Pricing for reliable supply


March 25, 2008|By DAN THANH DANG

The Q:

Last week, we tackled the definition of "gas delivery charge" on your Baltimore Gas and Electric Co. bill (the price the utility charges you to deliver your natural gas), and the complicated reason behind why the charge varies from month-to-month. We would explain it to you again, but it would take far too much space.

Instead, we'll just tell you that our foray into utility billing explanations prompted H. Walter Townshend III to ask about Reliability Pricing Models (RPM).

"As a chamber, we have put together electric purchasing cooperatives, collectively saving our members millions of dollars," said Townshend, president and chief executive of the Baltimore/Washington Corridor Chamber of Commerce. "In fact, we are now beginning our eighth such cooperative."

"Would you please investigate and tackle explaining the Reliability Pricing Model and what that means to consumers with higher prices, above and beyond delivery/distribution and supply?"

The A:

In all likelihood, most electricity consumers have probably never heard of RPM, or care about it. Townshend's group, being a large purchaser of electricity for its members, is far more informed than most.

But RPM is important to the electric industry and, yes, consumers, too. Think of it as a new mathematical pricing system that was developed - and adopted last year - to ensure that there is always an adequate and reliable supply of electricity for power customers in 13 states and the District of Columbia.

There is no line item in your utility bill denoting RPM, but the charge is automatically calculated into electricity costs. RPM is new, but such capacity-related charges are not.

For the average residential customer, it translates to about $15 a month, said Mark Case, senior vice president of strategy and regulatory affairs for BGE, which is a subsidiary of Constellation Energy Group Inc.

To break it down, be aware that the cost of electricity has always been made up of two components.

There is the energy component, which is how much it costs to take the fuel (coal, natural gas, oil, nuclear, etc.) and use it to produce electricity. The more you produce, the more it costs. This makes up about 80 percent to 90 percent of your electricity supply costs, Case said.

Then there is the capacity component.

PJM Interconnection, the region's power grid operator, requires that companies selling electricity to retail customers, such as BGE, must have adequate supply to meet their obligations.

Companies can do this by supplying power from plants they own, purchasing from other companies or buying power through PJM auctions.

Under the new system, PJM centralized the market by becoming the sole buyer in an annual RPM auction that is held to lock in enough electricity capacity three years before the start of delivery. For example, the RPM auction this year will ensure supply needs for 2011.

The idea is that by forecasting demand three years ahead and allowing power generators (companies that produce electricity) to lock in prices three years ahead, it will send proper signals to the market.

If the auctions show there aren't enough companies bidding to supply power, the hope is that companies will be encouraged to invest in building power plants in the region, Case said.

It could also encourage companies to keep old plants running longer to keep up with their capacity needs or encourage companies such as BGE to use programs that curb electricity usage.

"The reason there is so much concern about RPM is that the methodology change came about the same time when we went from having a glut of power to looking ahead to forecast a much tighter capacity," Case said.

"Demand is growing faster than supply, so prices are going up. [Currently,] RPM has probably taken prices up slightly faster in the short run, but it should lead to lower prices eventually when more capacity is added.

"In fact, RPM has already led to 10,000 new megawatts of supply being added into the system," Case said. "That's a 7 percent growth in supply."

Adding more supply to the capacity market could lead to lower prices for consumers.

So in theory, RPM is supposed to help the region keep its electricity supply reliable and keep prices competitive. Will it work that way in practice? Hard to say.

In a 2004 Maryland Public Service Commission report, the agency supported the idea of RPM, but also said that the main criticism of RPM is that the cost of capacity may increase significantly without assurances that the benefits will outweigh program costs.

Furthermore, the PSC said, "The success or failure of the RPM will depend on the ability of the demand curve to accurately predict future demand.

"Even the smallest miscalculations could expose consumers to millions of dollars in unnecessary costs, or worse, could drive up capacity costs without producing the necessary price signals to bring needed investment."

Reach Consuming Interests by e-mail at consuminginterests@ baltsun .com or by phone at 410-332-6151. Find an archive of Consuming Interest columns at

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