Markets are dependent on governments. Not necessarily because they want to, but because government policy dictates how markets operate. During the last decade the global energy markets have been subjected to swathes of deregulation and privatisation as governments look to open the energy markets to competition. Driving this policy is the benefit that deregulation provides to consumers in the form of lower prices. But deregulation is also of direct benefit to government itself as it is ultimately the consumer, which votes a government in or out of power.
In reality markets have not been deregulated in the sense that regulations have been removed. Instead market regulation has been modified or new regulations introduced. In the UK gas and electricity market more layers of regulation have been introduced since the market was ‘deregulated’. And even with savings of almost $200 million since competition was introduced government backbenchers this month called for further consumer benefits. The timing is obvious as the UK approaches an expected general election within five months.
The politics of the consumer are equally apparent across the Atlantic. The state of California, the so-called Golden State, is falling to its knees with electricity and water shortfalls. Two of its utilities – Southern California Edison and Pacific Gas & Electric – have accumulated revenue shortfalls of almost $9 billion due to a rate freeze to placate consumers who saw bills treble during the summer. Both are close to bankruptcy and the concession of rate increases between 7 and 15 per cent to alleviate finances is unlikely to do more than prolong the financial misery. Both utilities called for minimum rate increases between 25 and 30 per cent.
In California the lessons of deregulation are proving a bitter pill to swallow for all parties concerned – Federal Energy Regulatory Commission, California Public Utility Commission, state utilities and consumers. Clearly lessons have to be learned. It appears almost surreal that California, the most progressive state in terms of free market enterprise, which led the US in electricity deregulation and market-based pricing, is now being pressured by consumer organisations to re-regulate its market and return to cost-of-service-based pricing. The impact is being felt across the US market and has led to the US being characterised as having the most dysfunctional of all electricity markets.
California’s problem is primarily a product of its own success. The state’s rapid growth in population, its pivotal role in the growing digital economy (forecast to account for 30 per cent of new electricity demand), and its strict environmental laws have seen demand escalate but with no new plant build its supply has remained constant. But its solution – more generation and transmission to meet demand growth – is entangled in regulation policy. In the US electricity market there is no federal mandate for retail access – market competition for the domestic sector. Regulation policy is largely dictated by state Public Utility Commissions (PUCs) and the power of the PUCs exceeds that of FERC in terms of domestic electricity markets. Given that the incoming Bush administration supports increased decentralisation of policy away from Washington the solution to California’s problems is more likely to be determined by the Courts than the regulator. Both utilities and consumer organisations have filed briefs with the Courts to protect their interests. But if regulatory policy had been introduced efficiently and effectively the need for legal intervention would not be necessary.
In light of the dysfunctional nature of US electricity markets it should come as no surprise that US utilities are flooding into Europe, and in particular the UK. But is the regulatory infrastructure of the European market any better? Certainly it is federally regulated, in terms of the European Union directives on gas and electricity competition. But in the UK, which initiated electricity deregulation, all is not well. And again the responsibility rests with Ofgem, the gas and electricity regulator.
Ofgem’s market solution to improving the competitive infrastructure – the New Electricity Trading Arrangements (NETA) – has yet to see the light of day. Delayed twice, with a new preferred go-live date of 27 March, its implementation is likely to be anything but smooth. In the first week of the New Year there was almost no trading in electricity for the post-NETA period. The problem is that participants are unhappy with the transitioning of the existing EFA (electricity forward agreements) into physical contracts that will trade post-NETA.
There is a lack of agreement among participants as to how the proposed GTMA (grid trade master agreements), which will replace EFA’s, should be structured. With the contentious capacity element of EFA contracts being removed post-NETA a transmission pricing element has to be incorporated in the new contracts. But generators who believe that buyers should pay for all the transmission costs have challenged the original proposal that transmission costs be apportioned 45/55 between generators and buyers. Innogy, the domestic division of demerged National Power, this month put this proposal in writing. And market trading has dried up.
Market participants convened a meeting for the end of January to resolve their differences. Interestingly Ofgem is standing back from the arguments. Ofgem believes that its role is to implement market policy and let the participants work out how to operate it. The problem is that Ofgem is becoming increasingly dictatorial in its policy making. New market policies should be a consensus process between government and the market.
Ofgem has already had its knuckles rapped by the Competition Commission, which revoked its Market Abuse License Condition in December. It has had its 2001 budget cut in half. And now the government, the very one that created Ofgem, has nominated a regulatory czar to oversee the operation of individual regulatory bodies.
It is fair to surmise that deregulation is not working as efficiently as envisaged. Lessons have to be learned on both sides of the Atlantic. The US and the EU are seen as role models for the emerging markets of Central & Eastern Europe and Asia. But the signals coming from these bastions of free market enterprise may now appear confusing. Deregulation can and should work. But it has to be implemented to meet the needs of all participants – consumers, traders and utility companies.
