting the report of the ERC on the charges of price-fixing and market power abuse inflicted by PSALM on WESM especially that the ERC emphasized that it found “no prima facie case against (Sic) PSALM for anti-competitive behavior or market power abuse.”

However, the findings of FDC and PEGI reveal that there is clear proof regarding the anti-competitive behavior and market power abuse.

First, the “unusual albeit deliberate utilization of the high fuel cost oil-fired power generators owned by private entities (IPPs) but traded by PSALM. During the first four weeks of the WESM starting June 26, 2006 the generation mix at WESM went as high as 41,929 megawatt hours for one week. From the fourth week of the WESM onward until the eleventh week ending September 19, 2006, the actual generation mix for Luzon shows as much as 23.57 percent using these expensive oil-fired plants.

For those who are not aware, oil-fired power generators are the most expensive sources of electricity and the increased use of this particular source compared to less expensive sources of electricity are choices deliberately made by the PSALM traders. The issue of the choice of sources is important because year 2006 was an exceptionally wet year and the levels of water at the hydroelectric facilities, had the traders sourced from these, would have brought down the tariffs at the WESM.

Unfortunately, during WESM’s 11-week operation in 2006, from a high utilization percentage of 41.08 percent during the second week of WESM, the utilization of the less expensive hydroelectric plants fell to as low as 25.60 percent.

By utilizing and gradually increasing the percentage dispatches from the more expensive oil-fired plants and decreasing the usage of the less expensive hydroelectric plants, the PSALM traders effectively increased generating tariffs to benefit only the owners of the privately-owned IPPs to the detriment of distributors and the consumers. Had market forces been operational at the WESM, the cheaper hydroelectric sources would have been optimized and not the one from oil-fired plants.

Two, another evidence of price manipulation where PSALM’s traders resort to deliberate cost management in order to influence tariffs and dispatch priorities lies in the manipulation of costs.

During the first half of the 11-month period under review PSALM traders used variable pricing in their bids. Of PSALM’s four trading teams only one team during this period used production costs as the basis of their pricing. The fact that the traders are free to use either full production costs or variable costs deliberately varies their pricing bases and determines which plants to dispatch. The behavior is considered anti-competitive as variable pricing undercuts full production cost pricing.

Worse, Napocor plants bidding in the same market use true production cost pricing. By deliberately utilizing variable cost pricing for the IPPs they traded for, PSALM’s trading teams resort to under-pricing and thereby engage in anti-competitive behavior. The gambit was resorted to deliberately and with full knowledge of its effects since PSALM’s traders know full-well that Napocor’s plants were priced at full and true costs. By undercutting the state-owned Napocor plants, PSALM deliberately favored the IPPs and their private sector owners.

Moreover, during the latter half of the 11-month period, PSALM traders deliberately shifted their pricing strategies from variable to full cost pricing when, within the generation mix, the percentage of oil-fired plants decreased. This tactic was resorted to in order to offset the relative increase in that particular source within the generation mix. Had the oil-fired plants been generated at the same level that they had been during the first half, then the use of full cost pricing would have been higher than that already prevailing at the WESM.

Had market forces and supply and demand been the sole determinants of price as envisioned for WESM, full cost pricing would have been applied throughout and PSALM’s decision to undercut tariffs in order to show WESM’s success during the first month of operation is prima facie proof of manipulation to effect artificial prices.

Looking on the ERC position on the case will illustrate that its decision had raised more questions regarding WESM operations. Dismissing the evidence by saying there was no prima facie evidence raised an even serious question as to who the ERC is protecting.

With the WESM operations in the Visayas, the question remains: 1) Are the safeguards being demanded by the electric cooperatives institutionalized enough to protect consumers from price manipulation and market power abuse? 2) With the ERC setting a precedent in its decision on WESM, who will now protect the consumers from anti-competitive behavior? 3) Who will protect consumers from the ERC? (Consolidated opinion articles “Obstacles of WESM”, Misreadings, The News Today, February 2011)

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