FTC Leadership Role Needed in Electricity Deregulation, AAI Tells Workshop

Sep 13 1999
Testimony and Interventions

As a former Acting Deputy Director of the Bureau of Competition, it is my pleasure to begin these observations by wallowing in an old mantra I once knew so well: "these remarks are personal and do not necessarily reflect the views of the Commission or any Commissioner."

The American Antitrust Institute is an independent, non-profit organization, formed about a year and a half ago for the purpose of helping to assure that a progressive antitrust philosophy plays a more substantial role in public policy. (For background, please visit our website, www.antitrustinstitute.org.) Among the nearly twenty foundations, corporations, associations, law firms, and individuals that provide our funding are three that have a particular interest in seeing the U.S. electric industry become structured in such a way that competitive markets will be a reality and not merely an economic theory.

As we look at what is happening in the world around us, where a remarkably large number of countries are simultaneously making the transition from centrally planned economies to market economies, it is easy to see the danger of applying economic theory without due regard for institutional realities. Because the U.S. electric industry is also in a transitional phase, it is useful to note some parallels that I hope you will find suggestive.

Transitions from regulated monopolies to markets are complicated and difficult. Power changes hands. Resistance is to be anticipated from those who lose power. A new mindset is required for all involved, as the system undergoes what I have called "Shermanization".

Unlike many Shermanizing nations, we do not have to worry about creating new legal institutions such as private property laws and capital markets, nor do we have to worry about educating an entire country to the ways of competition and the strictures of competition policy. Our task in the electricity sector is narrower, but nonetheless daunting. New institutional contexts are required as monopolists transition into competitors, customers learn to become shoppers, and rate regulators morph into antitrusters.

Like a Shermanizing nation, our electricity sector is going through a transitional phase on the way from regulated monopoly to free market. The antitrust laws, while applicable to an important degree, are oriented to maintaining competitive markets rather than creating them. Antitrust enforcement has proven much more useful in stopping the growth of market power than in reducing market power already legally attained. But monopolistic industries like electricity are almost by definition characterized by the presence of market power. If we act on the idea that antitrust alone will assure a competitive market, therefore, we will be deluding ourselves and possibly subjecting the public to the worst of all worlds: minimal regulation by the public together with minimal regulation by market forces.

What will it take to create the conditions under which competition will flourish and the antitrust laws can do their job?

Let's begin by recognizing that the movement from monopoly to competition is only partial. The transmission stage will remain a regulated natural monopoly, even as new technology and a more competition-oriented ethos permits the generation stage to become competitive. The FTC has helped shape an understanding of the competitive problems that are inherent in this combination of monopoly and competition. In particular, the FTC has consistently urged the states and FERC to beware of the ways in which market power in transmission can be used to skew the competitive process. It has been a consistent advocate for structural separation of transmission and generation, and experience indicates that this has been the right advice. Even with structural separation, which we are still far from achieving, there will continue to be antitrust issues, for which the FTC's continued leadership will be needed.

As we move toward restructuring, many large integrated public utilities are already divesting their generation assets. Sometimes this is mandatory and sometimes a voluntary response to the now-obvious need to separate generation from transmission. It raises issues analogous to the privatization process occurring in many Shermanizing countries. In Shermanizing countries, privatization has too often meant selling the national monopoly to the highest private bidder, who is willing to pay a particularly high price because it is purchasing a monopoly. This is a Faustian bargain. The State gets the highest price, yes - but it gives the public an unregulated monopoly to live with. Some deal! Similarly, we are watching our divesting utilities turn over generating resources to the highest bidder-rather than use this stunningly unique opportunity to create a competitive market by selling the assets in logical packages to multiple competitors.

When the U.S. sends its antitrust experts to Shermanizing countries, the advice they increasingly give is that the new competition agencies should initially emphasize their role of competition advocate. Nothing is more important during the transitional phase than to keep the pressure on governmental decision-makers to take competition into account when companies are privatized. Similarly, we say to the FTC: there is still a lot of unsold generation capacity that will be coming on the market; find ways to use your role as competition advocate to influence governmental decision-makers to use their power pro-competitively as they shape and approve generation divestitures.

It is also necessary to look at mergers of public utility companies in the light of transition. One would think that it would be obvious that if we want to make a transition from monopoly to competition, we would prefer more rather than fewer companies to be available to compete. Yet, the wave of mergers of utility companies has washed over FERC virtually unimpeded. Although it is the Department of Justice rather than the FTC that works with FERC most often on electricity mergers, the FTC should use its bully pulpit to emphasize the importance of keeping the electricity sector safe for the competition that is supposed to replace regulation at the end of the day.

