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Alberta's natural gas market: Deregulated since 1985

Alberta's electricity market: Deregulated since 1996

1. Alberta's natural gas market: Deregulated since 1985

Prior to 1985, the price of natural gas was set by agreements between the federal government and the province of Alberta. With the signing of the Natural Gas Markets and Pricing Agreement on October 31st, 1985, otherwise known as the “Halloween Agreement”, natural gas prices are now determined by the competitive forces of supply and demand.

The daily or “spot” price can fluctuate daily due to several factors including weather and short-term disruptions. For instance, a hurricane in the Gulf of Mexico, or a snap deep freeze in Western Canada, two of the largest gas producing regions, can significantly affect the short-term price of natural gas.

Longer term gas prices are driven by population and economic growth, and by factors such as environmental policies. For example, greater demand for gas as an environmentally-preferred fuel for electricity generation could result in an increase in natural gas prices.

Supply and demand determine natural gas prices in Alberta, as well as influencing the decision of natural gas drillers, or producers, to invest in new wells. Production of natural gas in Alberta is regulated by the Alberta Energy Regulator (AER), and by the Department of Environment. From when the natural gas is produced until the natural gas is sold, the gas producer retains ownership or "title" to the gas. Producers may sell the gas at either the wellhead, the outlet of a gas processing plant (called the plant gate), on a gas transmission system (typically AB-NIT), at a storage facility (typically AECO), at the inlet to a utility system called the city gate or directly to the end consumer.

Natural gas is transported from the “wellhead” or natural gas processing plant through a provincial-wide natural gas pipeline network called NOVA. Rates and tariffs on the NOVA system are regulated by the Alberta Utilities Commission primarily under the provisions of the Gas Utilities Act (Alberta) and the Pipeline Act (Alberta).

The NOVA inter-provincial system acts much like a highway, moving large quantities of natural gas through a high-pressure, high volume pipeline. From the NOVA system, natural gas transfers either into an export pipeline at the BC, Saskatchewan, or Montana border, or to a low-pressure local distribution pipeline system. The distribution system delivers the gas directly to the end-user, acting more like a smaller and more local road system. The distribution systems are fully regulated. Investor-owned distribution companies are regulated by the Alberta Utilities Commission, while municipally owned systems are regulated by their municipal councils, and natural gas co-operatives are regulated by their elected board members.

Wholesale Natural Gas Prices

Natural gas prices are quoted in relation to a physical location, usually a natural gas storage facility or a transfer point on a natural gas pipeline. In addition, prices are determined daily for physical receipt, or are traded for receipt at a later date through a futures market. Gas prices in Canada are usually traded in units of gigajoules (GJ), and are traded in units of million British thermal units (MMBtu) or in thousand cubic feet (Mcf) in the US.

Natural Gas Prices: Physical Reference Points
Natural gas prices in Alberta are most often set at the AECO-C gas storage facility in southern Alberta, which is also known as the NOVA Inventory Transfer, or AB-NIT, price. This price has become one of North America’s leading price-setting benchmarks.

Other commonly quoted natural gas prices reference points in Canada include the natural gas storage facility at Dawn, Ontario and the pipeline transfer point at Sumas, British Columbia. In the US, the most commonly quoted price is the Henry Hub price, a natural gas storage facility in Louisiana. Prices are sometimes quoted in terms of “basis”, which is the spread or difference between two prices, such as AECO-C and Henry Hub.

Natural Gas Prices: Trading Platforms

Natural gas can be traded for physical delivery same day, or at some point in the future. A price set today for delivery at some later date is referred to as a “future” price. Futures price could be for delivery tomorrow, month-end, or months or years in the future.

Spot and future prices are set through the interaction of supply and demand through trading platforms such as the Natural Gas Exchange (NGX) in Alberta, or the New York Mercantile Exchange (NYMEX) in the US. The NYMEX natural gas futures contract is widely used as an international benchmark price, including here in Alberta.

It is important to realize that the trading platforms do not set the prices of the traded commodities. Market forces determine the prices through an open and continuous auction on the exchange floor.

