The Pitfalls of Deregulation and Competition in Armenia’s Electricity Market

“We learned the hard way that energy is not a commodity like
pork bellies or frozen orange juice but is a public good.”
U.S.  Senator Dianne Feinstein, 2004

In 2019, Armenia decided to introduce competition in the retail electricity market. The implementation of this decision began in February 2022. During the first year, participation was voluntary. However, starting exactly a year later, large electricity buyers, such as the Zangezur Copper-Molybdenum Combine and Veolia Jur company, were required to participate. Starting February 1, 2024, another group of large commercial electricity buyers will be required to purchase electricity from competing sellers instead of the regulated monopoly, the Electric Networks of Armenia, ENA, or HETS in Armenian. At the end of the transitory stage in February 2025, all businesses with more than 1 million KW consumption will be obliged to join the competitive retail market. 

According to the strategy for the development of the energy sector, adopted by the government in 2021, the long-term goal for electricity markets is complete liberalization and competition.

In a perfectly functioning competitive market, efficiency can be improved. Consumers buying a product signal to suppliers to produce that specific product. Meanwhile, profit maximizing competitive firms strive to lower their cost of production, using as few resources as possible and the best available technology.

The problem is that real-world markets don’t perform in ideal conditions. There are many sources for market failures. Companies will try to take advantage of possibilities to manipulate markets and increase their profits, which is their primary goal. They may strive to increase revenues by charging exorbitant prices, potentially harming consumers. Additionally, they may attempt to reduce their costs, potentially resulting in unsafe conditions, for the provisioning of goods and services. This could negatively impact buyers, the environment, employees, communities, and so on.

This article, focusing on the experience of the United States, discusses the introduction of competition in electricity markets in general and argues that introducing competition in the residential electricity market is not desirable. 

Competitive Retail Electricity Markets in the U.S. 

During the 1990s, 14 out of 50 states fully deregulated their retail electricity markets, introducing competition. Five more states adopted a hybrid model, where competition was introduced only for certain customer groups, mainly commercial customers. Arizona and California initially introduced competition in their retail electricity markets but later reversed this decision. This switch returned the pricing of electricity to being set by production costs  plus a regulated profit margin.[1] This is largely due to the competitive electricity market crisis that occurred in California in 2000 and 2001.

Higher Retail Electricity Prices in Competitive Markets

In some U.S. states, residential consumers who opted to switch to a competitive electricity company ended up paying higher prices. Notably, in Connecticut during 2015, residential consumers who left the default regulated electricity company, HETS in the case of Armenia, paid $58 million more for choosing a competitive alternative. [2]

The higher prices that competing electricity companies charge their residential customers can potentially be explained by the following: price discrimination, where the company charges different prices to different customers; product differentiation, where slightly different products are sold, such as electricity generated from green power instead of traditional sources like gas, nuclear, or hydro. 

Other factors include a lack of consumer sophistication, where consumers don’t have the necessary knowledge or information to make optimal choices or fail to shop around for better electricity rates. This could result in them being unable to avoid predatory practices of aggressive, profit-maximizing electricity companies. 

Additionally, a higher cost of production and finally, market power, where the electricity company can charge higher prices than the default company to generate more profit, could also explain the increased costs. 

Re-regulation

In response to these negative outcomes, some of these 14 states moved to re-regulate their electricity markets. For example, Illinois adopted a law in 2019 to regulate the electricity market due to “deceptive marketing practices” by the electricity companies and their prices being higher than those of the default utility company. [3]

Massachusetts

In 1998, state legislators in Massachusetts changed the law, enabling individual consumers to purchase electricity from a competitive market. However, after roughly 25 years of experience with these markets, in 2023, the Governor of Massachusetts and the Mayor of Boston urged lawmakers to abolish them. They accused electricity suppliers in the deregulated market of “lying, cheating and using deceptive sales practices to sell homeowners overpriced electricity.” They argued that the best solution to the problem was to end the competitive, deregulated retail electricity markets. 

The office of the Attorney General of the state of Massachusetts, Andrea Campbell, issued a report, which revealed that retail customers paid $525 million more to electricity suppliers from 2015 to 2022 than they would have paid to the traditional utility company. The competitive retail electricity companies didn’t deny some instances of violations of the law and abusing residential customers, such as aggressive door-to-door sales tactics. Instead, to maintain competition, they were willing to accept that the markets and sellers needed additional regulations and fines to prevent license violations and abuse of residential customers. It is rare for private companies to welcome regulation and fines. 

