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U.S. power markets are being swept up in a derivatives-regulation bill backed by the Obama administration, raising objections from generators who fear the reforms would make it harder to protect against swings in commodity prices.

The Electric Power Supply Association, an industry group, warned in a letter this week to U.S. Reps. Collin Peterson, D-Minn., and Barney Frank, D-Mass., that proposed legislation to force over-the-counter trades into clearing houses and onto exchanges would increase power prices and volatility, while drying up liquidity.

The Treasury Department has proposed that clearing houses guarantee many of the over-the-counter trades to mitigate risks to the financial system if a large trader can't meet its obligations. Since an outline of reforms came out in late July, much of the focus in the energy sector has been on the oil and natural gas markets. But the power industry is watching closely, since it relies heavily on a range of derivative contracts to lock in future prices for the electricity they sell and power-plant fuels they buy.

"We want to, more than anything, ensure the spillover...does not create undue, additional costs to the wholesale price of electricity," said James Miller, chairman and chief executive of power company PPL Corp. (PPL), in an interview this week.

A major concern for generators is what new regulations could mean for collateral requirements. If over-the-counter trades are cleared, generators could be required to use cash rather than assets or letters of credit as collateral, tying up massive amounts of money in a capital-intensive business. Large generators would likely be able to handle the requirements, but say their increased costs would add to wholesale power prices and trickle down to consumers. A change in collateral requirements could hit smaller companies harder since they may not have access to the large amounts of capital that would be needed.

Unlike oil and natural gas, power isn't traded on an exchange and remains mostly a regional commodity. The industry estimates about 40% of over-the-counter trades in power are cleared now, primarily through the Intercontinental Exchange and New York Mercantile Exchange. The market itself is dominated by generators and suppliers, since many speculators exited after the collapse of Enron Corp.

The Electric Power Supply Association said proposed regulations could push the industry, which relies on specialized contracts because of the uncertain nature of hourly power demand, toward standard contracts, making hedging increasingly difficult. One example of the challenges to standardization is a sales agreement for power needed from a natural gas-fired power plant when wind generation isn't running. The agreement isn't based on a set volume at a set time, but instead hinges on when the wind isn't blowing.

The derivative-regulation bill at the center of the debate requires that "standardized" contracts be cleared, which backers say will exempt many of the unique transactions used by power companies.

"We are just really beginning to have the conversation," said Elizabeth Moler, executive vice president for government and environmental affairs and public policy at Exelon Corp. (EXC).

She said the industry is trying to understand the details of government proposals to see which types of contracts would have to be cleared. If new requirements are put in place, Moler expects new instruments will have to be developed to meet the industry's hedging needs.

The Electric Power Supply Association represents power plant operators, including Exelon, which sell power at market prices rather than at regulated rates, making up 40% of U.S. generating capacity. The group, in its letter, favored a bill proposed by Rep. Michael McMahon, D-N.Y., which is more industry friendly.

Peterson and Frank are key figures in the growing debate over clearing requirements. Peterson is chairman of the House Committee on Agriculture, which regulates commodity markets, while Frank is chairman of the House Committee on Financial Services.

-By Mark Peters, Dow Jones Newswires; 212-416-2457; mark.peters@dowjones.com

(Brian Baskin in New York contributed to this article.)