Retail Natural Gas Prices in Alberta
Natural gas retailers in Alberta purchase natural gas directly from producers or through trading platforms such as the NGX, both daily and in the future to sell and bill Albertans. This procurement is generally referred to as the “supply” cost. In addition, the retail gas price includes a distribution charge, or a charge to cover the fixed costs of infrastructure to deliver the natural gas to the consumer, as well as other charges, such as GST and administration.

Options for Albertans: Regulated Rates or Competitive Contracts
Since 2004, Albertans may choose to continue receiving their natural gas from a Retailer that is regulated by the AUC, the Regulated Retailer, or they may choose to obtain their energy from a Competitive Retailer, where they sign a contract agreeing to a set price structure for the natural gas commodity. The AUC reviews only the rates charged by Regulated Retailers.

All businesses marketing electricity and natural gas contracts Alberta must be licensed by the province and abide by a strict code of conduct, which requires that: the company must make timely, accurate and truthful comparisons; all advertising materials must reflect actual conditions; all data used to support a claim must be reliable, and; salespeople must identify themselves properly and show identification cards when requested. Complaints about utility companies or energy retailers in Alberta are handled by the office of the Utilities Consumer Advocate.

All retailers of natural gas, regardless of the rate or contract, will provide an energy charge for the measures amount of gas consumed, and a delivery charge, which is an infrastructure charge to deliver the energy.

Gas Cost Recovery Rate (GCRR) and Gas Cost Flow-Through Rate (GCFR)
In Alberta the default regulated rate that consumers pay for their natural gas is called the gas cost flow-through rate (GCFR) for Direct Energy Regulated Services North and South, and the gas cost recovery rate (GCRR) for AltaGas Utilities Inc. The AUC approves these regulated rates and makes them available on its website.

Gas supply costs are dealt with as a separate component but are also approved by the AUC. Utilities are not permitted to make a profit on the supply cost of gas. It is a flow-through cost that is passed on to consumers. Distribution costs, which is the cost to deliver the gas to the consumer from the gas delivery point, are approved either through general rate applications, a thorough review which involves many financial aspects of the company, or through a negotiated settlement process between the affected parties

2. Alberta's electricity market: Deregulated since 1996

Alberta currently operates a wholesale power market that sets a price for electricity in each and every hour of the year, and this market is commonly referred to as a ‘power pool’. This market is operated by the Alberta Electric System Operator (AESO), which was established by provincial legislation known as the Alberta Electric Utilities Act. The large majority of power produced and consumed within Alberta notionally (financially) flows through this pool, and the hourly price determines the revenue for generators, as well as the cost for consumers. A wide variety of contractual arrangements also exist such that the hourly price does not impact everyone at all times, but these contracts are definitely influenced by the hourly price signal. It is this set of price signals, as opposed a regulated structure based on ‘cost- of-service’, that marks Alberta’s power market as deregulated.

A wide variety of fundamental factors influence the hourly price, and a key feature of Alberta’s market is that the price is volatile (fluctuates) from hour to hour. Short-term events such as outages at generation facilities and extreme weather can raise the price as high as $1,000/MWh for several hours, and surplus events can also occur such that the price falls as low as $0/MWh. Longer term prices, which can be thought of as an average of many hourly prices, are much more stable because overall price trends tend to be driven by ‘big picture’ events such as provincial demand growth, supply additions and natural gas prices due to their role as a fuel for many generators.

While the presence of an open market price signal broadly marks Alberta’s market as deregulated as opposed to regulated, it is not so clear cut because there are several components to the market. Generally, the electricity market can be broken down into three distinct areas: generation, transmission/distribution, and retail. Though there is some overlap between the areas, generation is basically completely deregulated, transmission and distribution almost fully regulated and retail is a mix between regulated and deregulated.

Power Generation Market
The generation industry in Alberta is largely an open, deregulated market. The AUC approves generation at the facility level, i.e. a generator must comply with regulations such as safety, environmental, design standards and public consultation. The AUC does not regulate where generation is located in the broad sense, what type of generation is built, how much generation is built, who builds generation, nor ultimately the rate of return earned by owners.

Historically, generation was fully regulated under a cost of service regulatory model. Generators built and operated plants, and customers received a regulated power price that covered the costs plus a reasonable rate of return. New plants were approved by the regulator on the basis of economic need. This process continued until 1996, although no new substantial plants were added after 1994.

