Executive Summary
Deregulation of telecommunications, natural gas, and transportation saved American consumers billions of dollars, created new choices among sellers and spurred numerous new services in the bargain. Ending the artificial monopoly that electric utilities hold should deliver similar benefits to Colorado consumers.
Low rates do not preclude Colorados benefiting from deregulation. Colorado enjoys some of the lowest electricity prices in the U.S.A. Yet, well-considered deregulation can reduce rates even further and deliver new services to customers.
Competition does not require the mandatory forced open access that has frozen the Colorado legislature. Instead, reformers should eliminate Colorados laws that prohibit competing against incumbent utilities. Abolishing these artificially created monopolies will allow competition to develop more naturally in a number of ways.
Instead of imposing forced open access over existing wiresand the regulatory superstructure necessary to manage itmarket-based deregulation should protect the rights of utilities to control their power lines. But since the utilities will not be protected from competition, new power producers, real estate developers and others could offer delivery services to customers. The many competitive threats that ending monopoly franchises will unleash will often induce the incumbent utility to offer open access voluntarily in order to avoid attracting new competitors. Thus consumers get lower prices and competition, and even open access, without regulatory mandates.
Electricity deregulation can even promote renewable energies such as solar, wind, geothermal and biomass power sources. Consumers interested in conservation may purchase power from any source they prefer under open competition; this choice is an option that todays captive customers lack.
Insiders say the relatively low electric rates available from Public Service Co. of Colorado, the states municipals, and rural electric cooperatives have taken the steam out of deregulation issues for most lawmakers. Rates are at about a comfortable 6 cents/kWh and holding, so most lawmakers are asking what all the fuss is about.
Colo. Restructuring Dies, Electricity Daily, March 13, 1998
I. Overview: The Current Dilemma
Consumers in Colorado pay prices for electricity that are among the lowest in the country. Therefore, indeed they are to be forgiven for wondering what all the fuss is about over electricity deregulation. Yet there is plenty to fuss about. Even though Colorado faces low electric costs now, it must take charge of its fate and ensure that the state experiences even further gains by assuming the role of a leader in energy deregulation. Colorado can be a state that does things, rather than a state that things are done to.
The $212 billion electricity industry is the largest industrial monopoly left in the United States. Unlike when shopping for groceries, hardware or clothing, consumers dissatisfied with their electric service are stuck with the local power company.
Thanks to recent deregulation of telecommunications, natural gas and airlines and truckingindustries which had enjoyed governmental shielding from competitioncustomers are recognizing that they owe no allegiance to artificial monopoly. Most states, including Colorado, have introduced legislation or regulation to bring retail competition to their markets.
To bring that competition about, federal and state reformers alike propose what is referred to as forced open access, or retail wheeling as the model of reform. Under this approach, industrial, commercial and residential electricity customers would be allowed to select an alternative power companymuch as they may choose among long-distance telephone companies today. The local utility would be required, with compensation, to deliver the competitors electricity to the homes and businesses of customers. Thus under forced open access, transmission and distribution of power remain regulated, monopoly functions of the local utility. Only pricing and entry for generation is deregulated under existing models.
Regrettably and paradoxically, the forced open access model requires enhanced regulation of the power grid, because someone will have to oversee all the unsolicited dumping of power into the grid. Plus, forced open access needlessly imposes stranded losses on existing utilities, who suddenly may be faced with a dearth of customers. Coupled with Colorados low costs, recognition of such stumbling blocks have contributed to the cooling of passion for reform in Colorado.
A better approach for Colorado as well as the nation as a whole is a forward-looking, comprehensive, more practical industry liberation aimed at loosening the regulatory wires binding the entire industry, not merely the generation sector. This approach protects the long-term economic health of the electricity industry. Removing the artificial walls between sellers and buyers at all levels of the power marketplace is essential if customers and the industry are to fully benefit.
