PWP-064 Diagnosing Market Power in California’s Deregulated Wholesale Electricity Market

E®ective competition in wholesale electricity markets is a necessary feature of a successful electricity supply industry restructuring. We examine the degree of competition in the California wholesale electricity market during the period June 1998 to September 1999 by comparing the market prices with estimates of the prices that would have resulted if owners of instate fossil fuel generating facilities behaved as price takers. We ̄nd that there were signi ̄cant departures from competitive pricing and that these departures are most pronounced during the highest demand periods, which tend to occur during the months of July through September. Through most of the winter and spring of 1999 there was little evidence of the exercise of market power. We ̄nd a signi ̄cantly lower amount of market power exercised during summer 1999 than for the same months in summer 1998. Overall, the exercise of market power raised the cost of power purchases by about 16% above the competitive level. Following the presentation of our methodology for computing the counterfactual price-taking market price, we describe why our calculation represents a lower bound on the extent of market power and why the observed market prices cannot be attributed to competitive peak-load pricing. For helpful discussions and comments, we thank Carl Blumstein, Roger Bohn, Peter Cramton, Rob Gramlich, Paul Joskow, Alvin Klevorick, Christopher Knittel, Patrick McGuire, Catherine Wolfram, participants in the Fourth Annual POWER Research Conference on Electricity Restructuring, and seminar participants at the Department of Justice and the NBER Summer Institute. Jun Ishii, Steve Puller, and Marshall Yan provided excellent research assistance. ¤ Haas School of Business, University of California, Berkeley, CA 94720-1900, University of California Energy Institute, and NBER. email: [email protected]. ¤¤ University of California Energy Institute, 2539 Channing Way, Berkeley, CA 94720-5180. email: [email protected]. ¤¤¤ Department of Economics, Stanford University, Stanford, CA 94305-6072, and NBER. email: [email protected].