I’d like to chime in a little bit on the point that Mike just raised about state lawmakers and retail competition. Although there’s plenty of blame to go around with respect to the inertial state of retail competition, I believe the primary cause is the incentives facing state legislators.
State regulators operate under laws established in their respective states, to serve missions determined by those laws. Under the common law structures that govern the states (except for Louisiana) as well as federal law, legal institutions evolve by precedent or by legislative action. State legislators can change the laws under which state PUCs operate. State regulators can certainly influence that legislative action, but the primary incentive facing state legislators is to satisfy their own constituencies, their voters. Furthermore, they do so on short election cycles, very short relative to the time scales on which meaningful institutional change can happen.
So here’s my model: state legislators have the objective of being reelected (standard public choice assumption). This process happens on four-year cycles. In the states that have had legislative change to implement regulatory restructuring (such as Illinois and Maryland), they made these legislative changes with the objective of reducing costs to their voters; however, legislators are also risk averse with respect to their voters — they prefer certain outcomes to uncertain outcomes. Therefore, when originally negotiating restructuring legislation, they tried to get the cost reduction while maintaining price caps for their voters, in other words, residential customers.
They anticipated that when those price caps came off electricity prices would be lower; all reasonable forecasts of fuel prices and electricity prices supported that conclusion. However, forecasts are often wrong, and in the case of natural gas and environmental regulation, forecasts turned out to even be in the wrong direction. Thus in states like Illinois and Maryland, with residential price caps coming off when fuel prices are higher than expected, the voters are not getting the certain outcome that their legislators bargained for and promised. All parties feel aggrieved and are blaming markets for the outcome (thus Commissioner Kelliher’s comments).
But such a conclusion overlooks the fundamental problems that lie at the core of political processes. In instituting such strong price caps for residential customers, legislators bought some short-run certainty for their voters, but the tradeoff for that short-run certainty is the painful reality that if you are wrong about your forecasts, you’ve created a system that is extremely rigid and ill-equipped to adapt to changing conditions and changing values (such as increasing concerns about environmental effects of electricity consumption). As for the legislator’s own incentives, the election cycle in the short run was shorter than the price cap cycle, but now the consequences will come home to roost with them, unless they can “do something” that appeases their voters.
Thus even though price caps were the initial cause of the problem, legislators continue to argue for price caps, because it creates the perception that they have “done something” to address the problem of high electricity prices to voters. They do so because they have little incentive to show political backbone and leadership, and to break out of this populist, election-cycle-driven incentive to create the appearance of being able to control and manage circumstances that in reality are very far out of their control. Sadly, by doing this legislators reinforce the institutional environment that prevents retail competition from bringing real value creation to customers, especially to residential customers.
Why, then, should we expect state legislators to show political leadership? Why should we expect them to be Churchill-esque and say that we will have some short-run pain in the process of achieving far greater long-run gains than ever before imaginable? I deeply, deeply wish it were so, but I have seen very little evidence of political leadership with respect to this issue. Honestly, I am appalled and disappointed with how little leadership and creativity I’ve seen in Illinois on this issue.
One way to offer political leadership on this issue is to shift the debate away from price and toward forward-looking changes, such as implementing smart grid technological change that can simultaneously enhance system reliability and national security while creating the potential to offer customers innovative products and services.