Vulnerable Residential Electricity Consumers

It is interesting to note that residential consumers in competitive markets, such as Boston and other U.S. cities, may not always have enough knowledge to avoid abusive practices in the competitive retail electricity market. If this is the case, it is reasonable to expect residential retail electricity buyers in Yerevan, Gyumri, or Goris could also be vulnerable to potential abuses by competitive electricity sellers. 

Large commercial electricity customers can negotiate prices and sign long-term contracts, reaping benefits from these competitive markets. However, residential customers often lack this capability, making them potentially susceptible to market manipulations by competitive retail companies. 

California

In 1996, California started deregulation of its energy markets, including the electricity sector, allowing market forces to dictate electricity prices. Deregulation affected production, wholesale, and retail markets. Initially, the market functioned well for the first two years. However, later on, it suffered from blackouts and steep price increases.

One of the causes of the significant increase in prices was the abuse and manipulation of the market by competing wholesale companies, such as Enron and El Paso Electric Company. The state of California sued El Paso for manipulating the market and artificially inflating electricity prices. In February 2003, El Paso, implicitly accepting its guilt, agreed to settle the court case and paid a fine of $15.5 million to California. Eventually, in the early 2000s, California re-regulated its electricity market. Since then, the California Public Utilities Commission, the state’s regulatory agency, has been setting electricity prices. 

In June 2004, the late California Senator, Dianne Feinstein, delivered a speech on the U.S. Senate floor. She strongly criticized the deregulation of the electricity market and quoted shocking conversations from Enron energy company employees. These conversations indicated that the company’s primary concern was to maximize profits, even at the expense of Californians’ wellbeing. 

In conclusion, Senator Feinstein said: “California was the first to experiment with de-regulation. Sadly, the 1996 deregulation was a total failure for consumers in California. We learned the hard way that energy is not a commodity like pork bellies or frozen orange juice, but is a public good. California needs to put in place a new framework to regulate the energy market in order to ensure reliability and reasonable prices for consumers. In other words, consumers should be protected from price spikes, market manipulation, and blackouts.”

General Comments and Conclusion

Indeed, Armenia’s conditions are drastically different from those in the U.S. or other countries. Thus, comparing the introduction of competition in Armenia’s electricity retail sector to the United States may not provide an accurate picture. However, regardless of the country, there is one constant: the drive of private competitive companies to maximize profit. This often leads to attempts at manipulating markets, seeking opportunities to raise prices, reduce costs, and increase profits, even at the expense of consumers and the public. Therefore, one does not need specific knowledge of Armenia’s electricity sector to predict that upon introducing competition, private companies may manipulate the market. They could potentially raise prices, especially for residential consumers, and cut costs, potentially endangering consumers’ safety. 

During the initial years of introducing competition, there might be numerous sellers resulting in positive outcomes such as reduced prices for large businesses. However, over time, there is a reasonable chance of consolidation where firms merge or acquire each other, leading to the emergence of a few large sellers. These large, profit-maximizing entities could potentially learn how to manipulate the markets, increase prices, cut costs, and create harmful conditions for consumers, especially residential customers. 

Two possible ways to address the concerns and costs of introducing competition in Armenia’s electricity sector are: first, halt the process of introducing competition and instead focus on improving the existing system; second, to introduce competition only in the market for large commercial businesses, while exempting small businesses and residential consumers who are vulnerable to the manipulations of private companies. 

Armenia’s two regulatory bodies, the Competition Protection Commission and the Public Services Regulatory Commission, should allocate additional resources, funding, and staff to closely supervise, broadly regulate, and prevent potential abuses from competing, profit-maximizing, private electricity companies that might try to raise prices or dangerously cut costs to maximize profits. 

