As winter approaches, European governments are stepping in to provide relief on energy bills in the face of imminent increases and astronomical consumer spending. Proponents of an unfettered free market are up in arms over this perceived slight toward the region’s deregulated energy markets that have stood for decades. These claims of a return to overregulation are unfounded, alarmist, and all too similar to false accusations of unnecessary intervention in our deregulated energy markets here in the U.S.
Unbridled free markets have always been problematic; however, they do effectively perform the core function of sending supply/demand price signals to producers and consumers. When excessive risk arises for participants—in other words, when the more problematic behaviors of the free market kick in—governments step in with (hopefully) sensible regulations to assist and correct the unfairness that is inevitable in any real-world market. It’s a hallmark of a mixed economy: Capitalism alongside consumer protections, the market and its check living in relative harmony.
In energy markets, the concept of “marginal prices” means the open market price is set to reflect the cost of dispatching one megawatt of power generation more than the supply needed to meet the grid’s demand. Naturally, this creates an incentive for more assets to be constructed in areas where they can produce at costs below the marginal price for that region, correctly encouraging new construction of energy generation. (There’s much more to be said about how short-term prices incent the inherent long-term investment horizon necessary for building the assets used in power generation. We’ll get into that another time.)
But the actual determination of marginal price is massively complex and subject to change at a moment’s notice. When the marginal cost of energy goes entirely unchecked, it creates a situation that parallels the issues of uninhibited interest rates and onerous terms used in the residential mortgage industry: It’s a deeply complicated subject matter that only a few experts truly understand, so the concept of “fairness” often ends up totally obscured. As such, significant consumer protections are required to maintain reasonable pricing structures. Europe’s move to protect consumers from price spikes is completely understandable in the short term and will likely recede when the crisis is over. Then, the market will be left with positive remnants of protections that smooth consumer price spikes during future energy crises. This is a good thing for the continued health of deregulated energy markets.
A similar situation occurred in the northeastern United States in 2014-15, when the “polar vortex” caused gas and power prices to spike. For consumers, bill shock and economic pain followed. As a result, consumer protection rules were born to shield customers from extreme and unreasonable spending in deregulated energy markets. Since the U.S. allows states (rather than FERC) to regulate this activity, protections have taken form as a patchwork of rules that vary from state to state. Here at Catalyst Power, we abide by these rules and consumer protections as a deregulated energy marketer. They raise the bar on the ways we and our competitors are expected to act when setting prices and contract terms with our customers—again, this is a good thing!
This is all to say that concerns over consumer protections are unnecessary, as well as a bit misguided. One of the problems with an unlimited free market model is that marginal costs aren’t calculated correctly: Carbon-heavy energy sources inflict real costs on the societies around them through environmental and health impacts. Without sensible intervention to establish carbon pricing, these costs aren’t taken into account anywhere. We’re missing our opportunity to establish market prices that accurately reflect the cost of our power sources, which means new energy developments are also being incentivized incorrectly.
The problem isn’t the economic system or its implementation of consumer protections. Every market is working at all times to refine the real-world outcomes of the relationship between supply and demand. The problem, again, is that our calculus is off: The marginal cost of energy isn’t accounting for the cost of carbon emitted during its generation. It’s falsely incentivizing further use of high-carbon power sources by neglecting to capture the full cost of their production on the world around us.
Just as consumers are protected against energy bills that skyrocket in moments of crisis, they should be guarded against the uncontrolled proliferation of power sources that cause real damage to our communities. Let’s fight for carbon pricing in our energy markets rather than against consumer protections that raise the bar for energy suppliers to act morally and openly with their customers.
