The Dynamics of Market Power with Deregulated Electricity Generation Supplies

Deregulated wholesale markets for bulk electricity supplies are likely to deviate from the perfectly competitive ideal in many areas where transmission losses, costs and capacity constraints isolate customers from the effective reach of many generators and limit the number of competitors. In those regions where a few suppliers or marketing agents dominate the market, prices may rise wellabove the comptitive ideal of marginal cost. Furthermore, if all customers do not shift instantaneously to the lowest-priced supplier, perhaps because of inadequate information about the reliability of alternative generators and/or additional investments required to switch suppliers, then depending upon the duration of those lags, the optimal pricing policy of the existing dominant generators may be to ignore the competition for an appreciable period of time. Using previously developed models of dynamic oligopoly pricing, estimates are provided of how rapidly and how far bulk power supply prices might deviate from compet i t ive levels after the deregulation of those markets, depending upon the number of potential competitors serving a particular region and their individual market shares. These models have been calibrated and applied previously, ex-post, to the introduction of competition in long distance telephone service the United States, where they “predict” AT&T dynamic price behavior accurately, and they suggest that similar substantial 1060-3425/98 $ lags may occur in the emergence of intensive price competition in some electricity markets.