When Alberta began to deregulate the generation market in 1996, it was apparent that care had to be taken with how plants built under the previous regulatory compact were treated. Consumers and generators had previously had a relationship that guaranteed cost recovery for owners and access to power for consumers. In order to maintain this relationship while developing an open market, a set of complex arrangements known as power purchase arrangements (or PPA’s), were developed that guaranteed cost recovery for the original owners, but also captured the excess value created (in some cases the value was negative) of these assets consumers had a right to expect when the market was deregulated.

The PPA’s were put up for auction in 2000 and went into effect on January 1, 2001, and the last of the PPA’s expires in 2020. PPA buyers received financial rights to energy produced by the formerly regulated assets; the original owners received guaranteed returns and customers received the proceeds from the auction.

The end result as of today is that generation is largely a deregulated market, and all units compete for the right to sell energy into the market for the competitively determined price. New plants are built with private capital, and generation owners are financially at risk for their decisions.

Power Transmission and Distribution Market
Transmission and distribution can be collectively termed the ‘wires’ business, and the difference between the two can be broken down as transmission serves to move large amounts of power from suppliers to load centres, while distribution serves individual customers at the local level. As noted, both transmission and distribution are largely regulated today, although there are several proposals in place for ‘merchant’ transmission projects. However, all existing transmission in Alberta is regulated under a cost-of-service model where customers pay for the full costs of operating the system plus a reasonable return, and transmission owners are guaranteed these costs and return on the other side.

The transmission grid is largely owned by public, for profit, companies, but its planning and operation are done by the AESO, which is non-profit. The AESO plans system additions to serve new load and generation, operates the system in real-time and determines the charge for using the transmission system. The distribution systems throughout the province are largely owned and operated by municipal governments and/or their public utilities.

The AUC regulates the transmission throughout the process. The need for new facilities is brought forth by the AESO to the AUC, as are the cost and location of these facilities if the need is verified. The charge for using the system is fully regulated based on a cost-of-service model. On the whole, the transmission system is still regulated in a similar manner to what it was prior to deregulation, although it now serves deregulated buyers and sellers rather than regulated utility providers. Distribution is also fully regulated and operates as it did under regulation, with minor changes to the regulatory structure to facilitate retail competition.

Retail Power Market
The retail part of the electricity market generally marks the final delivery and billing phase of the market. For the most part, the retail power market operates in a similar manner to the retail gas market in Alberta. For power, the retail market is fully deregulated for large consumers, but smaller customers still have access to a regulated power rate along with competitive retail contracts.

On the deregulated side of the market, retailers can offer a wide variety of contracts to customers. Large commercial and industrial customers have a range of suppliers to choose from, and a variety of products have been developed to allow large companies to manage their power price risk. There is also a group of very large industrial and commercial customers that act as self-retailers, and interact directly with the wholesale market.

The regulated portion of the retail market is much smaller in terms of power volumes, but because it is made up of small, primarily residential customers, it has a very large number of actual customers. These customers have access to deregulated contracts offered by retailers, but those customers that do not sign a contract have access to a default supplier based on their physical location. These default rates are regulated, and are known as regulated rate tariff (RRT).

The RRT is regulated by the AUC for each of the three RRT suppliers. A monthly RRT price for power is approved by the AUC, and this price is based on market prices for power. In this sense, the RRT is quite similar to the regulated natural gas prices available to Alberta consumers; the prices are regulated, but the regulated price is determined based on a market determined commodity price. This is in contrast to the regulatory structure in the wires market, where prices are set based on a cost of service model. 
 

Helpful Links:
Public Information Centre (toll-free) 310-0000
Utilities Consumer Advocate (UCA)
Alberta Department of Energy
Alberta Environment
Alberta Energy Regulator (AER)
National Energy Board (NEB)
Surface Rights Board
Farmer’s Advocate
Freehold Owners Association (FOA)
Alberta Energy Research Institute (AERI)
Centre for Energy
Environment Canada
Natural Resources Canada
Alberta Ombudsman
Better Business Bureau of Alberta (BBB)
Alberta Electric System Operator (AESO)
Market Surveillance Administrator (MSA)