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Revisiting the Keystone State

Rate caps have squelched competition in Pennsylvania.

Fortnightly Magazine - July 2008

2001 was to improve electricity competition, and in 2008 I still believe this goal is in the public interest. The global forces described above, not competition, are causing increases in electricity prices. In fact, competition dramatically has improved the operating efficiency of generating plants, and reversing these gains by re-regulating generation would add yet another factor pushing electricity prices higher. Moreover, significant investment in generating plants will be needed in coming years to meet economic and environmental goals, and electricity consumers will be better off if that investment takes place in a competitive market, where investors bear the risks.

Lawmakers in Pennsylvania, however, hold differing views on policies that should be pursued as the rate caps expire. Some lawmakers continue to support electricity competition and simply want to help customers through the transition to market prices. But others contend that electricity competition has failed and that “broken” wholesale markets are responsible for higher prices. These opponents of markets favor measures such as legislation to extend the rate caps. Yet another group is less concerned about whether competition has succeeded or failed—they believe that combating climate change is the most important goal in setting energy policy. This group tends to support additional mandates for renewable energy.

Given these disparate views, it’s not surprising that the General Assembly has found it difficult to pass major legislation in the special session on energy that began in the fall of 2007.

Answering Market Critics

The distrust of electricity markets by some lawmakers in Pennsylvania mirrors the reaction of many officials in other states where rate caps expired a few years ago. In Illinois, Maryland and Delaware, the expiration of rate caps in 2005 and 2006 coincided with a spike in wholesale electricity prices due to the damage that Hurricanes Katrina and Rita inflicted upon natural gas infrastructure in the Gulf of Mexico. Customers in these states had grown accustomed to paying capped prices, and they were surprised and angered upon learning that they would soon be paying much higher electricity bills. Many elected officials reacted by blaming wholesale markets and generators for the increases.

This blame was misplaced. Aside from the temporary spike caused by Hurricanes Katrina and Rita, 2 increased fuel and infrastructure costs—which are outside the control of generators or entities such as PJM that oversee wholesale markets—have caused electricity prices to increase. From 1999 to 2007, the price of coal increased by 56 percent, and the price of natural gas increased by 200 percent in the PJM market area. 3 In addition, a recent study shows that the cost of building a new generating plant in North America increased by 130 percent from 2000 to today. 4 This means that a plant that cost $1 billion to build in 2000 would cost $2.3 billion now.

State policymakers who distrust competition downplay the global forces that are driving higher electricity prices. Instead, they draw attention to the profitability of baseload generating plants that were built under regulation. They suggest these profits prove wholesale electricity markets are not truly competitive. In addition, the focus on