RELATED ARTICLES "California's Electricity Woes: A Vision of the Future?" In Depth, March 2001 (Text or PDF) "California Is Giving Electricity Deregulation a Bad Name," Southwest Economy, Jan./Feb. 2001 (Text or PDF)

U.S. Economy
A Wake-Up Call in California

Stephen P. A. Brown looks at the restructuring of California's electricity market and what other states are doing to create freer markets.

Since mid-2000, California has experienced a considerable number of problems with its electricity market, including fluctuating prices and shortages. California's electricity woes give us a reason to take pause and consider the future of U.S. electricity markets and of energy policies in general. Electricity is an important part of the U.S. energy infrastructure—accounting for more than one-third of U.S. energy consumption. If other states experienced problems with their electricity markets similar to those in California, the effects would be felt throughout the economy.

California's Restructuring
The restructuring of California's electricity markets did not provide much deregulation.

California...

• opened its generation markets to competition, but the state did not permit the free entry of new power plants.
• retained regulation of transmission and distribution as is prototypical, but a public agency assumed control of some transmission lines.
• did not open up marketing/sales to competition.
• froze retail electricity prices.
• banned the use of long-term market instruments and forced all power to be transacted through a daily spot market operated by a public agency.

In short, California did not create a transition to a free electricity market, and its restructuring should not be considered deregulation. In addition, the reforms California has made since late last year have done little to further deregulate its electricity markets.

A Wake-Up Call?
In some sense, California's electricity woes should serve as a wake-up call for thinking about the direction of U.S. electricity markets and energy policy. The U.S. Department of Energy forecasts that U.S. electricity consumption will grow by more than 30 percent over the next two decades, while the use of natural gas to produce electricity will increase by nearly 60 percent. That forecast calls for a much stronger growth rate in the use of natural gas to produce electricity than occurred over the past 30 years.

The infrastructure to produce the additional electricity and supply the additional natural gas does not currently exist. If people in other states take the same attitude toward the development of new electric power facilities and natural gas pipelines as Californians seem to have taken over the past 20 years, electricity will be relatively scarce, and either higher prices or shortages of electricity will result.

Electricity Market Restructuring in Other States
Most states progressing toward a restructuring of their electricity markets are creating freer markets than California has. Of the 24 states and the District of Columbia that have deregulated or have taken concrete steps toward deregulation, the eight states shown in green seem to meet the criteria for a successful transition to a free market. The 11 states shown in yellow are entering deregulation in pretty good shape. Nine of these states have price caps but sufficient instate generating capacity. Connecticut and Virginia do not have price caps but do import significant quantities of electricity. The three states shown in orange and the District of Columbia are in only slightly better shape than California. They import significant quantities of electricity. In addition, Maryland, Delaware and the District of Columbia have price caps, and New York has other impediments to freely functioning electricity markets.

Only Oregon, shown in red along with California, seems to be freeing its electricity markets as little as California. Oregon imports significant quantities of electricity, is not allowing for entry into marketing and sales, is retaining regulated prices and discourages market-making activities. The other 26 states, shown in gray, do not currently have concrete plans for restructuring and are in a position to learn from those preceding them.

Electricity Market Restructuring in Texas
Texas is in the process of restructuring electricity markets in most areas of the state. Restructuring will be completely phased in by the end of 2001. As Texas approaches its restructuring, success seems very likely.

Texas is entering deregulation with sufficient generation capacity (and fuel supplies). It is opening electricity generation to competition with the free entry of new power plants and private contracts. Marketing and sales to consumers will be opened to competition. Electricity prices will be free to move. Texas is allowing a range of market instruments, including long-term contracts and spot sales. It is also encouraging private market-making activities.

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