Standard-Offer Service: Beauty or Beast?

Fortnightly Magazine - September 2008

Economist Thomas Sowell wrote, “The first lesson of economics is scarcity: There is never enough of anything to satisfy all those who want it. The first lesson of politics is to disregard the first lesson of economics.”

There’s an inherent conflict between two public policy goals in states where electric and natural gas customers have the ability to shop for generation supply and gas commodity. One policy goal is to encourage the development of a vibrant competitive retail market for energy supply. This goal should be accomplished by ensuring the ability of retail suppliers to compete is not limited by inappropriate price signals or structural impediments. For example, any standard-offer service provided by the incumbent utility, to the extent practical, should reflect the full costs of service. Alternatively, policies designed to encourage retail choice that are not based on sound economic principles should be rejected.

Another public policy goal is to ensure that residential and small commercial customers will have a standard-offer service available from the utility. Often the goal is to ensure that the utility standard-offer service is available at the best possible price—low price, low volatility. But if standard-offer service is a Beauty what then are the implications for the development of a retail market? Some retail suppliers might wish to make standard-offer service into an ugly Beast. This will enhance shopping but will not be in the interest of the consumers. Is the development of retail choice compatible with the provision of a best-priced standard-offer service to residential and small commercial customers?

Industry Restructuring

In the past, utilities such as the Baltimore Gas and Electric Co. (BGE) were responsible for supplying and delivering natural gas and electricity. Customers could buy natural gas and electricity supplies only from the local distribution utility at prices authorized by the state’s public service commission. Today, in many states, the supply of natural gas and electricity is deregulated and customers can choose to purchase their energy from competitive suppliers or customers can continue receiving their energy as a standard-offer service from the local distribution utility.

Natural gas deregulation and customer choice generally were far easier to implement for gas utilities as compared to electricity because the natural gas industry was not vertically integrated. Gas unbundling at BGE was an evolution occurring over two decades whereas electric unbundling was a revolution occurring over a relatively short period. The fundamental difference was found in the structure of the two industries.

Gas Industry Restructuring: Production of natural gas at the well, transmission through the interstate pipelines and delivery to customers through