Achieving the smart grid’s potential requires a revolution in electricity pricing. Smart metering and smart rates might yield surprising and beneficial changes in the U.S. utility industry. But...
Electric Retailing: When Will I See Profits?
fraught with cross-subsidies and assumes high switching rates mean progress. 14 That important issue is beyond the scope of this paper. What is unassailable is that electricity retailing is no exception to a universal principal of economics: Customers respond to price incentives, and demand curves slope downward. 15
Another reason switching rates vary among the states concerns the amount of education provided to customers. Pennsylvania carried out a much more effective education campaign than did California, which squandered almost $100 million on a generic advertising and direct mail campaign. That campaign touted "Knowledge is Power," but did little to increase the average Californian's knowledge about the power of their electric choices. In Pennsylvania, where the education campaign encouraged customers to shop for electricity, a state-run poll last fall indicated that 94 percent of the population had seen, read, or heard something recently about being able to choose their electric provider. 16
Finally, Pennsylvania made it easy for retailers to recruit customers by providing them with a statewide list of all customers who had expressed an interest in switching.
Figure 4 shows first-year switching rates for Pennsylvania, as of Jan. 1. As in California, the share of switchers increases with customer size. But the major difference is that switching rates exceed California's two-year switching rates for all market segments. The difference is most noticeable for residential customers, who have switched at 10 times the rate seen in California.
Price-Only Strategies: Murder on Bottom Line
What is particularly striking about both the California and the Pennsylvania markets is the relative dearth of alternative products offered to retail - and in particular, mass market - customers. In both markets, electricity products are differentiated to some degree by price and contractual arrangements, and to some degree by the relative "greenness" of their supply. But there is little variability in the electricity product features that could significantly differentiate the product of one company from that of another. Where are products differentiated by, for example, the following features:
- Promised customer service levels?
- Level of reliability offered or level of local investment promised by providers?
- Billing and convenience features that might particularly interest certain market segments?
Where, in other words, is the variability in product features that so typifies other markets from coffee to banking to automobiles? Perhaps the ESPs have concluded that customers will not buy on the basis of these features. Is it possible that electricity is so unique that product differentiation will not differentially attract different market segments? While that is possible, customer research suggests just the opposite (see sidebar, "Will Customers Pay for Value-Added Products?").
At this point, one thing is clear: Customers have not had the chance to demonstrate whether they will buy electricity products differentiated by product features or service. Innovation in this area may well be the keystone to greater profitability in retail energy markets. The strategy just has not had a chance to be proven.
The major conclusion that emerges from a review of the U.S. experience is that customers respond to price incentives, and they may well respond to other