Policy Studies Conservation

Environmental benefits of electricity policy reform

The structure of the electric industry can help shape environmental outcomes. In the United States, we have significant experience with the regulated monopoly model, which dates back to the early 19th century. Under that model, private utilities subjected themselves to tight regulatory oversight of their rates and services, based on their underlying costs, in exchange for the right to enjoy exclusive franchises. The regulated monopoly model electrified most of the country fairly quickly but created inefficiencies and failed to control pollution, while also discouraging innovation.

In the 1990s, Texas, Illinois, Ohio and most mid-Atlantic and Northeast states responded to high monopoly-utility costs and poor investment decisions by restructuring their electric industries. This broke apart the monopoly model by forcing merchant generators and transmission owners to compete in an open wholesale marketplace. The outcomes of these competitive markets determined wholesale electric rates, rather than cost-of-service regulation. Independent third parties known as regional transmission organizations (RTOs) or independent system operators (ISOs) administered these markets. Restructuring limited the monopoly-utility model to distribution services, leaving customers to choose their electricity supplier (also known as retail choice).

Economic theory suggests that competition provides incentives for companies to cut costs, increase efficiency and make prudent investments in resource deployment and technological innovation. Electricity restructuring has realized these benefits. This portends well for the environment, as merchants have greater incentive to reduce costs and risks associated directly (e.g., policy compliance) and indirectly (e.g., fossil fuel savings) with pollution. On the other hand, there may be select cases in which competitive market participants adopt technologies that produce higher emissions if they prove more prudent than alternatives. As such, multiple short-term factors may have countervailing influences on emissions.

Contradictory results in the short term give way to longer-term factors that more consistently align competitive market behavior with emissions reductions. These factors stem from both supply-side and demand-side influences, as well as the ways that politics and regulatory compliance interplay with environmental policy. The value of enhanced innovation and rapid technology adoption under the competitive model holds great promise for transformative emissions reductions, especially for climate-altering emissions. This effect remains difficult to forecast.

Considerable research on the environmental effects of competitive electricity markets, especially air-pollution impacts, began in the early years of restructuring. The environmental effects of restructuring were unclear as of the mid-2000s, but early signs appeared positive. Since then, the literature on this subject has been sparse. Meanwhile, the emissions performance of the electric industry improved radically from 2005-2014 compared to 1996-2005. This suggests conclusions reached in the early literature warrant revisiting.

Changes in U.S. power generation emissions


SOURCE: Data derived from EPA inventories for greenhouse gas emissions and air pollutants

Recent empirical reviews have cast far more favorable light on the environmental prospects of restructuring than those in the mid-2000s. Significant advances in technology, shifts in customer preferences, the shale natural gas revolution and developments and prospects for market-based greenhouse gas emissions have bolstered the environmental outlook for restructuring considerably.

Image by robert_s

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