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The Future of Electric Competition: Concentrated Power

THE FUTURE OF ELECTRIC COMPETITION
Fortnightly Magazine - February 2005

fuel prices and advances in technology. If the incumbent generators fail to respond in this way, it will suffer a loss of market share and run the risk of a return to a fragmented market with the associated marginal cost pricing. Thus, the threat of competition would protect customers under this "managed competition."

The conclusion of this analysis is that unless there is some oligopoly control, either in the supply to final customers or in generation, prices in a fragmented generation market are likely to be driven to extremely high levels, as demand starts to exceed supply. Although this might be acceptable from an economic point of view, as it would encourage a demand response, it is unlikely to be politically acceptable, let alone sustainable. Unless the supply businesses have sufficient confidence in their supply base, such that they would be willing to sign long-term contacts, or an oligopoly exists in generation, it is difficult to believe that politicians will not intervene when prices rise dramatically. This uncertainty would serve to increase the cost of capital in generation.

Consolidation and control in generation may be preferable to a high degree of competition because it would remove the risk of price excursions and the threat of intervention by government. It would lead to a market where prices move in line with the long-run costs of new entrant production, and where incumbents would be confident to invest in new capacity. In this way, "managed competition" would help develop a sustainable electricity industry.

[Editor's Note: This paper is based on a speech made at the 2004 International Society for New Institutional Economics (ISNIE) Conference in Tucson, Ariz.]

Endnotes

  1. Although NETA started after the collapse, the regulator and British government claimed that the market anticipated the effect of the introduction of the new rules.

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