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Mergers and Market Power: Should Antitrust Rule?

Fortnightly Magazine - October 15 1996

all unused capacity and has no choice but to market it.

Monopoly: Why Generation May Not Matter

If generation markets matter in mergers, they should also matter elsewhere. If two utilities can harm competition by merging to form a larger system, so should individual utilities that grew to that size without a merger.

As it does for transmission, regulation ideally constrains a utility from exercising monopoly power in generation, even if it acts as the sole producer, by enforcing a duty to invest prudently and to serve all users in its territory. The utility can earn regulated returns even if its investments were poor choices in retrospect. A customer with open access need not stay around to pay off uneconomic plants if access allows it to reach cheaper supplies. Absent a price-fixing agreement, open access should mitigate monopoly power in generation.

The Guidelines (roughly) ask whether a merger will make it more feasible for generators to fix prices. Fewer sellers might make it easier to collude (e.g., to enforce or detect violation of restrictive agreements), but merger need not always increase the likelihood of collusion. Mergers may produce firms large enough to take risks of aggressive competition, to capture economies of scale, or to invest in innovations that smaller firms will not pursue. Even if a merger materially increases risks of collusion, its costs should be weighed against the possible benefits if things turn out otherwise and competition becomes more aggressive.

What happens after the merger may depend less on supplier concentration than on the institutions governing markets. The behavior of the United Kingdom's mandatory power pool points up the difficulty of generalization. There, denationalization created two large generating entities, who at times bid into the pool using strategies that raise the pool price above the cost of a marginal generator. Some respondents to the FERC's NOI (e.g., the Federal Trade Commission) believe the U.K. experience warns the United States not to let generation become too concentrated.

An alternative strategy would simply avoid implementing institutions that are conducive to collusion or passive competition. With a mandatory system in which all sellers receive the pool price regardless of their individual bids, surreptitious price cuts will prove difficult. Whatever the number of sellers, if they all use the pool every day and individual bids can be seen or inferred, it will not take them long to understand the virtues of being less than aggressive. In contrast to the United Kingdom, the Norway market features a large number of producers and an optional pool. The pool's prices track costs relatively closely, but 90 percent of transactions are bilateral arrangements that do not go through the pool. We do not know whether Norway differs from the United Kingdom because of its more numerous sellers or because its nonmandatory pool fosters more active competition among them. One final case, Chile has a mandatory pool and a more highly concentrated generation sector than the United Kingdom, but markups over cost in Chile appear quite low.

The Relevant Market: Still Emerging and Transforming

Generation and transmission serve as economic