Regulation by Simulation: The Role of Production Cost Models in Electricity Planning and Pricing

Abstract

This paper is a case study on the role of complex computer simulation models in the regulation of the electricity industry. The analysis focuses on electricity production cost simulation models as they are used to set prices for certain nonutility generators in California. This represents an early part of the trend toward “markets” for electric power, and away from pure monopoly supply. The introduction of even limited competition creates conditions both favoring and hindering the reliability of cost estimates, and demonstrates the sensitivity of results to problem specification and model implementation. Attention is focused on the representation of power system operational constraints, particularly the unit commitment problem, in the modeling process and their effect on the prices which result. Examples from the litigation history illustrate the problem of managing the strategic use and abuse of modeling techniques for competitive advantage. Highly structured procedures for using models in such situations offer some constraints on manipulation by competing parties. Otherwise, experts are apt to overwhelm regulators.