July 1, 2001
L.A. Loves a Loophole
There's no getting around it...
Attorney Edward L. Flippen insists it "doesn't take an economist to figure out" what will happen to electricity prices in a restructured industry that provides for open access and retail wheeling ("Radical Restructuring? Not in My State," Perspective, August 1996, p. 11).
Forgoing an economist, Flippen predicts that electricity rates will reach a national equilibrium point substantially higher than rates currently prevailing in Virginia but below rates in California. Therefore, he reasons, Virginia's electricity consumers will lose while those in California will win. QED: Electricity restructuring is evil and should be rejected.
I suggest Mr. Flippen needs not only an economist, but an accountant as well.
The win/lose scenario envisioned by Mr. Flippen and others who oppose a market-based system of competition in electricity would make sense only if the generation portion of the industry were constrained. With a finite, limited amount of electricity available, GenCo managers naturally would seek the highest rents available and send their electricity there, or raise local prices to the national market-clearing price.
In fact, however, the United States and each region of the country is up to its circuit breakers in excess generating capacity. Any attempt by a GenCo to raise prices would be answered quickly and efficiently by a nearby generator, provided consumers have choice, and interstate commerce is unrestricted.
Further, even if generating capacity in a region were temporarily constrained, independent power producers (IPP) could set up
formidable generators within a matter of weeks and thus loosen the grip of an incumbent utility on the local market. The mere threat of entry by an entrepreneurial-driven IPP will serve to dampen rapacious GenCo managers.
The partisans of the bad old days of command-and-control regulation have trouble recognizing that in a restructured industry, producers won't set electricity prices; consumers will. In a competitive market, prices naturally move toward marginal cost, not embedded cost (em that economic principle holds true in Virginia as well as California.
The manager of an investor-owned utility who attempts to exert unfair market power by trying to collect rents that reflect long-imbedded costs, or the IPP operator who tries to dictate retail prices to consumers, will fare no better than the high-priced seller of any commodity in a free market, whether cereal or automobiles: They'll lose sales and they'll go broke.
I commend Mr. Flippen for recognizing that Virginia enjoys a
relative market advantage over high-cost energy states such as California and Illinois. But in a restructured electricity environment, where generators will be permitted to transmit their output across state lines to end-users, the rules will indeed change, and losers will become winners.
States that move decisively to a competitive environment and that clear their decks of the debris of electricity companies' stranded costs as quickly as possible will be the winners. They will find their business climates improving with increased investment, heightened production, growing employment, and expanding formations of new businesses and families.
That sounds great to me.
However, I don't wish to harm the good people of Virginia. So I'm willing to permit Virginia to retain its currently prevailing electricity