II. Who Are Colorados Utilities?
Colorado is served by 59 utilities (see Figure 1), however the two investor-owned utilities (IOUs) provide 76% of the power sold in the state. These two private, shareholder-owned companies that serve Colorado are Public Service Company of Colorado[i] and UtiliCorp United, Inc. Municipal and rural cooperative utilities fulfill most of Colorados remaining electricity needs, but these typically do not generate their own power, but instead purchase it wholesale from IOUs.
Figure 1: Colorado Utility Types
Type
Number of Utilities
Power Sold (Million Kilowatt hours)
Investor-Owned Utilities (Public Service Co. & UtiliCorp United, Inc.)
2
23,023
Municipal Utilities
29
6,439
Rural Co-ops
26
7,524
Federal
1
88
Total
58
37,073
Figure 2 compares Colorado electricity market with the U.S. as a whole. Some highlights:
Colorados 1996 electricity sales were $2.2 billion, roughly one percent of the U.S. total of $212 billion.
Colorados average electricity price is 6.05 per kWh, abou bt a penny less than the U.S. average electricity cost of 6.9 per kWh.
The average monthly household power bill in Colorado is $47. Commercial and industrial customers pay $324 and $15,011, respectively. The U.S. average bills for the three sectors were $69, $415 and $6,864, respectively, in 1996. (Note that despite the higher monthly use of electricity and thus higher bill, Colorados industrial rate is below the U.S. average.)
Figure 2: Colorado Electricity Data
All Sectors1
Residential
Commercial
Industrial
Total sales (in thousands of $)
$ 2,243,760
$ 889,175
$ 844,125
$ 432,317
Number of customers
1,885,901
1,573,270
217,237
2,400
KWh of electricity used (in millions)
37,076
11,871
14,239
9,947
Average price ( per kWh)
6.05
7.49
5.93
4.35
High cost IOU ( per kWh)
7.73
PSC of CO
5.79
PSC of CO
4.05
PSC of CO
Low cost IOU ( per kWh)
7.16
UtiliCorp
5.56
UtiliCorp
4.05
UtiliCorp
Average Monthly Customer Bill in Colorado
$ 47
$ 324
$ 15,011
U.S.A. Data
U.S. Total sales (in thousands of $)
$212,454,574
$90,501,156
$67,826,638
$47,385,427
U.S. average price ( per kWh)
6.86
8.36
7.64
4.60
Data Sources: Electricity Sales and Revenue 1996, Energy Information Administration, December 1997, DOE/EIA-0540(96). Author calculations
III. Why Are Colorado Customers Forced to Buy from a Monopoly?
Like all states, Colorado protects its utilities from competition by outlawing it. The historical justification has been that utilities are natural monopolies, a term referring to declining costs of production that presumably allow one firm to serve the entire market demand more cheaply than two or more firms can. The problem with the theory is that if the monopoly were really natural, it wouldnt need government protection.[ii] The market would naturally evolve toward a sole supplier. Historically that didnt happenthe move to a sole supplier status instead required government intervention.
