The Future of Retail Electricity Competition in Pennsylvania

Of the thirteen states plus the District of Columbia that allow all retail customers to choose their supplier of electricity, Pennsylvania has one of the most active markets. The number of customers purchasing electricity from a supplier¹ other than their incumbent utility (commonly referred to as "shopping customers") began to rise when caps on the generation charges of utilities expired in most of Pennsylvania in 2010-2011. