Arizona’s heavily regulated, monopolistic electricity industry is ill-equipped to meet the state’s growing demand for energy. Nor is it well-suited to contain the higher costs that are likely to result from renewable energy mandates. Only by moving Arizona’s electricity industry closer to the ideal of an open and competitive market can the ingenuity of entrepreneurs be engaged to meet the increasing demand for electricity—the lifeblood of Arizona’s economy.
Despite California’s electricity debacle, this report will show that restructuring can be done right. Economists and regulatory reformers have learned from California’s mistakes. Texas, Pennsylvania and Britain have recently restructured their electricity industries to achieve remarkable improvements in both conventional and renewable generation capacity. The competitive electricity market in Texas, for example, has increased generation capacity by 35 percent from 1998 to 2006. Moreover, many customers have been willing to pay a premium for electricity generated from renewable sources. As a result, Texas’s renewable generation capacity has increased by 390 percent in the last eight years. In Britain, restructuring has lowered rates 30 percent.
Successful restructuring, however, requires unbundling existing monopolies in electrical generation, transmission and sales to prevent the exercise of market power by incumbent utilities. In other words, existing utilities will likely be required to sell some of their existing generation and distribution capacity in order for a competitive market to get its bearings. The experiences of Texas, Pennsylvania and Britain indicate that this is the only way for a heavily regulated, vertically integrated, monopolistic electricity industry to transition into one based on competition among multiple providers of unbundled services.
Accordingly, this report recommends eliminating regulation that shuts out new electrical companies and replacing monopoly regulation with competition in two key areas: wholesale electricity markets and retail markets. Achievement of wholesale market competition will require that the largest utilities divest some of their generation plants into independent generation firms. A related reform would be to relax regulatory restrictions on new power generators to sell into that market. The second area of reform proposed in this report is in retail electricity markets. Retail service providers would purchase electricity in wholesale markets and compete with one another to make innovative electricity service offerings that would attract customers.
This unbundling and restructuring could bring Arizona the improvements in cost and capacity that Texas, Pennsylvania, Britain and others already enjoy.