To date, our readings have been built around the concept of natural monopolies. Again, a natural monopoly exists where a market can be served at a lower cost by a single firm rather than two or more firms. Natural monopolies are the rationale for public utility regulation. If natural monopolies as described truly exist, then it’s hard to argue against our current configuration of regulations. However, all regulations have the consequence of limiting the number of possible arrangements that can occur between two parties. Sometimes this is good and often it’s bad, but it’s undeniable that regulation prevents a certain number of possible arrangements in the economy.
In the case of public utilities, there can be no question that government regulation has encouraged some inefficiencies and prevented the occurrence of newer, more efficient arrangements that would occur but for the presence of regulation. Like anything else in society, it comes down to trade-offs.
Our assigned reading briefly touched on the idea of possible alternatives to rate regulation. Jerry Taylor of the Cato Institute went so far as to offer several recommendations to Congress on how to deregulate the energy industry.
The common argument raised in any discussion of deregulation is the concept of “mandatory retail wheeling”; the idea that private utilities should turn their own grids into public highways. However, Taylor points out that if the stated goal is deregulation then this doesn’t necessarily accomplish this. A public highway would only beget more regulation, compounding inefficiencies in the market. Taylor states:
The allocation of transmission and distribution resources under retail wheeling will be made, not on the basis of highest expected value of service (the standard by which most business decisions are made), but on the basis of nondiscriminatory access. Access is based on legal and political formulations without consideration of economic efficiency. Retail wheeling, then, will inevitably weaken the economic vitality of the grid. Moreover, by definition, it significantly weakens grid ownership rights and brings us dangerously close to de facto government ownership of transmission and distribution with all the problems attendant to such socialist enterprises.
Taylor also raises an important Constitutional issue:
In essence, mandatory retail wheeling transforms a privately owned and operated (albeit heavily regulated) electricity roadway into a public highway. Under a strict reading of the Fifth Amendment to the Constitution, it's hard to ignore that mandatory retail wheeling amounts to a "taking'' of private property for a public purpose--expedited competition. The cost of that taking must also be considered by reformers. Either the public will be forced to compensate utilities for their lost property rights (which might well amount to billions of dollars), or they will fail to compensate utilities, in which case the "cost'' of retail wheeling will be borne by all property owners who will experience a marginal erosion of the protections against governmental power.
While Taylor scuttles the idea of turning the transmission lines into a public highway, he offers several arguments as to why mandatory retail wheeling is in fact not needed. First, he argues that utilities actually do compete with one another; despite the natural monopoly label we’ve placed upon them.
[E]lectric utilities already "compete'' with other utility companies (who threaten to lure away industrial consumers and thus, ultimately, residential consumers), self-generation (an option that is gaining popularity with industrial consumers and is increasingly affordable even for homeowners), and energy-efficient technologies (which become more attractive as rates rise). The demand for electricity is not inelastic.
It’s an important point that I haven’t seen in our readings. We like to believe the idea that absent any regulation the big, bad utilities could charge confiscatory rates to their customers. But, those customers aren’t required to stay in one place. Taylor goes on to explore the idea of competition within natural monopolies:
[T]he mere threat of--or potential for--competition is enough to force incumbent monopolies to act as if they were in competitive markets. As economist William Baumol and others have pointed out, as long as markets are contestable, monopolists typically act to deter entry by providing services at market rates and have little opportunity to extract monopoly profits should they behave otherwise. The relevant concern is not whether competitors do or do not exist in a given market. The real concern is whether entry to the market is open or closed. As long as entry is possible, there is little to fear from aspiring monopolists.
If we expand the parameters of what competition looks like, it must include more than the mere existence of only one firm in the market. Maybe the problem lies in our definition of what constitutes a market. As Taylor states, as long as the potential exists for entry into the market, competition is alive and well.
Taylor also explores another option I haven’t seen mentioned anywhere else; the idea of “user-owned grids” as opposed to utility-owned grids.
[D]eregulation of transmission and distribution might well lead, not to alternative grids, but to user-owned grids. Consumers, after all, would have an incentive to protect themselves against rate gouging, while electric utilities--faced with well-positioned competitors in a newly freed market--would have an incentive to sell grid rights in order to stabilize their customer base and raise capital. Jointly owned transmission and distribution lines are already common in the electricity business and numerous other businesses. Taxi dispatch services, natural gas pipelines, and large freight vessels, for instance, turn to user-owned arrangements as a market response where significant economies of scale exist.
Taylor’s suggestion may or may not hold value for utility markets, but I think its usefulness lies in fact that it’s only one idea we, or rather, the market can choose from. A top-down, one-size-fits-all approach rarely works in other industries. Why would it be any different for utilities? This should give us reason to more fully explore the consequences and possible benefits of energy deregulation.
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