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Electricity Costs White Paper






Electricity Costs White Paper





ISO New England Inc.
June 1, 2006




Electricity Costs White Paper
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©2006 ISO New England Inc.
Table of Contents
Executive Summary ....................................................................................................................................1

Highlights of the Analysis .....................................................................................................................1

Components of Electricity Rates ...........................................................................................................2

Action Plan for Managing Electricity Costs in New England ...............................................................3

Electricity Cost Drivers...............................................................................................................................3

Future Costs of Taking No Action .............................................................................................................8

Responses to Cost Projections ....................................................................................................................9

Conclusions ................................................................................................................................................11

Electricity Costs White Paper
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©2006 ISO New England Inc.
Executive Summary
Wholesale electricity prices in New England are directly linked to the costs of the fuels used by
generating units to produce electricity. Since many of the regions power plants are fueled by natural
gas and these plants often set the wholesale electricity price, the increase in electricity prices in fall
2005 was a reflection of the increase in the price of natural gas during that period. Similarly, in late
fall/winter 2005/2006, wholesale electricity prices decreased with the decrease in natural gas prices.
In turn, some New England utility companies have begun to reduce retail electricity rates.
Wholesale electricity prices are also linked to the amount of electricity consumers use at peak times,
primarily during the summer. Power consumption on the hottest summer days has been growing at
about 2% each year, which is higher than the growth in average consumption. This consumption trend
drives the requirement to build additional resources (e.g. peaking units), increasing the capacity costs
of the region. It also is creating an underutilized power system where resources are built to satisfy
demand for only a few days of the year.
This paper discusses the results of an ISO New England (ISO) analysis that evaluated the drivers of
electricity costs in terms of their fixed and variable components, with projections through 2015. To
indicate electricity-price trends, the analysis projected total electricity costs for the region in 2010 and
2015, based on the region taking no actions to change its mix of capacity resources or decrease
demand (i.e., a business-as-usual scenario). These costs were compared to the 2006 expected costs
for electricity.
The analysis also used actual electricity usage and bidding data for 2005 to estimate the potential
impact that various options to control electricity costs, such as policy actions that alter the business-
as-usual scenario, can have on the electricity market. These options broadly include building low-
cost baseload generation (e.g., renewables, clean coal, and perhaps nuclear power) and reducing peak
usage. Giving customers the opportunity to respond to real-time prices can potentially reduce peak
loads, such as through traditional price-based demand-response programs, energy-efficiency
measures, and conservation efforts. Reducing demand in response to high prices during peak periods
could also reduce the need to add electricity infrastructure.
Highlights of the Analysis
The major findings of the analysis are as follows:
Fuel costs, primarily natural gas, are a principal determinant of electricity costs.
The addition of low-cost baseload power plants and price-responsive demand are effective
ways to control costs.
Adding 1,000 megawatts (MW) of supply produced by low-cost plants will save New
England consumers $600 million a year.
Reducing usage by 5% during on-peak hours will lower consumer cost by $580 million a
year. On-peak price signals that reveal wholesale prices and more aggressive on-peak energy-
efficiency programs can bring about these reductions.
A 500 MW increase in traditional demand-response program participation will cut costs by
$32 million a year.
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©2006 ISO New England Inc.
Assuming continued high fuel prices, taking no action (a business-as-usual scenario) will
result in electricity costs rising with increases in demand and fuel prices. A 5% increase in
power usage will increase costs by $700 million.

Figure 1 shows the estimated cost impacts associated with adding new low-cost plants, increasing a
combination of price-responsive demand and more aggressive on-peak energy-efficiency measures,
and increasing demand response compared with the costs of a business-as-usual scenario. These
estimates are a combination of electricity and capacity costs. They do not include the costs to
implement each measure, and no ranking of responses is implied. That is, while the cost savings of
500 MW of traditional demand response appears small, it may be that demand response is more easily
implemented and less expensive to achieve than building a new baseload generator. These estimates
intended to be representative of the effects of such actions and investments. Changes in actual
consumer costs could vary widely.



-580

-600

700

-32

-800

-600

-400

-200

0

200

400

600

800

Business
As Usual

New Low-Cost
Plants
Conservation
and
Energy
Efficiency

Demand Response

(
in mi
ll
ions
)


Figure 1 Impacts of various solutions for controlling electricity costs.


Components of Electricity Rates
The ISO estimated the following about the components of electricity rates:

Power costs, which reflect the cost of producing electricity and vary with the global fuel
markets, will make up approximately half of the average consumers electricity bill in 2006.
Of this, fuel and capacity costs will account for roughly 95% of the total.
Transmission and distribution costs, which will make up the remaining 50% of the bill, are
regulated and reflect the cost to build, maintain, and operate the regional transmission system
and local transmission (distribution) networks.
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©2006 ISO New England Inc.
Over the next 10 years, power costs should be expected to track natural gas prices and
capacity cost trends, unless targeted action is taken to control these costs. Capacity costs are
expected to increase by 75%, as the region implements a new capacity market to ensure
supply keeps up with growing demand. Transmission costs, while a small component of total
costs, will rise by 77%, as the region builds and pays for new lines. Distribution costs are
expected to remain fairly stable as they generally have in recent years.
Action Plan for Managing Electricity Costs in New England
Actions that can reduce electricity costs in New England include the following:
Improvements in energy efficiencystimulated by some form of dynamic pricing that
indicates to consumers when prices are highest and creates an incentive to reduce electricity
use at peak timesto lessen the need to add new plants
The development of power plants using low-cost fuels, such as wind, nuclear, and clean coal,
which can lower power costs by displacing the operation of higher-cost power plants
The facilitation of these responses by state officials, who can increase the control of
electricity prices in the region through the following measures:

o Adopting retail-rate policies that reveal real-time electricity prices to businesses and
residential consumers and provide incentives for managing the use of electricity during
these high-price peak-use periods
o Enabling the siting of new supply resources that use wind, clean coal, nuclear, and other
alternative energy sources
o Implementing additional programs to promote greater energy efficiency and use of
customer-operated resources, such as load management and distributed generation to
reduce on-peak load

Electricity Cost Drivers
End-user electricity costs are based on three components of electricity production and delivery
power generation, transmission, and distribution. Each component is part of both the regulated and
competitive environments. However, the mechanisms for ensuring the efficient production and
delivery of electricity and for investing in these components differ between the two environments. In
a regulated environment, state and federal regulatory bodies manage c