In this regard, I want to mention the Barton bill, which at the moment would appear to take FERC entirely out of the merger review process, leaving electric utility mergers to the antitrust laws as administered by the FTC and DOJ. By eliminating the "public interest" standard that FERC is currently authorized to employ when reviewing a merger, this bill would remove one of the most important tools potentially available for structuring a competitive electric industry. Antitrust alone is not well suited to dealing with existing market power legally obtained. When two monopolists merge, there is clearly not likely to be much direct overlap between them. By current methods of federal merger analysis, there will probably be no antitrust hook by which these mergers will be stopped. But a public interest standard that takes national competition policy into account, in the context of a transition to competitive markets, can at least potentially be used to slow the consolidation of the industry. Eliminating FERC's merger review authority would amount to a catastrophic cave-in to the large Investor Owned Utilities, which are clearly consolidating as a strategic response to the prospect of having to compete. On the other hand, FERC has done little to distinguish the "public interest" standard, often using it only to extract unrelated concessions from companies that seek to merge. If the standard survives, it would be useful to have the FTC suggest to FERC a pro-competitive vision that could help guide a merger policy oriented toward the creation of competitive markets.

The FTC should be open to the possibility of playing a larger role in electricity mergers, if Congress will make more funding available, but it should vociferously oppose elimination of the public interest standard during the transition period.

Ideally, the FTC should join with those who are calling for a moratorium on large utility mergers, pending completion of the transition.

In developing the necessary institutional structure in which a competitive electricity market must be embedded, the FTC has already fashioned for itself a special role. As Stephen Calkins has written,

An industry founded on paternalism is being asked to compete. That industry, and those responsible for it in state legislatures and in regulatory offices, need the help that the FTC is uniquely positioned to give.

The Commission is to be complimented for the service it has already provided in helping to identify competitive and consumer protection issues revealed by the deregulatory process. In fact, those in the audience may not be aware that the huge impact the FTC has already had through its letters and comments to the various states and through its speeches has been accomplished with human resources limited to approximately 1.1 professional staff years in the Bureaus of Competition and Economics combined.

We salute John Hilke, Mike Wroblewski, and their compatriots for a heroic achievement to date. Without reflecting on them, however, the task ahead is far too large for 1.1 professional staff years.

What more is needed? First, the Commissioners themselves must become more knowledgeable about this very complex industry. Second, they should spend more time with their equals at FERC, so that together they can apply both antitrust and broader public interest standards to assure that the market folds out in a competitive structure. The FTC has earned FERC's respect through its advocacy, which has proved to be wise. Indeed, FERC's recent NOPR on Regional Transmission Organizations appears to reflect a capitulation to the FTC's consistently presented view that the competition objective will best be served if transmission and generation are structurally and not merely functionally separated.

This is not the time for the Commission to humbly retreat, although it is not difficult to pose reasons for staying out of the policy kitchen. After all, the FTC is not a regulatory agency, its industry expertise -though real-is limited. There are many other ways the Commission can spend its too-limited resources. And speaking out can be politically risky, given the leading role of the states, the variety of federal and regional agencies involved, and the fact that so many issues are going to be hard-fought by conflicting economic interest groups.

But electricity deregulation will be the most important sectoral deregulation our nation handles. Not only are the most dollars at stake, but the consequences of not getting it right are probably the greatest, including not only higher prices for consumers, but even the possibility of death and serious physical injury. The American consumer needs your aggressive advocacy and occasional strategic intervention.

The Commission should continue to make itself felt by harping on the special needs of a transitional situation, at the state level, with FERC, with the Antitrust Division, with Congress, and in public speeches. It should triple its resource commitment. It should steady the focus on building for competition rather than simply keeping markets from becoming less competitive than they already are. It should try to direct attention to structural issues, with particular respect to large companies where there is a market power concern, rather than allowing the focus to devolve onto the easier targets presented by small players and minutiae.

The FTC should be a gathering point for information and analysis and should undertake additional workshops of this type, specifically asking questions about what does and does not work. It should evaluate experience in the field and share with the electricity community what it deems to be best practices and worst practices. If it identifies problems that are not being resolved, it should contemplate issuing guidelines or even trade regulation rules or to define what would be violations of Section 5 of the FTC Act. The threat of this type of administrative action could be an impressive sword of Damocles, especially considering its potential influence on the interpretation of "Little FTC Acts" that the States have adopted. As the staff goes about its electricity business, it should collect information with an eye to an eventual rulemaking, even if, as we all would hope, the need never eventuates.

Experience with market power issues to date suggests that the FTC is playing a critical role in shaping the transition, has a strong track record to build on, and should have the self-confidence to become an increasingly aggressive advocate of institutions which will make competition work for consumers.