Most introductory economics textbooks warn students in the first
chapter of several economics fallacies, including the fallacy of composition. A
fallacy of composition occurs when someone claims that something is true for
everyone in a group based on it being true for some part of the group.
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| | Source: Energy Information Agency: 1990 - 2006 Average Price by State by Provider (Form EIA-861) Data for 2007 is for October of 2007, from Energy Information Administration, Form EIA-826, “Monthly Electric Sales and Revenue Report with State Distributions Report,” January, 2008. |
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This fallacy of composition has been used recently to argue that
electricity competition is a failure everywhere because of its failure in
certain markets. Most would agree than the attempts to introduce electricity
competition in some states, such as California and Maryland, have resulted in
higher prices than would have occurred without the regulatory changes. But can
we conclude from that evidence that Michigan’s introduction of electricity
competition has also resulted in higher prices for Michigan customers?
Unfortunately, some are attempting to make that fallacious argument while
ignoring direct evidence that argues otherwise.
The American Public Power Association recently issued a report
entitled "Retail Electric Rates in Deregulated and Regulated States: A Ten Year
Comparison." The promotional material circulated by the group is entitled
"Retail Rates Have Risen Faster in Deregulated States." It concludes:
States that implemented
retail choice electric plans were generally high-cost states, and the hope was
that competition by electric suppliers would result in lower rates … but that
did not happen.
The Michigan Public Service Commission sets up another variation on
this fallacy by ranking states according to electricity rates and identifying
them as "regulated" and "restructured" in its annual "Status of Electric
Competition in Michigan" report, while ignoring the wide differences in electric
restructuring efforts with widely differing results.
As an initial matter, the characterization of state electricity
markets as "deregulated" and "regulated" is misleading from the start, because
all states have maintained substantial regulation of electricity markets. One
could argue California and some other "deregulated" states are more heavily
regulated today than when they were "regulated." It is also notable that the
APPA report somehow defines Ohio and Pennsylvania, two states with
lower-than-average electricity rates, as "regulated" states even though they
have both allowed electricity choice for several years.
The APPA report correctly points out that a major cause of these
increases is that many of the states with electricity restructuring forced
utilities to sell generation assets, so now they are at the mercy of the
wholesale market. That is a major cause of rate increases in those states. But
Michigan’s restructuring did not make the same mistake — Michigan utilities were
not required to divest any generating capacity. In other words, the problem the
report identified is not restructuring per se, but rather that other states
foolishly forced utilities to sell generation assets. The APPA report
misleadingly includes Michigan with states that made that costly error.
Rather than lump Michigan with states that blundered in
implementing their restructuring, a direct assessment is available for measuring
the impact of electricity restructuring on rates in Michigan. In 2000, the year
restructuring was adopted, Michigan rates were the highest in the region and
higher than the national average. By 2003, Michigan rates were below the
national average, demonstrating the fallacy of composition that restructuring
always results in larger rate increases. Meanwhile, rates in Wisconsin were well
below the Michigan rates and the national average in 2000. Wisconsin briefly
experimented with choice, but restored monopoly power to big utilities, and now
the gap between Michigan and Wisconsin rates has completely closed.
Michigan’s
electricity choice program could certainly be improved. More can be done to
level the playing field between the big utilities and new suppliers. But rates
in a competitive market in Michigan, for all its shortcomings, have risen more
slowly than the national average, and attempts to argue otherwise can only be
based on economic fallacies.
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Theodore Bolema, an attorney and
faculty member at the Central Michigan University College of Business
Administration, is an adjunct scholar of the Mackinac Center for Public Policy,
a research and educational institute headquartered in Midland, Mich. Permission to
reprint in whole or in part is hereby granted, provided that the author and the
Center are properly cited.
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