Kathleen King, Ph.D.

Vice President

SMART METERING WEST COAST 2007 CONFERENCE,Los Angeles, California

August 21, 2007

The Importance ofDemand Response to Electricity Markets

2

Topics

1. Demand response is critical to the success of restructured power markets

2. But we didn’t include demand response in the design of restructured power markets!

3

Topics

1. Demand response is critical to the success of restructured power markets

Divestiture

MarketsRetail

Markets

Restructuring

Demand Respons

e

4

The Impetus for Restructuring Was Lower Costs

Commissions in states with high electricity rates believed that competition might lead to better investment decisions and lower prices

As Of Feb. 2001, Restructuring Was Underway In Half the States

AR

WA

OR

ID

MT

CA

NV

UT

WY

ND

MN

SD

NE

KS

OK

IA

MOCO

AZ

WI

IL

TX LA

MSAL

FL

GA

SC

NCTN

NY

MD

PA

OHIN

VA

WV

KY

DE

NJ

MI

VTNH

MSRI

CT

ME

NM

Restructuring Legislation EnactedComprehensive Regulatory Order IssuedCommission or Legislature Investigation OngoingNo Activity

Source: http://www.eia.doe.gov/cneaf/electricity/page/fact_sheets/restructuring.html

5

Restructuring Required Divestiture

Restructuring required separation of generation, retail supply and T&D

– Divestiture

– Separate corporate entities

Impact of Divestiture on Generation Ownership(New England Capability)

Nonutility

Utility

25,000

20,000

15,000

10,000

5,000

088 89 90 91 92 93 94 95 96 97 98 99

Year

Meg

aw

atts

Source: http://www.eia.doe.gov/cneaf/electricity/page/fact_sheets/restructuring.html

6

Divestiture Was Key to Development of Markets

Prior to divestiture, each utility’s generation was used to supply its own customers

Divestiture created the need for generators and retail suppliers to transact through markets

7

Markets Start withSpot Markets

Spot markets

– Efficient production decisions

– Efficient consumption decisions

Requires both wholesale and retail markets with demand response

8

Designing a Market with Demand Response Has Consequences

Customers make choices…

– About their consumption level

– About managing their risk of future prices

Exposes customers to cost of consumption

Source: Bloomberg.

Palo Verde On-Peak Spot Prices

0

100

200

300

400

500

600

1/97

7/97

1/98

7/98

1/99

7/99

1/00

7/00

1/01

7/01

1/02

7/02

1/03

7/03

1/04

7/04

1/05

7/05

1/06

7/06

1/07

7/07

$/M

Wh

9

Spot Markets Are the Foundation of Other Markets

Customer choices create foundation for other markets

– Invest in DR technology

– Hedge against price volatility

Risk markets signal value of capacity

Investment decisions affect future spot markets

Markets for Investment

Risk Markets

Markets forDR Technology

Retail and WholesaleSpot Markets

10

Topics

1. Demand response is critical to the success of restructured power markets

2. But we didn’t include demand response in the design of restructured power markets!

– The consequences

– Why we didn’t

– Why we should in the future

11

Retail Markets Were Not Truly Deregulated

As Of Feb. 2001, Restructuring Was Underway In Half the States

AR

WA

OR

ID

MT

CA

NV

UT

WY

ND

MN

SD

NE

KS

OK

IA

MOCO

AZ

WI

IL

TX LA

MSAL

FL

GA

SC

NC

TN

NY

MD

PA

OHIN

VA

WV

KY

DE

NJ

MI

VTNH

MSRI

CT

ME

NM

Restructuring Legislation Enacted

Comprehensive Regulatory Order Issued

Commission or Legislature Investigation Ongoing

No Activity

Source: http://www.eia.doe.gov/cneaf/electricity/page/fact_sheets/restructuring.html

12

Retail Markets Were Not Truly Deregulated

AR

WA

OR

ID

MT

CA

NV

UT

WY

ND

MN

SD

NE

KS

OK

IA

MOCO

AZ

WI

IL

TX LA

MSAL

FL

GA

SC

NC

TN

NY

MD

PA

OHIN

VA

WV

KY

DE

NJ

MI

VTNH

MSRI

CT

ME

NM

Restructuring Underway with Competitive Retail Markets

Retail Rates Capped

But Retail Rates Were Frozen

13

Without Deregulated Retail Markets, Other Markets Have Suffered

Markets for Investment

Risk Markets

Markets forDR Technology

Retail and WholesaleSpot Markets

14

Failure to DeregulateRetail Markets Contributed to “Lightening Rod” Events

California market events of 2000-01

Financial distress of the merchant energy industry

Calls for re-regulation

15

Failure to DeregulateRetail Markets Contributed to “Lightening Rod” Events

Financial distress of the merchant energy industry

– Short positions + price spikes of 1998 and 1999

Losses

View that assets needed as backstop

Overinvestment

Collapsing spark spreads

Financial distress

Cinergy Prices (Spot, On Peak)1996 through 2000

0

500

1,000

1,500

2,000

2,500

Jan-96

Jul-96

Jan-97

Jul-97

Jan-98

Jul-98

Jan-99

Jul-99

Jan-00

Jul-00

$/M

Wh

Source: Bloomberg.

