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Anti-Competitive Impacts of Secret Strategic Pricing in the Electricity Industry

Fortnightly Magazine - February 15 1997

being higher, not lower.

What safeguards

are needed now?

First of all, a moratorium is needed to prevent anti-competitive price discrimination. In principle, the ideal regulatory action would be to void all previous, large-firm discounts. It would also set a moratorium on all new, large-customer discounting by utility monopolies to firms in their service area until the conditions of effective competition have been attained. Next, if discounts are permitted, the impact may be reduced by requiring full disclosure. This would increase the pressures to let all customers share the discounts and minimize the anti-competitive effects.

Finally, and perhaps even more important in practical terms, the discounts should be limited in duration. Preferably, discounts should extend no more than one year at a time. Otherwise, the discounts will lock up the best customers, so that new competition will have no attractive customers to begin with.

Any constraints on the discounting will be criticized by the monopolies and the favored customers. These companies will clothe resistance in favorable-sounding terms, claiming that the regulators are blocking desirable price cuts. The utilities and customers also will deny the discounts have any anti-competitive effects, which could place the regulators in an awkward position, seeming to be opposed to beneficial price cutting.

Nonetheless, the regulators need to explain vigorously why the discounts have unfair and anti-competitive effects, and they need to prevent or restrain the discounts during this critical phase. Otherwise, effective competition may never evolve. t

William G. Shepherd is Professor of Economics, University of Massachusetts, Amherst, and general editor of the Review of Industrial Organization, and The Economics of Industrial Organization, 4th ed., Prentice-Hall, 1997. Shepherd has been involved in electricity and telecommunications policy issues from the beginning. John Kelly and Diane Moody assisted in the compilation of this article.

Discount or Discrimination?

It depends on your definition

Price discrimination has had a lot of names through the decades, including: demand-based pricing, usage-sensitive pricing, charging what the traffic will bear, selective pricing, sharp-shooting pin-point pricing, picking the eyes out of the market (a British phrase), discount pricing, Ramsey pricing, etc.

The economic definition of price discrimination actually is rather specialized and technical. Discrimination exists when there is a difference among the price-cost ratios for related goods. In the purest, simplest case, the same good (produced at the same cost for everybody) is sold to different buyers at different prices. Discrimination also can occur when different (but related) goods with different costs are sold at prices which differ even more sharply (or instead, less sharply) than the costs differ. Price discrimination is found in nearly all market situations, and often is pervasive. Following are some examples:

• Pharmaceuticals. Pricing of medical drugs is an example of discrimination due to a difference in price-cost ratios for related goods. For instance, the price for small-scale patients through local drug stores is often five times more than the price for big hospital and HMO buyers.

• Computers. In the 1960s IBM set very low (even loss-causing) price-cost margins on its large machines, where Control Data was a particularly stiff competitor. The move