News Release

November 30, 2004

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Electricity industry in need of deregulation
Current hybrid system at fault for recent electricity crises

WASHINGTON -- The restructuring of the electricity industry has failed to lower electricity costs and has contributed to various high profile crises in the electricity sector, including the California brownouts of 2000 and 2001. The present reforms should be abandoned for more aggressive deregulation, according to a report released today by the Cato Institute.

In "Rethinking Electricity Restructuring," Cato scholars Peter Van Doren and Jerry Taylor show that the electric utility restructuring of the 1990s -- designed to remedy the problems caused by relatively high electricity costs in the Northeast and California -- has created little price relief, led many states to adopt policies that will encourage excess capacity, and failed to produce real-time pricing.

The grafting of a deregulated wholesale market onto a still regulated retail service is an unwieldy marriage that has created an economic mess and led to the establishment of "artificial market institutions that invite manipulation and abuse," according to Van Doren and Taylor.

When combined with the 50 state regulatory schemes that govern the grid, private property rights do not coincide with the physical reality of the grid. Contracts between willing sellers and buyers of electricity "affect all other buyers and sellers within each interconnected system in ways that are not captured by prices," the authors argue. It is unclear exactly what kind of market is required for the industry, but the current system has traded one set of economic problems for another.

There is little reason to believe that the situation will improve under the current experiment, as its flaws are systemic, Van Doren and Taylor conclude. However, as the case for restructuring comes under increasing scrutiny, it may not be politically viable to embark on a more thorough embrace of the markets. The second best alternative is for states to return to an updated version of the old vertically integrated, regulated status quo. This option may, in fact, get the system closer to the arrangements that would develop under a more honest adoption of laissez-faire.

Policy Analysis no. 530.