An analysis of competitive power markets finds that oligopolies are the end game for liberalized power markets.
Dr. Anthony White is head of policy and markets analysis at Climate Change Capital, an independent U.K.-based merchant-banking firm. White was a founding member of the UK Government’s Energy Advisory Panel, a member of the National Grid’s Executive Committee, and head of the European Utility Research teams at Kleinwort Benson and Citigroup.
The British wholesale power market is about to enter a new phase. Having enjoyed a long period of surplus capacity, the combination of the forced retirement of some nuclear plant and continued demand growth is likely to lead to a capacity shortage within the next three to four years, and it is by no means clear whether the market, as it currently operates, will be able to maintain secure supplies.
There is evidence, in other markets, that such disruptions can be avoided. However, the power industry is not famous for looking outside its immediate vicinity to provide guidance. In the late 1990s, the German industry ignored the "British experiment" when preparing for liberalization. As a consequence, the collapse in prices took that industry completely by surprise. Similarly, the British and U.S. industries, and their financiers, were surprised when power prices fell to marginal cost at the turn of the century, despite the German experience.
Looking to other commodity markets can help us predict the future behavior of competitive power markets. Where commodity markets are highly competitive, markets have been likely to give rise to volatile price cycles, with prices driven by marginal costs for long periods, punctuated by short periods of extreme prices. Observation of commodities also suggests that a market in long-term contracts is unlikely to develop in many competitive energy markets. As a consequence, domestic customers will be exposed to extreme price volatility, which is unlikely to be politically sustainable.
Is an oligopoly structure the appropriate end game for liberalized power markets?