Texas’ energy debacle during this past winter has led to a great deal of introspection regarding which energy market structure is the most appropriate. Most analysts would agree that energy market regulations should facilitate access to affordable and reliable electricity, while generating the lowest feasible emissions. The controversy arises with respect to how these goals can be achieved.
Oversimplifying the current energy market structures across the U.S., electricity is either produced via a monopoly model or a competitive model, with the caveat that the competitive models vary significantly across the states.
The monopoly model is the traditional utility model. Monopolies are generally viewed as harmful to consumers (and rightly so). According to the advocates of government granted monopolies, utilities are supposedly different because they are natural monopolies.
A natural monopoly arises when there are exceptionally large fixed costs to start the business and then the costs to produce additional goods and services continually decline as the business gets larger – the larger the business gets, the cheaper its costs of production become.
In the case of utilities, creating all of the infrastructure to bring electricity to homes and businesses is expensive. Consequently, it is exceptionally costly and wasteful for a competitive business to reproduce this infrastructure once an initial firm has made these investments.
The traditional answer to this problem is to grant a local utility a monopoly on the generation, transmission, and distribution of electricity. The legacy of this theory is evident in the nearly three dozen states that still rely on monopoly energy providers to serve local markets. Advocates claim that monopoly producers provide cheaper, more reliable energy and will point to the Texas debacle during the winter of 2020-21 as proof that the alternative competitive model is inferior.
Their arguments misrepresent the problems that led to the Texas power outages, however. As Hartman and Garza explain in RealClear Energy,
Misguided criticisms included excessive blame levied at wind power, while others have fallen into the trap of blaming “deregulation” of the power industry. That’s dead wrong for two reasons: power markets aren’t “deregulated” for reliability purposes and the data show that competitive markets have a superior reliability record to the monopoly utility model.
In fact, while Texas bore the brunt of the outages, generator outages and rotating blackouts affected nearby monopoly states as well. The problem in Texas was a result of insufficient weatherization and, unique to Texas, the state’s isolation from the national grid. These problems are unrelated to the underlying market structure.
With respect to the underlying market structure, the monopoly model has clear disadvantages.
When utilities are granted local monopolies, they operate on a cost-plus basis. Businesses operating on a cost-plus business have no incentive to implement innovations that will reduce customers’ costs or improve service – in fact, the easiest way to earn revenues is to operate with bloated costs and then apply a percentage margin to this unnecessarily large cost structure.
Due to these adverse incentives, inefficient investments and large cost over-runs are rampant in the monopoly markets. For example, the investments Dominion Energy will make in order to comply with the Virginia Clean Economy Act will cause customers’ bills to increase “by more than double the amount that regulator[s] initially expected”. While intertwined with the costs associated with green energy mandates, these types of cost over-runs are normal under a monopolist market structure.
Monopolist market structures are also subject to the problem of regulatory capture, which is a type of cronyism. Sometimes this cronyism leads to inflated rate increases, but other times it incents outright corruption. For instance, in Illinois,
federal prosecutors accused ComEd [Commonwealth Edison) of a years long bribery scheme that sought to curry [House Speaker] Madigan’s favor in advancing legislation relaxing state regulation of ComEd’s rates by directing $1.3 million in payments to the speaker’s associates. ComEd acknowledged it stood to benefit by more than $150 million from that legislation.
Just as important, competitive markets have a demonstrated track record of providing reliable and affordable electricity for customers, and are better positioned to implement efficient low-emission technologies.
Recognizing these benefits, in a letter to the current Chairman and Commissioners of the Federal Energy Regulatory Commission (FERC), nine former FERC Commissioners and Chairs who were “appointed by both Republican and Democratic Presidents” argued “that organized regional wholesale power markets [competitive markets], known as RTOs and ISOs, provide compelling platforms for renewable energy development and are achieving considerable consumer benefit.”
As the weather becomes hot and humid across large parts of the country, it is imperative that the power system generates affordable and reliable energy that keeps the lights and air conditioning on. Add in the need to reduce greenhouse gas emissions without compromising these goals, and it is imperative that the U.S. maintains an efficient and responsive energy market structure.
The traditional monopoly model is incapable of achieving these goals. What is needed are competitive markets.
