EU purchases of Russian natural gas: some market design thoughts

 Coordinated action might help the EU curb how much it spends on Russian natural gas. Here are some thoughts by Cramton, Lévêque, Ockenfels and Stoft, in Vox.eu (followed by a Financial Times editorial):

An EU gas-purchasing cartel framework  by Peter Cramton, François Lévêque, Axel Ockenfels, and Steven Stoft  26 May 2022

“Instead of outbidding each other and driving prices up,” on 25 March, the 27 EU nations decided to “pool [their] purchasing power” for the “voluntary common purchase of gas”. In short, they decided to form a buyers’ cartel. So far, difficulties have been identified, but what is needed is a systematic design effort addressing those difficulties. This column proposes a simple, but fairly comprehensive framework for an EU gas-purchasing cartel."

...

"While a tariff on Russian gas is justified and can avoid the severe consequences of an outright ban, it would be best implemented as part of a gas-purchasing cartel that could also organise a quick and vigorous response in the form of a price ultimatum.

...

"Although only one piece of a responsible plan, a gas-purchasing cartel could play an essential role in protecting EU economies from Russian blackmail and also in helping to keep the EU unified as Putin tries to fracture it, as he is attempting to do (WSJ Editors 2022). Its twin goals would be reducing the EU’s financial support for Russia’s Ukraine invasion and reducing Putin’s ability to hold EU economies hostage to Russian gas supplies. It could do this in two steps.

"1. A quick-start Russian price ultimatum with some part (up to 100%) of the price reduction placed in an escrow account. 

"2. Collective purchasing of additional gas from all sources but with targeted tariffs (leaving non-Russian long-term contracts undisturbed).

"Behind the cost-benefit justification for an EU cartel lies a strategic vision recognising the benefits of credible, step-by-step reductions in Russia’s energy revenues until the conflict is resolved (Eichstädt 2022). This is only possible with the coordination that comes with some form of buyer’s cartel."

*********

And here's the FT editorial:

A tariff on Russian oil could pave the way to an embargo. The best way to squeeze Moscow’s war machine is to deprive it of energy profits

"The EU’s economy commissioner Valdis Dombrovskis this week summed up the dilemma as the bloc struggles to agree on an embargo on Russian oil. “We are discussing massive financial support to Ukraine on one hand, and continue to provide financing for Russia’s war on the other hand,” he said. “It needs to be stopped.” A ban on Russian imports should remain the priority. But an interim measure designed to stem Moscow’s profits from energy sales more quickly — a punitive EU tariff on Russian oil, proposed by the US and others — is worth looking at too.

"An embargo choking off the 3.4mn barrels a day of oil and oil products that Russia exports to the EU would be a stunning blow to its revenues. But an EU embargo is vigorously opposed by landlocked Hungary, which says it is less able than coastal states to source alternative oil, and its refineries are set up to process Russian crude so require costly conversion. Bringing Budapest round is likely to need financial support and a phase-in period for an embargo.

...

"After a meeting with US President Joe Biden this month, Mario Draghi, Italy’s premier, mooted a global “buyers’ cartel” that would attempt to reduce global oil prices."

Texas gas and electricity

 The electric power system failure in Texas following severe winter weather continues to draw commentary (and may eventually draw politically actionable conclusions).  The supply chain of electricity proved complex: e.g. some electric generation depended on natural gas supplies that themselves required electricity.

Here are some recent entries.

From the Federal Reserve Bank of Dallas:

Cost of Texas’ 2021 Deep Freeze Justifies Weatherization. by Garrett Golding, Anil Kumar and Karel Mertens

"Though the cost of annual preparations for extreme and relatively infrequent weather events has proven difficult for policymakers and industry to justify, the shocking aftermath of the February freeze and the resulting widespread power outage demand a careful re-examination. Our analysis indicates winterizing for extreme winter weather events appears financially reasonable.

...

"Temperatures dipped into the single digits and lower across much of Texas overnight on Feb. 14. Electricity demand surged as critical equipment failed at several power plants. Wind-farm output—already low due to diminished wind speeds—declined further as ice accumulated on turbine blades. Electricity generation declined yet again when gas-fired power plants were unable to procure needed gas supplies. Nearly 4 million Texas customers—representing more than 11 million people—lost power during the Arctic blast (Chart 1).

"While industry sources report gas production difficulties occurred because of wells and other such installations freezing, the bigger disruption began when power was cut to the wells, processing plants and compressor stations that move the gas into and along major pipelines serving power plants. During the storm, 38 of Texas’ 176 gas processing plants shut down due to weather conditions and electricity service disruption. Texas natural gas production dropped 45 percent Feb 13–17.