Footnotes:

[1] Competition was adopted in the retail electricity market in three phases: first the decision to adopt competition, second the introduction of competition which is the transition period, and finally full implementation of the competitive markets. For example, in Texas the decision to introduce competition in the retail electricity market was adopted in 1999. The introduction of the competition started in 2002, and the transition to a fully competitive market was completed by 2007. All states had unique timelines of introducing competition to the retail electricity market.
[2] From 2014 to 2016, low-income customers in New York paid $97 million more because they switched and purchased electricity from a competing company. In Illinois, for over four years, similar customers paid $600 million more by switching to a competing company. In Pennsylvania, between 2012 and 2015 about 55% of low-income customers were paying higher electricity prices than the prices of the default retail electricity company.
[3] In 2016, New York regulators issued an order prohibiting competing companies from selling electricity to low-income customers, unless they guarantee a price that is lower than the price offered by the default utility company. In 2019, some policymakers in the states of Connecticut and Massachusetts started to advocate for the end of competitive residential electricity markets. In 2019 Pennsylvania’s utility regulatory commission proposed a policy which prevents customers from buying electricity from competing electricity companies, unless their prices are below the default regulated electricity company price. 

References:

Baldwin, Susan M., Timothy E. Howington. 2023. “Consumers Continue to Lose Big: the 2023 Update to An Analysis of the Individual Residential Electric Supply Market in Massachusetts.” Report by the Massachusetts Attorney General’s Office, May. https://www.mass.gov/doc/consumers-continue-to-lose-big-the-2023-update-to-an-analysis-of-the-individual-residential-electric-supply-market-in-massachusetts/download
Feinstein, Dianne. 2004. “Manipulation of the California Energy Market.” Iowa State University, Archives of Women’s Political Communication, (June 7). https://awpc.cattcenter.iastate.edu/2017/03/21/manipulation-of-the-california-energy-market-june-7-2004/
Frontline. 2001, “Blackout, The California Crisis, Timeline.” https://www.pbs.org/wgbh/pages/frontline/shows/blackout/california/timeline.html
Rose, Kenneth, Brittany Tarufelli, and Gregory Upton. 2022. “Retail Electricity Market Restructuring and Retail Rates.” United States Association for Energy Economics – Working Paper. No. 20-462 19 August.
Mohl, Bruce, 2023. “The dark underbelly of retail electricity competition: Giving consumers a choice hasn’t worked out very well.” CommonWealth Beacon, (June 6). https://commonwealthbeacon.org/energy/the-dark-underbelly-of-retail-electricity-competition/
Simeone, Christina E., Ian Lange, and Ben Gilbert. 2023. “Pass-through in residential retail electricity competition: Evidence from Pennsylvania.” Utilities Policy 80: 101479, (February): 1-11.
ՀԱՅԱՍՏԱՆԻ ՀԱՆՐԱՊԵՏՈՒԹՅԱՆ ՀԱՆՐԱՅԻՆ ԾԱՌԱՅՈՒԹՅՈՒՆՆԵՐԸ ԿԱՐԳԱՎՈՐՈՂ ՀԱՆՁՆԱԺՈՂՈՎ․2019․ “ԱՌԵՎՏՐԱՅԻՆ ԿԱՆՈՆՆԵՐ ՀԱՅԱՍՏԱՆԻ ՀԱՆՐԱՊԵՏՈՒԹՅԱՆ ԷԼԵԿՏՐԱԷՆԵՐԳԵՏԻԿԱԿԱՆ ՄԱՆՐԱԾԱԽ ՇՈՒԿԱՅԻ”. Դեկտեմբեր 25․ Յօդուած 107 եւ 108․ https://www.arlis.am/DocumentView.aspx?DocID=187235
ՀԱՅԱՍՏԱՆԻ ՀԱՆՐԱՊԵՏՈՒԹՅԱՆ ԿԱՌԱՎԱՐՈՒԹՅՈՒՆ. 2021. “ՀԱՅԱՍՏԱՆԻ ՀԱՆՐԱՊԵՏՈՒԹՅԱՆ ԷՆԵՐԳԵՏԻԿԱՅԻ ԲՆԱԳԱՎԱՌԻ ԶԱՐԳԱՑՄԱՆ ՌԱԶՄԱՎԱՐԱԿԱՆ ԾՐԱԳԻՐ, ՄԻՆՉԵՎ 2040 ԹՎԱԿԱՆԸ.” Յունուար․ https://www.arlis.am/DocumentView.aspx?DocID=184421

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