Liberalisation of Energy Markets

QUESTION

Generally speaking, liberalisation of energy markets seems to be associated with improved efficiency, greater investment and access to services, but higher prices for at least some customer groups. Research suggest that, if anything, public ownership is a vehicle for keeping domestic prices down and that liberalisation is not a vehicle for lowering household prices. Please discuss from a regulatory perspective.

What is "liberalisation of energy market"?

In order to explore the aspects, advantages, disadvantages and theory vs. practice of market liberalisation, also refereed to as de-regulation, its important to set the context of what is meant by liberalisation and regulation. In this paper reference to energy is synonymous to electricity unless otherwise stated.

Pollitt (2007) describes ʻliberalisationʼ as "the use of market or quasi-market mechanisms as part of a reforms sector"1. His view on ʻregulationʼ is that it is a form influencing; stepping in; control; stringent guidance exerted by authority onto the market with regards to price setting mechanism, access to infrastructure, supply, market and participant behavior etc, which in absence of such regulation would have not occurred. Such interference can be in form of restriction as well incentive.

Overall, due to the nature of various components (discussed in more detail further) of the energy systems: generation, transportation, whole sale & retail and consumptions, complete liberalisation of energy market simply is not feasible. Further due to energy being a matter often referred to national energy security, it cannot be left alone at the mercy of market forces. This view is based on the premise that since this commodity is such an integral part of every day life, business and industries industries, that if there is a interruption in the flow of energy or significant upward deviation of prices, this could have a detrimental effect on the economy. This is also supported by the notion that in an electricity supply market as a whole does not operate in a "free market" environment, and a failure of one supplier or a disruption of a component of the electricity delivery chain could have crippling effects on the economy. Pollittʼs (2007) explains that liberalisation itself can only happen within regulation context, and total liberalisation of electricity where there is a notable size market is not possible.

Al-Sundaidy (et al, 2006) is also of similar view as Pollitt (2007) and defines liberalisation as re-regulation2. This is so because the distribution networks and transmission even in a deregulated market remain as natural monopolies. The reason being that it is highly unlikely that it would be feasible for a competitor to build another power line adjacent to an existing power line. Its also unlikely that a competitor would be permitted to do this even if it was economical due to visual disturbance, or rather visual pollution that a multitude of power lines would cause. Therefore deregulation is practically economically possible only in the business at the end of the each of the distribution networks i.e. power generation and supply. Deregulation may also involve allowing access to third parties or new generators to access some of the infrastructure of the existing owners to create a competitive environment. Al-Sundaidy (et al, 2006) gives examples of deregulations such as restructuring or even breaking up companies vertically, those companies which

1 Pollitt, M 2007. Liberalisation and Regulation in Electricity Systems: How can we get the balance right? Judge Business School and ESRC Electricity Policy Research Group University of Cambridge.CWPE 0753 & EPRG 0724.

2 Al-Sunaidy, A et al 2006. "Electricity deregulation in OECD (Organization for Economic Cooperation and Development) countries" .Business School, University of Hull, Hull HU6 7RX, UK .

generate and distribute their own network or breaking up companies laterally to create more independent power generators again to increase the competitive environment. Their paper explains that deregulation without restructure is counterproductive as the existing power suppliers may discriminate to whom they sell their electricity or to whom they allow access which will lead to less competitions.

Having said that Ilie (et al, 2007) explains that regulation is necessary, even in a deregulated market, further supporting the notion that deregulation happens within the context of regulation or re-regulation, and not complete abandonment of regulation. Complete deregulation cannot occur as the "Market economies are not able to work without some rules, from the one that protect innovation to the antitrust legislation which looks to enforce fair competition"3

History

In the past, the business of electricity generation, transmission and distribution was carried out by few national or regional monopolies, often by one company, which controlled the complete supply chain. "Under regulation, the utilities generated electricity at their own power plants, delivered the electricity over their own transmission wires, and sold the product to end customers" states Slocum (2007). In return for their monopolistic control of the client base governments exerted stringent regulation over these corporations, particularly in setting the appropriate rate of return for utilities usually based on cost of doing business and development costs of future energy requirements4, explains Slocum (2007). As a result the government controlled both the retail price and effectively the whole sale price of electricity since there were no separate markets.

Slocum (2007) explains that it was not unusual for this system to be take advantage of often, due to significant political influence the electricity corporations had over the policymakers. Never the less this arrangement, at the time, was viewed as the most appropriate system to deliver reliable and affordable power.

Deregulation refers to the ʻun-bundlingʼ or breaking up of these monopolies i.e. separation the various components of the supply chain being electricity generation, transmission and distribution, into various entities that could only control one part of the supply chain process. These entities were often privatized where possible.

In his paper "The Failure of Electricity Deregulation: History, Status and Needed Reforms" Slocum (2007) explains that in US, at the early stages of electricity market liberalisation the federal government played and unintended role by encouraging liberalisation.

During the 1970 oil crises the congress intention was to diversify the supply of energy for the Unites States, mainly away from Middle East oil and towards alternative fuels.