An Empirical Analysis of a Dominant Firm's Market Power in a Restructured Electricity Market, A Case Study of Colorado

Abstract

Abstract : This study analyzes the horizontal market power of a dominant generation firm in a restructured electricity market. Electric restructuring is a form of deregulation where competition occurs in the generation of electricity. Horizontal market power is the ability of a firm to profitably set market price above marginal cost due to the firm's ownership of a large share of the available generation. In the U.S., there are 32 states where one firm owns at least 40% of the existing generation. As these states consider electric restructuring, analysis of the market power that a dominant firm can exercise could become increasingly important. This type of analysis has been largely ignored in published economic analyses of electric restructuring. Many of the factors that determine a firm's ability to exercise market power, such as the number and capacity of transmission paths, the number of firms, and the shape of the load curve, are specific to a particular area. Colorado serves as a case study for this analysis. The approach implemented here is to compute a competitive market equilibrium using a simulation model, and then apply a dominant firm's markup when the supply of the competitive fringe is constrained. The model shows that the incumbent regulated monopoly, Public Service Company of Colorado (PSCo), has the potential to set prices above marginal cost much of the year. The price elasticity of demand, which varies by customer class, also greatly affects the amount of markup PSCo could apply. The study investigates. three scenarios under which PSCo's market power might be mitigated. Relaxing transmission constraints within the Rocky Mountain Power Area has almost no effect on PSCo's market power. Entry by 1,000 MW of fringe generation reduces the amount of the year over which a markup could be applied from the base case estimate of 93% to 72%. If PSCo agrees to divest 50% of its generation, markups can be applied only 37% of the year.