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Retail Gas Reform: Learning from the Georgia Model

Fortnightly Magazine - April 15 1997

Reform of the retail gas market would yield analogous socially beneficial results. The timing of retail gas market reform could not be better. Present trends toward convergence of the gas, electricity and telecommunications markets, combined with the rapid technological innovation in all three of those markets provide exciting opportunities for entrepreneurs. Advances in these fields of information technology and risk management also will aid in this evolution.

Once these three goals are set, however, a successful reform plan must accomplish four specific tasks: 1) unbundle structurally competitive functions from natural monopoly functions; 2) create the conditions necessary for effective competition; 3) make small consumers more desirable targets for competitive service providers; and 4) replace cost-of-service regulation of natural monopoly functions with performance-based regulation.

Functional Unbundling and Marketing Affiliates

The first step in any reform initiative is to distinguish monopoly functions from those that can be performed in a structurally competitive retail market. A good first approximation in drawing the line between competitive and noncompetitive functions is to distinguish between merchant functions and physical distribution functions. The Georgia plan goes

further by including an innovative feature that can render even some physical distribution functions susceptible to effective competition. This feature of the plan also makes small consumers more attractive to competitive service providers.

Simple unbundling, however, is not enough. Many LDCs have formed affiliated marketing companies. To reap the full benefits of a competitive market, care must be taken to avoid both sources of bias in favor of an LDC's marketing affiliate and against such an affiliate. The Georgia legislation accomplishes both purposes well. It includes the by-now familiar cluster of rules severely limiting transactions and communications between an LDC and its marketing affiliate to preclude LDCs from conferring unfair advantages on their marketing affiliates. It also includes several less familiar provisions that address effectively the equally important sources of potential bias against an LDC's marketing affiliate.

These features eliminate the risk that LDCs or their marketing affiliates will be uniquely burdened with the costs associated with a supplier-of-last-resort role, e.g., the obligation to serve customers who are high credit risks and customers who elect to buy from marketers who default. The legislation has three features that address this problem: 1) Marketers must go through a state certification process that reduces the risk of marketer default; 2) Customers who do not elect a marketer are randomly assigned to each marketer in proportion to its market share; and 3) A Universal Service Fund that provides compensation to marketers for uncollectible accounts.

The Small-Customer Problem

Small consumers have not yet been able to obtain the full benefits of competition. States have not yet allowed most small consumers access to competitive alternatives and, as the Supreme Court has recognized, %n2%n small consumers are not very attractive to gas marketers. Because small consumers individually purchase small quantities of gas at low load factors, marketing efforts targeted at small consumers tend to generate low revenues relative to the costs of attracting and serving them.

The Georgia plan responds to this obstacle to competition in an innovative way. It