Making Electricity
Markets Competitive:
How Fast and by Whom?
Timothy J. Brennan

Expanding competition in historically regulated markets has been a stunning (and largely bipartisan) policy success story over the last 25 years. But thus far, electricity has not been as amenable to similar initiatives. Moreover, recent events, such as the California crisis of 2000-01 and the Northeast blackout in August 2003, have led many to voice concerns about our electricity systems.

We hope that the following provides a useful short guide to help balance the claims these different interests express.

In our view, the need to control costs, ensure reliability, and prevent market power in this crucial sector implies that although competition may be politically and economically appealing, presidential leadership should be applied cautiously with regard to opening electricity markets. Successful competition in wholesale electricity markets will require continued regulation and oversight by the Federal Energy Regulatory Commission (FERC).

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Despite resistance from state regulators and incumbent utilities, this regulation will quite likely require new legislation to require utilities to join regional transmission organizations (RTOs). These RTOs should be empowered not only to coordinate the interstate and international transmission of electricity across the grid, but also to establish enforceable reliability standards. To ensure effective competition, RTO operations must be fully independent from any generation owner; mandatory divestiture of transmission from generation may be the best means to this end.

On the other hand, states should continue to exercise authority over "retail competition," that is, the extent to which households and businesses can choose their own electricity supplier. Local economies bear the costs and reap the benefits of opening retail electricity markets, and each state can learn from others what works and what does not. Moreover, the benefits of extending deregulation beyond large industrial and commercial users to household customers may not be worth the trouble.

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Timothy J. Brennan, professor of public policy and economics at the University of Maryland Baltimore County, is a coauthor of Alternating Currents: Electricity Markets and Public Policy and a former senior industrial organization and regulation economist for the Council of Economic Advisers.

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