A. Market Entry Is Restricted By Law
It is eye-opening to consider the extent to which Colorados utilitieselectric and otherwisediffer from competitive businesses. Colorado, like most states, requires special permission known as a certificate of convenience and necessity for new competition in the electricity business. As the Colorado Revised Statutes specify:
No public utility shall begin the construction of a new facility, plant, or system or of any extension of its facility, plant or system without first having obtained from the [public utilities] commission a certificate that the present or future public convenience and necessity require or will require such construction.[iii]
Monopoly is an artificial, not a necessary, state of affairs. According to economist Richard Geddes, municipalities at the dawn of the electricity industry often awarded overlapping franchises to multiple electricity providers, thereby creating vigorous competition.[iv] Starting in 1907, however, New York and Wisconsin passed laws transferring regulation to the state level, a model that quickly was adopted elsewhere. During the wave of state regulation between 1907 and 1914, 27 states embraced regulation of utilities. State commissions were given the power to fix rates, to control entry through certificates of convenience and necessity, and to regulate additions to capacity. These changes effectively expropriated local authority to grant franchises.[v]
The generally accepted fable of exploitative monopoly holds that, (1) customers were abused by monopoly utilities until state regulators came to the rescue, and (2) besides, a single firm is more efficient because it can serve customers more cheaply over the relevant range of production. But the record finds competition thriving until cut short by the establishment of state monopolies. According to economist Burton N. Behling:
There is scarcely a city in the country that has not experienced competition in one or more of the utility industries. Six electric light companies were organized in 1887 in New York City. Forty-five electric light enterprises had the legal right to operate in Chicago in 1907. Prior to 1895, Duluth, Minnesota was served by five electric lighting companies, and Scranton, Pennsylvania had four in 1906.[vi]
Economist Harold Demsetz noted that producing competitors, not to mention unsuccessful bidders, were so plentiful that one begins to doubt that scale economies characterized the utility industry at the time when regulation replaced market competition.[vii]
Any market failure in the nascent utility business was related, not to monopoly exploitation, but to the common ownership of rights of way and the failure to properly price access to the transmission and distribution paths, both of which may have led to overuse and the cluttering of streets. Market failure, arguably, was primarily an aesthetic problem having nothing to do with economists traditional falling-average-costs notions of natural monopoly.
B. Electricity Prices are Regulated by the Public Utilities Commission
As entry into the business is regulated, so too is the price of electricity regulated by the staterather than determined by supply and demand in the marketplace. As specified in the Colorado Revised Statutes:
All charges made, demanded, or received by any public utility for any rate, fare, product, or commodity furnished or to be furnished or any service rendered or to be rendered shall be just and reasonable. Every unjust or unreasonable chargeis prohibited and declared unlawful.[viii]
What is the real effect of such laws that supposedly require just and reasonable prices? Unjust and unreasonable prices. The transition to state regulation furthered the interests of inefficient electricity producers, not consumer interests. Economist Greg Jarrell determined that customers paid more for electricity under the new regime of rate of return regulation than they had under competition.[ix] Paradoxically, the utilities regulated earliest, according to Jarrell, were the ones charging the lowest prices. If protecting public interest were the goal, regulators would have responded in the costliest states first. Instead, Jarrell found that prices in the earliest regulated states were 46 percent lower than prices in the late-regulated states (after correcting for variations in demand and costs). This finding supports the theory that regulation was a pro-producer rather than a pro-consumer undertaking.
Had the state regulatory takeover have been in the public interest, prices would have fallen and the quantity of power supplied would have increased after the transition to regulation. Instead, the early-regulated states experienced a 26 percent increase in rates relative to the late-regulated states.[x] Electricity output was also reduced, while profitability and return on assets in the early-regulated states increased after regulation. Jarrell concluded: These empirical results are difficult to square with the traditional explanation that state regulation was designed to minimize the undesirable social consequences of a naturally monopolistic electric utility industry.[xi]
Richard Geddes summed up the matter: [S]tate regulation was instituted not to correct private market failure and to increase social welfare, but to provide firms with a way to insulate themselves from the discipline of competition.[xii] Utility regulation didnt fight monopoly at all, but fostered it by sacrificing the interests of smaller, competitive producers to larger, less-efficient ones.
IV. Lessons From the Past: Deregulation Savings in Other Industries
The essence of economic deregulation is to remove artificial impediments to competition, and there are precedents that help predict what might be expected from electricity deregulation. Research by Jerry Ellig of the Center for Market Processes and Robert Crandall of the Brookings Institution into the deregulation of gas, long distance telecommunications, airlines, trucking, and railroads found that [I]n each case, customer choice lowered prices, expanded output, and led to quality levels that better reflected consumer desires.[xiii]
As Figure 3 shows, Within the first two years of deregulation for various industries, prices had fallen by 4-15 percent, and sometimes more for certain groups of customers. Within 10 years, prices were at least 25 percent lower, and sometimes close to 50 percent lower. Dollar savings across these industries now total more than $40 billion per year.
Figure 3: Summary of Cost Trends Following Deregulation
% Real Price Reduction After
Industry
2 years
