Why Regulate the Electricity Industry?

The electric industry must be regulated due to the existence of monopolies. A monopoly is a business situation in which a corporation-through market power or a government-granted franchise-is either the only company conducting business in a given industry or the sole source of a specific commodity or service. A "natural monopoly" occurs in an industry where characteristics of the industry tend to result in monopolies evolving. a good example is the electric utility industry, where a proportionately large capital investment is required to produce a single unit of output and where large operators can provide goods or services at a lower average cost than can small operators. Both of these conditions occurred in the electric industry in the early 1900's. Thus, what began as a competitive industry quickly evolved into a market with few competitors. While the concept of monopoly utilities was ultimately deemed beneficial to the public, the resulting extreme market power created the potential for excessive profits and unfair favoritism to certain customers. This in turn created the need for government oversight of electric services.

The relationship between regulators and utilities is often described as the "regulatory compact." This means that in return for government regulators granting exclusive service territories and setting rates in a manner that provides an opportunity for a reasonable return on investment, investor-owned public utilities submit their operations to full regulation. In this section we will discuss the history of regulation and then look at how current market restructuring requires modification of the traditional regulatory compact for certain electric industry sectors.

The Goals of Regulators
Regulators generally seek to:

*Minimize costs to consumers and provide relatively stable rates.
*Maintain a fair playing field by not allowing undue discrimination
*Ensure reliable service
*Maximize the efficiency of resource use
*Minimize negative environmental impacts
*Ensure safety
*Encourage innovation in services to customers

Any given regulatory body may choose to focus on some or all of these goals. It should be remembered that in the end regulators are political in nature, and their attention to specific goals is driven by the political realities at any given period in time.

Who Regulates What?
Regulation of the electric marketplace is split between federal, state and local jurisdictions. For vertically-integrated utilities, services including generation, transmission, and distribution on behalf of the utilities' own customers are exempted from federal jurisdiction. These activities are regulated by:

*The state commissions for IOUs.
*The local government entity for municipal utilities in most states (13 states regulate some aspects of municipal utilities including rates).
*The co-op board for rural electric co-ops in most states (19 states regulate some aspects of co-ops including rates).

In states where restructuring has broken up the vertical utility, the IOU's utility distribution function (the utility distribution company, or UDC) remains under the jurisdiction of the state commissions. In these states, most sales of electricity to end users by marketers are only lightly regulated, but often the states create minimal set of rules that the marketers must abide by.

Once utilities begin selling power to other parties besides their own end-use customers, federal jurisdiction is applicable for those specific transactions (although state jurisdiction continues to apply to vertically-integrated activities associated with service to the utilities' own customers). Thus the FERC regulates power sales between utilities and other wholesale entities (other utilities and marketers) and transmission services not on behalf of a utility's end-use customers (commonly called wheeling services). This jurisdiction applies not only to wholesales sales and transmission lines not operated as part of a vertical utility. So merchant power plants and transcos are subject to FERC, not state jurisdiction. This applies even to utility companies that own generation in subsidiaries separate from the UDC and sell the output to their own UDC. In short, if the service is not part of unified vertical utility, it is subject to FERC jurisdiction. This also applies to ISOs, even if they operate only in one state (with the exception of Texas).

Power plant siting is subject to state jurisdiction, while most power plant environmental regulations are federally mandated. Many environmental regulations are enforced by the Environmental Protection Agency (EPA) while others are enforced by state agencies. Operation of nuclear power plants is federally regulated by the Nuclear Regulatory Commission.