Electricity 101

Electricity must be generated and consumed at nearly the same time. To maintain a reliable and secure electricity transmission grid, an intricate physical balance must constantly be maintained between the amount of power that is generated and the amount that is consumed since storage of electricity - like other commodities such as airline seats and hotel rooms - is not a practical reality at this time. The conveyance of electricity from a generating station to end-use customers relies on complex transmission and distribution networks. Transmission lines are generally of a higher voltage to carry more power across longer distances. They can be thought of as a highway system for electricity. As a matter of fact, transmission line towers often track along side actual highways. Distribution lines are those often seen above or below city streets, and carry power to individual consumers. Both sets of networks are critical to delivery of power to consumers.

The continental United States is divided into three almost entirely separate electricity "interconnections." These interconnections function on different frequencies making transfers of power between them difficult. The Eastern Interconnection generally includes everything east of the Rocky Mountains. The Western Interconnection includes everything from the inter-mountain states to the Pacific. The Electric Reliability Council of Texas (ERCOT) includes most of Texas. Within these three interconnections differing regulatory and market structures exist (discussed further below). The physics of generating electricity, however, remains the same in all regions.

Competition in electricity markets - as with competitive market structures for other commodities - creates incentives for efficiency and innovation while providing the most affordable prices consistent with long-term investments. From 1995-2004, significant gains in efficiency, attributable to competitive markets, were seen in coal and nuclear plants in the eastern United States. Competition also led to the innovation and increased deployment of new gas-fired generation technologies providing significant new efficiencies and environmental controls. These efficiency gains translate to reduced fuel use, lower costs, lower emissions and fewer power plants needed to meet demand.

Competitive markets also transfer much of the risk of a costly and long-term power plant investment from the captive rate-payers of a vertically-integrated utility to competitive suppliers. In states with ISO/RTOs and in regions that hold independently overseen competitive bidding for generation resources, the days when a rate-based plant was built 200 or 300 percent or more over the initial cost projections, with the excess costs footed by captive ratepayers, are over so long as robust competitive electricity markets discipline plant development costs.

The decision to move to increased competition in electricity markets was not made by Congress and the states in a vacuum. It was no accident that competitive electricity markets were developed after electricity rates skyrocketed in the 1970s and 1980s due to a number of factors, including large cost over-runs in building traditional utility-owned capital intensive baseload power plants. As the nation faces a situation again where the need for new baseload plants is looming, it is important to remember the past to avoid repeating costly mistakes.

Today, rates are rising everywhere because of significant input cost increases such as for fuel, labor, and construction materials, as well as regulatory uncertainty. It is important to note, however, that these costs are rising in all regions of the country regardless of market structure. In fact, states that have chosen to further pursue competitive markets have seen a comparative decrease in their power costs when compared to other states.

The path to competitive power markets has been one affirmed numerous times by both state and federal governments. As stated by the Federal Energy Regulatory Commission in a June 5, 2006 press release, "The Energy Policy Act of 2005 represents the third major federal law enacted in the past 30 years to promote wholesale competition... These laws promoted competition by lowering barriers to entry and increasing transmission access." While refinements are necessary as these markets evolve and mature, competition is bringing real benefits to consumers across the country.

The retail side of electricity involves the final sale of power from an electricity provider to an end-use consumer. These sales range from the service for a large manufacturing facility to small businesses and to individual households.

In every state, regardless of whether they allow retail competition or not, supply for end-use customers is obtained either through the open, competitive wholesale market, from utility-owned rate-based (cost-plus) generation, or some combination of the two.

In states where full retail competition (often called "retail choice") is provided, customers may choose between their incumbent utility supplier and an array of competitive suppliers, as opposed to being a captive customer to a single provider. Competitive retail suppliers provide a variety of service plans that give consumers and businesses flexibility in their energy purchases. They may also offer services to hedge against price fluctuations, more choices for alternative energy resources, and newer energy efficiency projects, among others. These opportunities allow consumers and businesses to choose the services that best meet their needs.

In most states providing retail competition, customers who don't choose a supplier are served by their incumbent utility through a service called "provider of last resort" (POLR - also sometimes referred to as standard offer service, SOS). The POLR or SOS supplier will then secure its needed power on the wholesale market through a competitive bid process. Retail markets are regulated at the state level. State regulatory commissions are most often called the state "Public Utility Commission" or "Public Service Commission." In every state, these commissions regulate a distribution utility's costs and rate of return for use and upkeep of the distribution system.

In retail choice states, the commissions approve any alternative competitive supplier before they can serve customers. The commissions also oversee a POLR or SOS utility's power procurement, and approve the results of the process if the process was fair.

In states not offering retail competition, the commissions regulate the expenditures of the monopoly utilities by allowing a rate of return on most costs. In these states, utilities are vertically-integrated and may construct, own and operate power plants - at the ratepayers' expense. To curb inefficiencies that occur under any monopoly system, many states with vertically-integrated utilities require utility power resources to be acquired through a competitive bid process - similar to how government contracts are filled.