Microeconomic reform of wholesale power markets : a dynamic partial equilibrium analysis of the impact of restructuring and deregulation in Queensland

Simshauser, Paul Edward (2002). Microeconomic reform of wholesale power markets : a dynamic partial equilibrium analysis of the impact of restructuring and deregulation in Queensland PhD Thesis, School of Economics, University of Queensland.

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Author Simshauser, Paul Edward
Thesis Title Microeconomic reform of wholesale power markets : a dynamic partial equilibrium analysis of the impact of restructuring and deregulation in Queensland
School, Centre or Institute School of Economics
Institution University of Queensland
Publication date 2002
Thesis type PhD Thesis
Supervisor Steve Harrison
George Docwra
Total pages 404
Language eng
Subjects L
340205 Industry Economics and Industrial Organisation
720205 Industry costs and structure
Formatted abstract

This dissertation assesses the evolving structure and performance of the electricity supply industry (ESI) in Queensland following the restructuring and deregulation process undertaken in 1997 and 1998 respectively. This microeconomic reform process essentially replaced a vertically integrated electricity monopoly with an oligopolistic electricity market. In theory at least, restructuring a monopoly generator, and deregulating the product and capacity markets, should lead to lower electricity production costs, more cost-reflective wholesale electricity prices, and a generation plant expansion path that reflects the least-cost, optimal mix of baseload, intermediate and peaking technologies. In economic terms, the deregulated electricity market should deliver improvements in productive, allocative and dynamic efficiency. However, a likely side effect is a deterioration of ESI environmental performance, since the minimization of production costs are of paramount importance in a competitive market.

This research has utilized historic data, direct comparisons to southern market outcomes, economic theory and the development and adaptation of a suite of economic cost and generation system simulation models to test the stated hypotheses of expected improvements in productive, allocative and dynamic efficiency, and a deterioration in environmental performance. This research has not had the availability of extensive historical market data upon which to draw. When research first commenced, less than six months of historical market data were available. At the time of completion of this dissertation, only three full financial years of data existed. Consequently, this research necessarily relied upon complex simulation models of economic cost and electricity generation systems, coupled with economic theory, to forecast market outcomes. The short history of market data is examined and tentative conclusions are drawn from this, which are integrated with the outputs of the simulation models.

Simulation experiments have been conducted to identify the theoretically optimal market outcome, that is, the least-cost generation plant mix that would best meet the Queensland load curve, subject to a reliability constraint. This forms the 'base case', and represents that which would reasonably be expected to emerge under a centrally planned monopoly regime with a welfare maximization objective, characterised by perfect information and zero political intervention. Such a scenario establishes efficient generation system costs, prices and plant capacity mix. The 'base case' or centrally planned scenario is contrasted with forecast 'market scenarios'. Performance of the generation system is explored under specified scenarios using the economic cost and generation system simulation models, publicly available information about committed and expected future investment in plant capacity, incumbent generator trends and behavioural assumptions consistent with oligopolistic market theories. The analysis indicates that productive efficiency, or cost efficiency, is enhanced as a result of restructuring the monopoly generator into competing entities since competitive pressures force the generators to reduce costs in order to survive. Allocative efficiency, or price efficiency, declined during the first three years of the market, with all generators earning positive economic rents. The presence of these economic rents, coupled with conventional oligopolistic strategies associated with the theory of barriers to entry, resulted in a rush to commission new baseload capacity. Not surprisingly, dynamic efficiency appears to be deteriorating, with the market-induced capacity augmentation proving to be far greater than that considered optimal. Modelling results indicate that the oversupply of baseload capacity is expected to place considerable downward pressure on electricity prices, and thus allocative efficiency is forecast to improve in the intermediate run, much to the benefit of electricity consumers. In the long run, the oversupply of baseload capacity and subsequent low market price can be expected to frustrate the timely entry of new peaking or intermediate plant capacity, which will ultimately be required by the Queensland ESI given the strong electricity demand growth. What does appear to be emerging is a five or seven year electricity generation business cycle.

Modelling results from this research also point to alarming environmental implications, with the general levels of greenhouse gas emissions of the electricity system increasing. While system thermal efficiency is declining, the rush of new, low-cost coal-fired capacity represents an inferior outcome to the alternative (i.e. efficient combined cycle gas plant) because the volume of greenhouse emissions is markedly higher. The outlook for Queensland's greenhouse gas emissions from electricity generation, in the absence of coincident environmental policies, is that they will more than double between the 1990 emission baseline, and the commencement of the Kyoto commitment period in 2008.

Some clear warnings emerge from this research. The structure and performance of an ESI prior to deregulation is important if microeconomic reforms are to be successful. Too little generation capacity or transmission capacity is unlikely to provide a robust foundation for wholesale market implementation. To ensure that adequate competition will prevail, it will be necessary to restructure monopoly generators. The existing ESI needs to be characterised by ‘inefficiency’ if gains from trade are to be capitalized. An efficient centrally planned ESI is unlikely to benefit greatly from deregulation, particularly given that implementing a product market is likely to be a costly process. And finally, competitive markets deliver lowest cost, which is usually inconsistent with the most environmentally responsible outcome. As a result, if the environment is considered a policy imperative, it will be critical that ESI deregulation be complemented by coincident environmental regulations.

Keyword Power resources -- Economic adpects -- Queensland
Power resources -- Deregulation -- Queensland
electricity spot markets
generation plant mix
barriers to entry
microeconomic reform
greenhouse gas emissions
electricity policy
Additional Notes Variant title: Microeconomic reform of the Queensland wholesale power market

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Created: Fri, 21 Nov 2008, 17:43:49 EST