Competitive Energy Markets, Not Monopoly, Delivers Affordable, Reliable, And Low-Emission Energy
Wayne Winegarden
Texas’ energy debacle during this past winter has led to a great deal of introspection regarding which energy market structure is the most appropriate. Most analysts would agree that energy market regulations should facilitate access to affordable and reliable electricity, while generating the lowest feasible emissions. The controversy arises with respect to how these goals can be achieved.
Oversimplifying the current energy market structures across the U.S., electricity is either produced via a monopoly model or a competitive model, with the caveat that the competitive models vary significantly across the states.
The monopoly model is the traditional utility model. Monopolies are generally viewed as harmful to consumers (and rightly so). According to the advocates of government granted monopolies, utilities are supposedly different because they are natural monopolies.
A natural monopoly arises when there are exceptionally large fixed costs to start the business and then the costs to produce additional goods and services continually decline as the business gets larger – the larger the business gets, the cheaper its costs of production become.
In the case of utilities, creating all of the infrastructure to bring electricity to homes and businesses is expensive. Consequently, it is exceptionally costly and wasteful for a competitive business to reproduce this infrastructure once an initial firm has made these investments.
The traditional answer to this problem is to grant a local utility a monopoly on the generation, transmission, and distribution of electricity. The legacy of this theory is evident in the nearly three dozen states that still rely on monopoly energy providers to serve local markets. Advocates claim that monopoly producers provide cheaper, more reliable energy and will point to the Texas debacle during the winter of 2020-21 as proof that the alternative competitive model is inferior.
Their arguments misrepresent the problems that led to the Texas power outages, however. As Hartman and Garza explain in RealClear Energy,
Misguided criticisms included excessive blame levied at wind power, while others have fallen into the trap of blaming “deregulation” of the power industry. That’s dead wrong for two reasons: power markets aren’t “deregulated” for reliability purposes and the data show that competitive markets have a superior reliability record to the monopoly utility model.
In fact, while Texas bore the brunt of the outages, generator outages and rotating blackouts affected nearby monopoly states as well. The problem in Texas was a result of insufficient weatherization and, unique to Texas, the state’s isolation from the national grid. These problems are unrelated to the underlying market structure.
With respect to the underlying market structure, the monopoly model has clear disadvantages.
When utilities are granted local monopolies, they operate on a cost-plus basis. Businesses operating on a cost-plus business have no incentive to implement innovations that will reduce customers’ costs or improve service – in fact, the easiest way to earn revenues is to operate with bloated costs and then apply a percentage margin to this unnecessarily large cost structure.
Due to these adverse incentives, inefficient investments and large cost over-runs are rampant in the monopoly markets. For example, the investments Dominion Energy will make in order to comply with the Virginia Clean Economy Act will cause customers’ bills to increase “by more than double the amount that regulator[s] initially expected”. While intertwined with the costs associated with green energy mandates, these types of cost over-runs are normal under a monopolist market structure.
Monopolist market structures are also subject to the problem of regulatory capture, which is a type of cronyism. Sometimes this cronyism leads to inflated rate increases, but other times it incents outright corruption. For instance, in Illinois,
federal prosecutors accused ComEd [Commonwealth Edison) of a years long bribery scheme that sought to curry [House Speaker] Madigan’s favor in advancing legislation relaxing state regulation of ComEd’s rates by directing $1.3 million in payments to the speaker’s associates. ComEd acknowledged it stood to benefit by more than $150 million from that legislation.
Just as important, competitive markets have a demonstrated track record of providing reliable and affordable electricity for customers, and are better positioned to implement efficient low-emission technologies.
Recognizing these benefits, in a letter to the current Chairman and Commissioners of the Federal Energy Regulatory Commission (FERC), nine former FERC Commissioners and Chairs who were “appointed by both Republican and Democratic Presidents” argued “that organized regional wholesale power markets [competitive markets], known as RTOs and ISOs, provide compelling platforms for renewable energy development and are achieving considerable consumer benefit.”
As the weather becomes hot and humid across large parts of the country, it is imperative that the power system generates affordable and reliable energy that keeps the lights and air conditioning on. Add in the need to reduce greenhouse gas emissions without compromising these goals, and it is imperative that the U.S. maintains an efficient and responsive energy market structure.
The traditional monopoly model is incapable of achieving these goals. What is needed are competitive markets.
Nothing contained in this blog is to be construed as necessarily reflecting the views of the Pacific Research Institute or as an attempt to thwart or aid the passage of any legislation.