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The Economists: On the Future of Energy Markets

The Power of Price Responsiveness
Fortnightly Magazine - April 1 2002

offended many of the big generating companies and the big generating wannabes," he notes. "After all, you don't make a lot of money in a highly efficient market. You make money, both as a trader and as a speculator, in an inefficient market."

Stalon says the push for an efficient market always was hounded by those who wanted "all of the emphasis placed on removing all the regulation and letting the parties that now exist trade power, which means, let all the big guys control this market and don't allow anybody to come up unless it's a private enterprise group, unregulated in any dimension, to create a spot market."

Flaws with the RTO Model

Joskow says he has sympathy for the need to have reasonably standardized wholesale markets in large regions with a transparent and flexible transmission platform that overcomes the problems associated with balkanized ownership and operation of transmission. But he also has concerns about FERC relying on institutional structures that are non-profit, quasi-government agencies that don't own assets and inevitably are going to be highly politicized.

"If I had my way and I were the benevolent dictator, I think we could meet FERC's goals by creating regional grid companies like in England and Norway and Sweden, New Zealand, Australia, Argentina, almost every other country that has done this that are independent of market participants, that own assets and that can be operated under performance-based regulatory mechanisms and really do a good job on focusing on the provision of transmission," Joskow says.

There are serious questions, he says, as to whether regulators are setting up a system that will lead to adequate amounts of investment in transmission capacity in the right places. He's discouraged that FERC hasn't focused on providing transmission owners financial incentives to reduce congestion and invest in new transmission capacity.

"We have models around the world that work," Joskow says. "I'm a big fan of looking at things that work in reality, not just looking for them to work in theory. We are adopting a set of institutions that exist nowhere else on Earth. I think American regulators on the incentive front are 25 years behind the times."

Joskow believes there are serious risks in separating the operation of the electric power network from the ownership of the assets and in not having an appropriately structured performance-based regulatory system that is viewed as a necessity rather than a privilege for companies.

"Performance-based regulation isn't a bribe you give to companies," he says. "It's a way of establishing what your expectations are for providing financial incentives to align the incentives of the owners of the assets with the goals of the regulators and policymakers."

Stalon believes there's often an element of luck in creating successful markets. "There are very powerful interests involved in creating systems of regulation and in changing it," Stalon says. "You have to be lucky and find the right time. So far we don't seem to have found it in electricity."

A coalition on Capitol Hill hasn't existed to move forward with creating a viably efficient