California market events of 2000-01

16

Failure to DeregulateRetail Markets Contributed to “Lightening Rod” Events

Calls for re-regulation

– Multi-year below-market rate freezes

– Fuel price increases

California market events of 2000-01

Financial distress of the merchant energy industry

17

The result:

– Retail rate increases as rate freezes end

Failure to DeregulateRetail Markets Contributed to “Lightening Rod” Events

DC: Pepco: 12%residential rate increase (RFP for ~550 MW)

MA: NSTAR: 34%residential rate increase (RFP for ~1,500 MW)

CT: CL&P: 22%residential rate increase (RFP for ~5,500 MW)

NJ: PSE&G: 12%residential rate increase (Auction for ~5,500 MW)

MD: BG&E: 72% (Phase-in)residential rate increase (RFP for ~8,000 MW)

DE: Delmarva: 59% (Phase-in)residential rate increase (RFP for ~850 MW)

18

Why We Didn’t IncludeDemand Response

Hindsight is 20-20

Fear

1. That markets won’t work

2. That customers won’t respond

3. That there won’t be “enough” demand response

19

To Each Fear, There Is an AnswerFear #1

1. That markets won’t work

Demand response is what makes markets work

Lack of demand response is key to extreme market events

20

To Each Fear, There Is an AnswerFear #2

2. That customers won’t respond

The evidence is: Customers DO Respond

21

The Evidence Is thatCustomers DO Respond

Economic Curtailment Programs

Critical Peak Pricing (CPP) Programs

Real-time Pricing (RTP) Programs

22

Economic Curtailment Programs

DR programs enrolled over 24,900 MWs at 10 ISO/RTOs

PJM, August 2006– DR reduced wholesale prices over $300/MWh

NYISO, August 2006– DR reduced peak load almost 1,000 MW

ISO-NE, 2005– About 80% of demand in DR programs shed

– Real-time Price Response Program reduced load 31% of enrolled demand

23

California’s CPP Pilot

2003-04 pilot, with 2500 customers, extended to 2005 Customers reduced usage, augmented by automated

demand response technology

Survey: 70 to 80 percent preferred CPP rate SCE, PG&E, SDG&E have filed CPP tariffs

Event Days Non-Event Days

2005 ADRS 43% 27%

2004 ADRS 51% 32%

2004 Pricing-Only 17% 12%

Percentage Usage Reduction by High Consumption Customers Relative to Control

Source: Rocky Mountain Institute, "Automated Demand Response System Pilot, Final Report, Vol. 2: Load Impact Results," 31 March 2006.

24

Gulf Power’s CPP

Implemented in 2000

– Features advanced metering and home automation technology

– 8,500 participants currently

Customers reduced usage 40 to 60 percent during CPP events

Bill savings of 15 percent annually, energy savings of 3.8 percent

25

RTP Programs

Earliest source of evidence that customers respond to dynamic pricing programs

– England and Wales, Pacific Gas & Electric, Southern California Edison, Niagara Mohawk, Georgia Power, others

Number of programs in US has grown from 16 in 1993 to 70 in 2004

26

Georgia Power’s RTP

Largest RTP program

– 82 percent of eligible load and 43 percent of eligible customers (2004)

– Day-ahead and hour-ahead options

Largest load reduction: 750MW (1999)

– About 20 percent for DA at $1.50/kWh

– About 50 percent for HA at $6.50/kWh

27

Illinois Residential RTP Program

Energy-Smart Pricing Plan by Community Energy Cooperative with ComEd

– Over 1,400 customers by 2005

– Pass-thru of PJM prices capped at $.50/kWh

– Automated notification if next-day prices over $.10/kWh

Customers did reduce demand

– Up to 20 percent on average in 2003, saving 11 percent

– 15 percent at 2005 summer peak, 3-4 percent usage reduction

– Smaller demand reduction in cool 2004 summer

Remote AC cycling in high-priced periods reduced demand

Being expanded to Ameren Illinois

28

To Each Fear, There Is an AnswerFear #3

3. That there won’t be “enough” demand response

The amount of demand response needed at system peak is small

Substantial demand response is available

Advanced metering technologies and customer enabling technologies increase demand response and participation

29

Why We Should IncludeDemand Response

DR is the foundation of markets

– “Lightening rod” market outcomes without demand response

DR programs are successful

– Customers DO respond

– Demand response can be sufficient to ameliorate price spikes and system stress

– Enabling technologies increase DR and broaden the spectrum of likely participants

Contact Us

Kathleen King, Ph.D.

Vice PresidentNERA—Washington DCkathleen.king@nera.com202 466 9269

© Copyright 2007National Economic Research Associates, Inc.

All rights reserved.