Texas and the Missing Markets

Externalities, the Texas Blackout and the Missing Markets.

The Texas Blackout exposed widespread vulnerabilities in the ERCOT Area. Power Generators of all types tripped offline. Gas, Nuclear, Coal, Wind, and Solar Units all had problems. But none of these were the fundamental cause of the Blackout. The Blackout resulted from Texas depending on a non-existent market to supply reliability.

To understand the Non-existent "Market, let's look at economic externalities. An externality is a cost or benefit affecting a third party, not a party to the original transaction, and, for which cost or benefit, no market exists. Let's look at an example.

Consider a transaction where a buyer purchases a chemical from a manufacturer. In making the chemical, the manufacturer emits a pollutant into a river that harms a downstream individual. As there is no market for the pollutant, it is an externality, and to control the pollutant, we must either set up a market or regulate the pollutant.

The Electricity Reliability Council of Texas (ERCOT) Market is an energy market. By design, prices in the ERCOT Region were allowed to reach very high levels. Thus as load grew, supply and demand would raise energy prices and incent the construction of new generation capacity. And, in this, the market worked well.   But, if you have three cars, none of which will start, you quickly realize the difference between capacity and reliability.

To an energy market, reliability was an externality, and hence reliability was not addressed by market functions. No producer got payments for having units available during cold or hot weather; there was no Classic Supply-Demand Curves to set a price for reliability- there was no invisible hand in Texas guiding reliability.

When there is no market, the other method of addressing externalities is regulation, but Texas had no reliability regulations.  There were no regulations requiring producers to "winterize" their units. There were no regulations requiring Gas Turbines to have liquid fuel on site. There were no penalties for not running.

Not only did the ERCOT Model fail to address reliability, but the Model also had economic disincentives for reliability.

Consider a Gas Turbine Power Plant. The operator can purchase gas on the spot market or can buy "firm" gas. Firm Gas gives you higher security of supply, but it also requires you to take the gas when available. As renewable energy grows, electricity prices are dropping. Thus on many days, the difference between the electricity sales price and the cost of generating with firm gas (the "Spark Spread") is negative, and the unit does not run. If a plant does not run, the producer loses money, but buying firm gas or equipping the plant for reliability would cost even more.

In the extreme cold experienced in Texas, no gas was available for units without firm contracts. This problem, however, did not play a  large part in the Backout as even units with firm gas were curtailed as heating for Homes, buildings, etc., have a higher priority than electric generation.  

So, why did the gas system fail? Reliability was also an externality to the gas market.  Like the electric market, the gas market had no reliability market or regulations and had not prepared for severe cold. As it is impossible to build an electric system with high reliability on a gas system without reliability, the gas system's failure rapidly spread to the electric system.

To ensure Gas Turbine reliability, an operator needs to keep ten days or so of liquid fuel on site as many New England Units do. Gas Turbines are just large Jet engines, and jet engines run fine every day on liquid fuels, at  -60⁰F, and at 40,000 feet. However, an energy market will not incentivize fuel storage as storage would raising operating costs and lower profits.

The effects of not having a reliability market or regulations were not limited to gas markets or gas units. One South Texas Nuclear Unit tripped when a pressure sensing line for a Feedwater pump failed; wind and coal units were not set up for cold weather operation, and some solar units were snow-covered.  

Had this cold weather occurred in North Dakota, it would not have been a cold wave. It would have been February. There would have been scattered outages but winterized Electric facilities would have generated power. The massive gas production in the Bakken Shale would have continued, Gas pipelines, compressors, valves would have worked, and people would have wondered when Spring would come and gone home at night to play hockey in outdoor rinks. North Dakota prepared; Texas did not. As there was no economic or legal incentive to provide cold-weather reliability, none was provided, and the units failed.

Another significant cause of the Blackouts was the lack of interconnection with other Areas. Texas has about 800 MW  of Interties with other States; California has over 20,000 MW. Texas is probably the smallest state of the contiguous forty-eight States in terms of Electric Interconnections. Alaska has no interties, giving Texas the distinction of being smaller than Rhode Island but larger than Alaska in at least one category.

Interconnections will also help Texas achieve its' goal of attaining reliability by relying on market economics. But it also benefits consumers and producers; producers can sell into other states when prices are high elsewhere, and consumers can purchase from other states when prices are lower. Further new entrants are more likely to locate in Texas as they will have access to additional markets.

Another program that must be considered is Demand Side Management. As Amory Lovins has been pointing out for decades, it is cheaper to save a watt than generate a Watt.  These programs will produce significant savings for consumers during normal times and help prevent more extreme Demand-Side Management (Blackouts) in troubled times.

Many failures contributed to the Blackout, but they all arose from one failure; relying on non-existent markets to provide reliability. If Texans are to have reliability, they must either adopt reliability regulations or set up a reliability market.

ERCOT can set up a Reliability Market by solicitation yearly bids for reliable units. Operators will then calculate what it will take to winterize their units, keep fuel on-site, etc., submit bids,  and let the market choose the cheapest option. This market should include significant penalties for non-performance. Alternatively, Texas can adopt regulations requiring Generators to ensure adequate fuel supplies, winterize their units, etc. Of course, owners must be compensated for such services as an energy market will not compensate them.

Free Market advocates point out that, "The only known violation of the Second Law of Thermodynamics is that Water runs uphill to money." Texas showed that water could not run uphill if there is no hill (a Market)  and that ice doesn't run uphill at all. Texas can make the Free Market work, but first, it must set up the market. If it does not set up a market, then it must rely on regulations.