Twenty Years of Electricity Market Reform

October 11, 2013
By Louisa Lund, Consortium for Energy Policy Research program director

Almost twenty years after the passage of the U.S. EPAct that began the restructuring of many electricity markets in the United States, a veteran of the power industry spoke at Harvard Kennedy School (HKS). She described the successes and failures of electricity market reform which aimed at introducing competition and reducing the role of monopoly power production in the electricity sector.

Theresa Flaim, principal at the firm Energy Resource Economics, traced 10 years of U.S. electricity market reform, noting that it took hold in high-cost states where “management and/or regulatory mistakes were perceived to be the problem.” Part of the appeal of reform was not only the hope that it would result in cheaper electricity, but that it would punish “incompetent utility managers and misguided regulators.”

Whether electricity market reform effectively punished anyone is unclear, but 20 years down the road, Flaim argued, several problems that seemed nearly insurmountable have been successfully addressed. One is the issue of “stranded costs” – whether and how much to compensate utilities for the above-market costs associated with investments in plants and other infrastructure under the monopoly system – has been resolved. Second, the basic elements of a workable wholesale market structure have largely been resolved, after a period of experimentation and confusion which included the California electricity crisis.

A few things, however, haven’t turned out as planned, Flaim noted. Hopes for dramatic short-term declines in electricity prices were not realized, nor were there great innovations in power delivery. The roll-out of retail markets, in many cases, was rushed, Flaim observed, and was sometimes undertaken before a workable framework for wholesale markets was in place. One lesson from the experience of market reform, Flaim said, was the “need to have workable wholesale markets before introducing competition at the retail level.”

Although market fundamentals have now been largely established, Flaim pointed to two areas of “worry.” First, capacity markets, used in many parts of the country to encourage adequate investment in new electricity generation, are a step away from markets and a step back toward centralized planning. Second, the potential benefits of markets have been limited by the reluctance to allow market prices to be reflected in the retail level. Citing remarks by HEPG Executive Director Ashley Brown, Flaim said, “it’s ironic that we spend hundreds of millions of dollars to get all the elements of pricing at the wholesale level exactly right, and then we turn around and spend hundreds of millions of dollars to make sure no retail customer ever sees those prices.”

Flaim, who has been attending meetings of the Harvard Electricity Policy Group since they began two decades, praised HEPG for providing a safe haven for discussion of the “radioactive” issues around electricity restructuring and for its “relentless focus on important issues.”

The Energy Policy Seminar Series is jointly sponsored by the Energy Technology Innovation Policy research group of the Belfer Center on Science and International Affairs and the Consortium for Energy Policy Research of the Mossavar-Rahmani Center for Business and Government.

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Theresa Flaim, principal at the firm Energy Resource Economics

Theresa Flaim, Principal at the firm Energy Resource Economics

Part of the appeal of reform was not only the hope that it would result in cheaper electricity, but that it would punish “incompetent utility managers and misguided regulators," said Flaim.