Over the past two decades, huge swaths of the economy have been deregulated, from banking to electricity to airlines. But has competition increased efficiency? In a paper forthcoming in the American Economic Review, a group of academics from Emory University's Goizueta School of Business, MIT, and the University of California's Haas School of Business say yes. In Do Markets Reduce Costs? Assessing the Impact of Regulatory Restructuring on U.S. Electric Generation Efficiency, the researchers examine production at fossil-fuel generating plants from 1981 to 1999, before and after deregulation. Publicly owned plants, which were largely sheltered from deregulation, experienced the smallest efficiency gains. Investor-owned plants in states with restructured markets improved the most. Even in a stodgy old industry like electricity, markets do seem to work their magic.
The paper is currently available for free on the Berkley website. The abstract explains well:
While neoclassical models assume static cost-minimization by firms, agency models
suggest that firms may not minimize costs in less-competitive or regulated
environments. We test this using a transition from cost-of-service regulation to
market-oriented environments for many U.S. electric generating plants. Our
estimates of input demand suggest that publicly-owned plants, whose owners were
largely insulated from these reforms, experienced the smallest efficiency gains,
while investor-owned plants in states that restructured their wholesale electricity
markets improved the most. The results suggest modest medium-term efficiency
benefits from replacing regulated monopoly with a market-based industry structure.
An excellent empirical work, nearly the entire article is as quotable as the abstract. The principle argument of free market advocates during electric reform was nearly dead-on.
During the second half of the 1990s, states began to shift their focus from
incentive regulation to restructuring. By 1998, every jurisdiction (50 states and the
District of Columbia) had initiated formal hearings to consider restructuring their
electricity sector, and by 2000, almost half had approved legislation introducing some
form of competition that included competitive retail access, whereby companies competed
to sell power to retail customers.10 Restructuring initiatives, in contrast to incentive
regulations, fundamentally changed the way plant owners earn revenue....Retail access programs in combination with the creation of the new
wholesale spot markets may increase the intensity of cost-cutting incentives, leading to
even greater effort to improve efficiency.
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