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Paul Streitz

Friedmanís Folly - Deregulation of Electricity
By Paul Streitz
Jan 15, 2007 - 11:40:34 AM

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Milton Friedman is regarded as an economist. He is not. He is an ideologue of the free market economy and he applies his free market theories to all economic matters large and small. It does not matter if his prescriptions do not work because he would only say that they had not been fully implemented, they had been implemented badly, or that they need no time to work. In other words, with Friedman there is no empirical real world test of his economic theories.

Common sense tells us that a free market of producers free to produce and consumers free to purchase is a sound economic system. The free market mechanism is especially useful when it is applied to situations were there are hundreds of producers and thousands of consumers. This would apply to goods such as the production of hats, grain, livestock or bread. These items are fundamentally interchangeable. Cows raised in one part of the country can be transported to another part of the country. If there is an overabundance of a particular type of hat, then manufacturers can reduce the production of that hat and shift their resources to making another type of hat.

However, the production of electric power does not fall into the category of easily produced goods that we can easily substitute on for the other. To begin with, the creation of a power plant, its size and expense, means that production will inevitably be in the hands of relatively few producers.

Further, we have the problem of distribution. While bread can be bought at different stores, offering different types of bread at different prices, consumers cannot hook up to their own personal power company, or go shopping at a different company if they donít like the prices.

Deregulation of the electric power was touted as a way of lowering electric bills "up to twenty percent" and this idea was sold to consumers and state legislatures by the electric power companies themselves.

This on the face of it seems absurd, why would the power companies, who owned a regulated market, with a stable business and guaranteed rate of return, want to deregulate themselves and subject themselves to competition. The answer is not unexpectedly to increase their profits.

The power companies wanted to sell off their high cost nuclear facilities at a loss. These plants were not as efficient as gas and oil plants therefore were worth less than comparable fossil fuel plants. But with the promised of deregulation, the power companies wanted to recover their losses by billing the consumers in the new deregulated marketed for their losses, or "stranded costs."

Massive increases in funds for lobbying soon followed and state legislators bought into the idea of lower prices for consumers through deregulation. It works for onion and bread, so it should work for electricity. Aided by millions in campaign contributions and with the promise of lower electricity prices, what legislator would not vote for that?

Deregulation essentially meant that the means of production would be separated from the means of distribution. Formerly a company such as Consolidated Edison would be responsible for both the generation of power and the distribution of that power to consumers. In order to capitalize the production facilities and distribution facilities it was overseen by a state regulatory body that tried to maintain a high enough rate of return to induce investors to invest in the company. At the same time the regulatory body was to insure that the public was not charged excessively beyond the real costs of production. The third objective was to insure the safety and reliability of delivery of power.

George Stigler and other free marketeers have argued that such a regulated system is inherently flawed. They argue that the utilities have a direct incentive to constantly maintain rapport with the regulators and that they will unduly influence their decision. They argue that the individual consumer has little incentive, a few dollars a month, to pay attention to the actions of the regulatory body whereas the utility has millions of dollars at stake. Their proposal was the deregulation of electric power.

Now, electric power cannot be deregulated like the sale of bread or onions. Each consumer cannot have his own set of power lines running to the power generators. So the deregulation meant that the production of electricity was going to be separated from the distribution of electricity.

Some utilities now became sole distributors of electricity running the power lines and billing the customers. They were to make a profit by being able to charge a fee or mark-up for their services. They purchased their power from independent power generators. Some utilities became a combination both producing their own power and also purchasing power.

What was the result? Were the free marketeers right? Not exactly. Electricity costs skyrocketed. (See this consumerí home utility bill).

The market in electric power was now the same as the futures market in soy beans or pork-bellys. Producing power suppliers no longer had to supply power. They frequently went off line, power supplies decreased and consumers were subject to price spikes.

They built inefficient systems that could be easily started for peak demand, but did not invest in efficient systems for low cost non-peak demand. In short, the power generators acted like true capitalists to maximize their profits by gaming the system.

California has suffered blackouts when demand was less than 30,000 megawatts, even when the system has 55,000 megawatts of power. The reason is not a shortage of power generating capacity, but power generators going off-line or not running at full capacity.

Delivery became irregular and subject to black-outs because the power distributors, such as those in New York City, had no economic incentive to replace older distribution systems.

Meanwhile, United States citizens were to witness one of the most spectacular corporate frauds in history: Enron. What did it deal in, electric power. It was a heavy contributor to both political parties to keep the deregulated system and money rolling into their coffers. But even that wasnít enough. The crooks that ran the system soon resorted to outright fraud to keep the stock price high and are now spending life sentences in jail for their just deserts.

The American public now has the worst of both worlds: high prices for electricity and unreliable supplies that are subject to blackouts.

The free marketeers maintained that the public was not protected by regulatory bodies influenced by power utilities, but it certainly is even less protected by the free market wherein a limited number of producers can manipulate the market to maximize profits to astronomical levels.

Milton Friedmanís deregulation of electric power is another of his delusions. Unfortunately, the American public has had to pay billions to for one this one.

Paul Streitz, Co-director
CT Citizens for Immigration Reform or

Mr. Streitz is author of Oxford: Son of Queen Elizabeth I, The Great American College Tuition Rip-off and America First, Why Americans Must End Free Trade, Stop Outsourcing and Close Our Open Borders. He is also a graduate of the University of Chicago Business School with an MBA in marketing and finance, but he has since recanted his free trade, voucher and other foolish libertarian beliefs.

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