"This created a death spiral for electricity generation."

*************

Here's Peter Cramton in the Dallas News:

Natural gas producers hit the jackpot during the power outages, but they failed Texas The electrical grid is only as reliable as its fuel supply.  by Peter Cramton

"starting on Feb. 11, the storm exposed every Texas county and much of the Midwest to frigid temperatures. Gas field equipment froze, and gas production began falling on Feb. 12, according to the Energy Information Administration, ultimately dropping 45%. Outages from gas-fueled power plants were double what planning models forecasted in the extreme-storm scenario. (Renewable resources, wind plus solar, performed better than expected during the storm.)

"With a deep drop in electricity supply and a sharp increase in demand, the system operator, the Electric Reliability Council of Texas, could not balance supply and demand without ordering controlled outages of about one-third of the system to prevent a catastrophic blackout. Those power cuts exacerbated gas delivery failures to many power plants.

"The failure of gas-fueled power was the proximate cause of the Texas electricity crisis. Had the gas supply been reliable, the electricity shortage would have been far less severe. 

...

"Fixing the Texas gas market is no easy task. Its regulator, the Texas Railroad Commission, is a textbook example of regulatory capture. For decades, the commission has operated as an advocate for the oil and gas industry. This cozy relationship contributed to the Texas disaster because the lack of gas field and pipeline preparation for cold was a major cause of the electricity outages — and one that better regulation would have avoided.

*******

And here's the WSJ:

‘A Failure of Texas-Size Proportions’—State Debates How to Overhaul Its Power Market. February storm exposed flaws in laissez-faire electricity system; fixes promise to be complex and costly. by Katherine Blunt and Russell Gold

"Fixing the market promises to be as complex as it is costly. The challenge facing Texas Gov. Greg Abbott and state lawmakers is how to make the state’s deregulated power market more reliable, while limiting added costs that would make its electricity more expensive.

"Texas operates the nation’s only pure “energy only” electricity market, one in which producers are paid just for the power they sell, not the ability to deliver whenever watts are needed. All other deregulated electricity markets in the U.S. offer power generators some form of payment for being ready to produce power, to ensure the market has sufficient capacity to reliably provide an essential resource.

"For most of the past two decades, the Texas approach worked. It helped the Lone Star State keep wholesale power prices for much of the past two years at less than $30 per megawatt-hour on average, well below most other regional power markets.

"But a Texas grid that valued inexpensive power over reliability failed spectacularly during February’s winter storm and frigid temperatures, leading not only to crushingly high electricity prices, but power and water shortages that virtually shut down the state’s economy, and frozen pipes that caused widespread property damage."

Net capacity of generators, minute-by-minute

Oil and gas auctions in Iraq

Apparently it's hard to get energy companies to bid on some of Iraq's energy reserves, but that varies province by province. Iraq recently completed auctions to develop natural gas reserves:

Iraq awards all gas fields in energy auction that draws little interest and 5 bidders
"BAGHDAD _ A South Korean-led consortium walked away with the biggest prize Wednesday in Iraq´s third energy auction since Saddam Hussein´s ouster, while a Kuwaiti company nabbed a gas field along its border with its larger neighbour in a win as politically symbolic as it was a business coup.
...
"Only five companies submitted bids for the fields, a showing that will likely disappoint Iraqi oil officials."

Last year Iraq auctioned oil rights:
Russia's Lukoil Big Winner At 2nd Iraq Oil Auction

"None of the U.S.oil majors, such as Exxon Mobil or Chevron submitted bids, leaving only Occidental among U.S. companies to make one failed offer on the auction's first day."

HT: Jing Li

Design of electricity markets (and salute to Bob Wilson)

For roughly the retail price of 1200 kilowatt hours of electricity, you can buy the Elsevier book Competitive Electricity Markets: Design, Implementation, Performance . (It seems to have been out for almost a year, but I've just noticed it now...)

I haven't read it yet, but the first chapter looks worthwhile: it is by Hung-Po Chao, Shmuel Oren, and Robert Wilson, and is called "Reevaluation of Vertical Integration and Unbundling in Restructured Electricity Markets."

Bob Wilson is of course the dean of design, one of the pioneers not only of the design of electricity markets, but of auction design generally. Here are some of his papers. (And for those of you who come only recently to the economics biz, and don't know what a role model looks like, here is his cv.) Chao and Oren and Wilson seem to have published their first joint paper on electricity in 1986.

