Power deregulation: Positive surge, or short circuit?

So far, the decade-long effort to create a workable, competitive market for electricity in the United States has been mostly a flop.

In about 16 states, generating a third of the nation's power supply, retail customers have a choice of power providers, though not a meaningful one in many of these states.

Relatively few households have switched to new providers. And though regulators have stacked the decks in favor of new competitors, the dollar savings of switchers have been tiny.

Further, the electricity crisis in California, the bankruptcy of Pacific Gas & Electric Co., and the failure of Enron – once the world's largest energy trader – have stalled moves by other states toward a competitive system.

So where does the nation go now? Back to the old franchise-monopoly system? Or do the states move forward toward competitive power markets that actually work?

A controversial new study by Cambridge Energy Research Associates in Cambridge, Mass., warns: "If the power sector continues to muddle along its current path of inconsistent and uncoordinated deregulation, then a slip back to regulation is almost inevitable."

In fact, any competitive system will be highly regulated by necessity.

"The rules will be much more complex," says Sharon Reishus, one of the researchers for the CERA report.

In the old system, which still prevails in most states, a public-utility commission regulates power companies, most of which not only generate much of their own power, but also handle its distribution to consumers.

They also have a role in looking after regional transmission organizations that swap power between utilities in a given region to meet shifting demand.

In states that have switched to competitive systems, the utilities had to sell off their power-generating plants to separate companies. So state regulators must deal with more entities, including additional generating companies and a host of independent distributors.

The CERA report makes multiple suggestions for standardizing state regulations in coordination with the Federal Energy Regulatory Commission (FERC), which regulates interstate transmission of power.

"Power markets are complex, unlikely to evolve on their own accord, and need structure to work properly," says the report.

One basic problem is providing incentives to power generators to maintain surplus capacity that may be used only on a few hot days in the year. Under the old system, a surplus power capacity of 15 to 18 percent was part of the franchise-monopoly system.

With a competitive system, it's uncertain whether expensive new power plants will be built to serve infrequent demand. With the economic slowdown, 18 percent of announced power projects were cancelled in 2001. So regulators may require generating companies to maintain surplus capacity as part of their license to play in the market. That's regulation again.

There's a similar problem with building new transmission lines for sending power between cities in a region. How do you make it profitable?

The quality of transmission systems has declined in the past decade, reckons Ms. Reishus.

That adds to the risk of serious power failures somewhere in the nation.

Again, FERC may have to step in to set service fees that assure transmission firms a profit after they have covered the high cost of new long-distance lines.

That's reminiscent of the price controls for electricity set by public utility commissions.

FERC this month proposed a standardized transmission service and wholesale electric-market design to deal with this problem. The goal, says Pat Wood III, chairman of the commission, is "reliable electricity at lower prices for all Americans."

Free-market enthusiasts have great faith that competition will do just that. The say free markets will help to establish a reasonable price for electricity, that markets will always self-correct if problems arise, and that regulators can deregulate by trial and error.

But the CERA study calls such key "laissez-faire" assumptions incorrect. The power business is "too important economically and socially to restructure on a trial-and-error basis," notes the report.

Thomas Stauffer, a veteran energy consultant in Washington, complains that the Bush Republicans are "as ideological" as the "Clintonites" were in pushing for restructuring of the electricity business.

It is not clear that a competitive power system will come up with sufficient savings in power generation or distribution to offset the extra marketing costs involved. "Hopefully this is not just wishful thinking," says Reishus. "It's not the slam dunk people expected."

Meanwhile, five states that have passed laws to begin the process of deregulation – New Mexico, Montana, Oklahoma, Arkansas, and Nevada – have halted implementation, worried that a new system won't work. Legislators in 25 states without a law are not likely to pass one. Eyes are on Texas, where a competitive system got going this year.

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