Severin Borenstein and James Bushnell
Revised May 2015
Prior to the 1990s, most electricity customers in the U.S. were served by regulated, vertically-integrated, monopoly utilities that handled electricity generation, transmission, local distribution and billing/collections. Regulators set retail electricity prices to allow the utility to recover its prudently incurred costs, a process known as cost-of-service regulation. During the 1990s, this model was dis- rupted in many states by “electricity restructuring,” a term used to describe legal changes that allowed both non-utility generators to sell electricity to utilities – displacing the utility generation func- tion – and/or “retail service providers” to buy electricity from gen- erators and sell to end-use customers – displacing the utility pro- curement and billing functions. We review the original economic arguments for electricity restructuring, the potential winners and losers from these changes, and what has actually happened in the subsequent years. We argue that the greatest political motivation for restructuring was rent shifting, not efficiency improvements, and that this explanation is supported by observed waxing and wan- ing of political enthusiasm for electricity reform. While electricity restructuring has brought significant efficiency improvements in generation, it has generally been viewed as a disappointment be- cause the price-reduction promises made by some advocates were based on politically-unsustainable rent transfers. In reality, the electricity rate changes since restructuring have been driven more by exogenous factors – such as generation technology advances and natural gas price fluctuations – than by the effects of restructuring. We argue that a similar dynamic underpins the current political momentum behind distributed generation (primarily rooftop solar PV) which remains costly from a societal viewpoint, but privately economic due to the rent transfers it enables.
The U.S. Electricity Industry after 20 Years of Restructuring