While I'm remembering, I'm reminded that Bob's students produced an online Festschrift in his honor in 2002, called Game Theory in the Tradition of Bob Wilson. Here are the first paragraphs of the introduction, which was written by Bengt Holmstrom, Paul Milgrom, and myself.

"One of the nicer events in academic life is when we pause to recognize a scholar whose work is unusually important and influential, whose work marks the start of a new tradition.

"When that scholar is also a great teacher and advisor, his students have the added pleasure of recalling his influence on them, and how it is reflected both in their own scholarship, and in how they teach and advise their own students. Students are the generations through which traditions are transmitted. This volume of selected published papers by Bob’s students, accompanied by new introductory essays, is a celebration of Bob’s tradition, by those of us who had the exceptional good fortune to receive it at first hand.

"And what is this tradition? Scholarship as varied and wide ranging as Bob’s defies easy characterization. He was among the first to recognize that it was going to be of the utmost importance for game theorists to understand how information is distributed and manipulated, concealed, and revealed. He was among the first to emphasize the importance in strategic calculations of players’ beliefs about what other players would do, even in situations that were not anticipated to arise. But what especially marks him as a leader among the great economists of his generation is his view of the role of theory. In his understated way, he wrote in the preface to his book Nonlinear Pricing: “The value of theory is its usefulness in addressing practical problems. . . ” And he went on to reflect on the role of practical problems in his own scholarly development: “. . . for the theorist, the problems encountered by practitioners provide a wealth of topics.”

"So, game theory in the tradition of Bob Wilson is game theory in the service of economics as a confident, practical, useful discipline. And research in the style of Bob Wilson is work that takes its inspiration not only from a wide reading and deep understanding of the work of other academics, but also from the ordinary stuff of economic life. In this spirit, Bob’s work has produced not only acute conceptual insights of great generality, but also advice about and solutions to knotty problems of strategy and design."

Market for electricity: Information and consumption behavior

One set of market design decisions involves what kind of information to provide to participants about other participants. Now that regulated utilities often have an interest in helping customers conserve electricity, one strategy has been to issue electricity bills that let customers compare their usage with the average of their neighbors, and with their most 'efficient' neighbors: Utilities Turn Their Customers Green, With Envy .

This seems to have a good effect. The article suggests that a big component of this effect is the competitive impulse. Of course there may also be a pure information effect; when you realize that people with similar size houses use less electricity, it may let you know that there may be ways to conserve energy that you aren't yet utilizing. (It might be hard to separate these effects in field data.)

Market for wind, and information

A Land Rush in Wyoming Spurred by Wind Power
"The man who came to Elsie Bacon’s ranch house door in July asked the 71-year-old widow to grant access to a right of way across the dry hills and short grasses of her land here. Ms. Bacon remembered his insistence on a quick, secret deal (emphasis added). ...
"Ms. Bacon did not agree to the deal from the Little Rose representative, Ed Ahlstrand Jr. Instead, she joined her neighbors in forming the Bordeaux Wind Energy Association — among the new cooperative associations whose members, in a departure from the local culture of privacy and self-reliance, are pooling their wind-rich land.
This allows them to bargain collectively for a better price and ensures that as few as possible succumb to high-pressure tactics or accept low offers. Ranchers share information about the potential value of their wind."

"The financial arrangements of each association are unique, but in the case of the Slater Wind Energy Association, 55 percent of the total annual royalties is to be distributed among the landowners who have turbines on their properties. The rest is to be distributed among all association members, both those with turbines and those without. "

Wind farms

It may seem strange for an entrepreneur to call for more government regulation, but when it comes to energy, that is what Mandelstam is doing. “As a student of history, you go back to a guy named Thomas Edison, and his first power plant, and the thing one has to point out is that the government and regulators have been integrally enmeshed in the energy business ever since it began on Pearl Street in 1882.” He points to Europe as an exemplar: “We were the world leader in wind. Europe overtook us quite a while ago and continues to beat us all the time because they got the public policy right.” Wise regulation, according to Mandelstam, and a thoughtful debate about energy policy is the best way to correct that. “Let’s line up all the subsidies of coal and nuclear power and oil and natural gas and wind — and let’s have a debate,” Mandelstam urges. “That hasn’t happened in the last eight years, and now, frankly, we’re paying the price for it.”

From the NY Times Sunday Magazine article Wind-Power Politics.