Tomorrow, Tuesday, October 8, the Public Utility Commission of Texas (PUC) will hold a workshop examining issues related to maintaining reliability in the Texas electricity market. The Foundation’s Center for Economic Freedom has steadily maintained that free markets are the best way to achieve this.
For many years, outside opposition to free markets came mainly from left-leaning groups seeking increased government intervention through higher levels of regulation. More recently, the opposition to free markets has come mainly from corporate interests seeking increased government intervention through higher levels of subsidies. Which brings us to the intervention du jour: capacity markets and payments. The Foundation has released two papers in the last week examining capacity markets and if they would work in Texas.
Two weeks ago we released, A Texas Capacity Market: The Push for Subsidies, an Energy Perspective by Kathleen Hunker, policy analyst with the Foundation’s Center for Economic Freedom, examining the potential shift from Texas’ energy-only electricity market into a capacity market. Kathleen explained the problems with the proposed move: “Capacity markets are a redistribution scheme that wastes billions of dollars through corporate subsidies. They offer Texas nothing that it couldn’t get from an energy-only market at a cheaper, more efficient price.”
Kathleen goes on to point out that, “Capacity markets rely on taxes, subsidies, and penalties to recreate the incentives naturally found in an energy-only market. Past experience shows that capacity markets, at best, have a threadbare track record at boosting energy investment. And as recent events on the East Coast have shown, neither will they fulfill the promise of increased reliability that some are touting.”
Then last week we released another Energy Perspective, Does Competitive Electricity Require Capacity Markets? The Texas Experience: A Summary. This paper, authored by economists Andrew N. Kleit and Robert J. Michaels, senior fellows at the Foundation’s Center for Economic Freedom, examines whether reliability concerns justify the introduction of a capacity market into Texas’ electricity market. It is a summary of an earlier study published in February.
“Our examination of ERCOT’s history and operation brings a conclusion that the costs of instituting capacity markets in its territory will almost surely exceed any benefits they might bring,” said Dr. Michaels, professor of economics at California State University, Fullerton. “Shifting to a capacity market is unnecessary and would in reality be a source of inefficiency and a barrier to competition that would likely increase the cost of electricity for consumers.
Dr. Kleit, professor of energy and environmental economics at Pennsylvania State University, added, “We find the economic theory behind capacity markets to be deeply flawed, both in general and when applied to ERCOT. Many of its arguments depend on oversimplified assumptions that are at variance with reality, particularly those that are necessary to produce the ‘missing money’ phenomenon. Other possible market failures including the inefficiencies of nonprice rationing during shortages are becoming less relevant as markets develop, more users see prices based on marginal cost, and demand management becomes more widespread. The theoretical case for capacity markets is weak at best.”
Markets work because they represent the collective wisdom of millions or even billions of market participants garnered through billions or trillions of decisions. Government intervention never works as well because it substitutes the opinions of a few policymakers, regulators, and special interests for the consumers and producers in the marketplace. Yet too often the special interests win—often because they are able to build a winning narrative.
Our series of papers on the electricity market is designed to tell the story of the success of Texas’ world-class electricity market—and the problems of government intervention—through an examination of the facts. The facts show that, despite claims to the contrary, the Texas electricity market is reliable and has adequate supplies well into the future. The reliability of the current market will be the subject of our next paper. The following paper will debunk the claim that a capacity market would provide greater reliability that Texas’ current energy-only market.
I’m writing this note while attending a conference on the Texas electricity market. As it concludes, the one thing that really stood out for me here is that the people involved in this market are innovating constantly, seeking to overcome any challenges that get in their way. There is no need to radically increase government intervention in the market here. We just need to let competition work.