There is probably no issue in Texas today more confusing and controversial than that of electric power. Why are prices higher here than in other places? Do we need more capacity? If so, what kind? Who’s buying whom? Is the competitive market working? Where do we go from here?
I have been studying these issues for about 25 years and can hopefully shed a little light on the subject. First of all, competition is working! Consumers have multiple choices of providers, product innovations have occurred, and prices are lower than they would have been under regulation. Senate Bill 7 (SB7), also known as the Texas Electric Choice Act, has resulted in significant benefits to the Texas economy. In fact, the gains have escalated each year and now total almost $14 billion in annual spending and more than 66,000 permanent jobs.
That is not to say that prices are low. They are not. The reason they are high, however, is because Texas gets the majority of its power from natural gas sources (while the national average is only 17%). Over the past few years, gas prices have risen much more rapidly than in the 1990s, and electricity costs have gone up accordingly. The recovery of fuel charges occurs in a regulated market as well, and studies by the Public Utility Commission of Texas (PUC) indicate that prices are lower than they would have been in the absence of competition. Now that the transition period is over and all firms can fully compete on price, the savings will only escalate.
We definitely need new generation capacity to meet the growing power requirements of our economy. We want to avoid shortages in the next few years, and, given the state’s anticipated population and economic growth, our long-term requirements are enormous. Moreover, a shortfall in electric power could cause the loss of hundreds of thousands of jobs. Based on a reasonable scenario as to the size of the shortfall that might plausibly occur in the absence of new capacity, Texas stands to lose more than $28 billion in annual output and more than 362,500 jobs.
At the same time, we must become less dependent on gas-fired plants to reduce costs (the folks in the industry call this concept “fuel diversity”). We must develop renewable energy resources, coal-fired plants (using the best technologies available for emission reductions), and nuclear facilities over an extended time horizon. We must also embrace new technologies as they become available and pursue conservation efforts. A stable market climate and a competitive market will assure that providers respond in an efficient and cost-effective manner.
In the midst of all of these issues, an investment group revealed plans to purchase TXU (the largest electric company in the state). In the process, the new group announced lower rates to residential consumers, curtailment of portions of a plan to build coal-fired plants, and efforts to put Texas at the forefront of emerging energy technologies. These investors also offered current TXU shareholders a substantial profit over the market price of their stock.
Transactions of this nature are the norm in today’s vast global economy. Hardly a day goes by without some major deal being made. The investors and all of the entities who will be involved in its financing completed extensive due diligence before making the commitment. The fact that they were willing to go forward is a testament to confidence in the future of the Texas economy and the opportunities it provides.
There is every reason to believe that this acquisition will be beneficial to Texas. In the immediate future, the announced rate decreases alone will stimulate more than $600 million in annual spending and 3,500 permanent jobs. Moreover, it is likely that competitors will respond and bring even additional savings. After all, that is how markets work.
Over the longer-term the “new TXU” can only prosper in the wholesale power market by providing capacity at competitive prices. It can only be successful in the retail market by responding to customer needs in an affordable manner. The greatest opportunities lie in being efficient and innovative and finding ways to offer better services and lower costs than others. In the portion of the business that remains regulated (the “wires” that connect power sources to users), rates will be set by state regulators.
Where do we go from here? Our interests are best served by maintaining a stable framework and allowing competition to flourish. This includes not changing the rules under which business decisions have already been made and not creating barriers to buying and selling assets or other routine market transactions. Some of the legislative proposals which have been set forth in recent weeks, ranging from forcing divestitures on the one hand to blocking voluntary sales on the other, would add enormous uncertainty and risk to the Texas market. The result would be reduced incentives to invest, a less efficient market, adverse outcomes for consumers, and the very real danger of not being able to meet our capacity needs going forward. My firm estimated that if all of the requirements were implemented, the annual losses in business activity would be at least $18 billion in annual spending and more than 99,000 permanent jobs.
Competition brought dramatic reductions in telecommunications costs, transportation rates, and other sectors over the past several years. Beyond that, it is the foundation for the ongoing economic success that the US has enjoyed for many years. It is the right approach for electric power in Texas as well.