[BETA] Fortnightly

Monopoly rents? Not in the short run. The real enemy is a price war, fueled by indifference to stranded costs. And when that happens, antitrust laws won't offer much help.Competition has formally begun in the electric service industry. The Federal Energy Regulatory Commission (FERC) has issued Order 888, giving generators access to wholesale loads throughout the nation. California's investor-owned utilities have filed applications with the FERC to establish an independent system operator and a Power Exchange, through which generators will receive market-based prices for their dispatched generation.

Regulators, to their credit, are not blind to the task. It can prove difficult to jump start competition in an industry that has operated, nearly from inception, as a klatch of government-mandated monopolies. The fear lurks that, notwithstanding open access and transparent bidding, incumbent utilities will exploit their vestiges of market power to restrict supply and achieve supra-competitive prices.

Yet, if history offers any guide, the most likely result in the short run will be a price war in those segments of the market that lie open to competition. Prices could fall dramatically, with stranded-cost recovery schemes perhaps perversely fueling price-cutting strategies.

Do the antitrust laws have a role to play?

The antitrust laws rose from a societal impulse to outlaw

predatory pricing. However, for doctrinal and structural reasons, antitrust precepts may fail to limit predatory pricing in the electric services industry. This failure could threaten nonutility generation at a disproportionate rate. Moreover, with "stranded" costs defined as the immediate differential between a utility's fully allocated rate and the market price, utilities may actually receive encouragement to adopt prices that are predatory in effect, in order to maximize recovery of uneconomic costs.

Some economists argue that an industry can be fully competitive with as few as five sellers. Others envision substantial gains in efficiency by reducing the number of electric service providers. If regulators prove comfortable with a market dominated by a handful of mega-utilities, an unrestrained price war may be welcomed by some for the salubrious effects of encouraging mergers to eliminate weak utilities and reducing excess capacity. However, if regulators see consumers as best served in the long run by a diversity of generators operating the most efficient facilities on a total-cost basis, they may wish to consider mitigating predatory price.

And, should regulators favor this idea, they must embrace the task as their own, for the antitrust laws cannot otherwise fill the void.

Predatory Pricing

and Legal Remedies

Both the Sherman Act and the Clayton Act prohibit "predatory pricing," which may be defined as pricing below "an appropriate measure of cost" for the purpose of eliminating competitors in the short run and forestalling new market entrants in the long run.1 Although "cost" is the touchstone that underlies liability, no consensus has yet been reached as to the appropriate measure of cost against which pricing conduct should be assessed. Some courts have held that pricing above marginal or average variable cost is presumptively legal.2 Others have held that pricing between average variable cost and average total cost may be deemed unlawful upon a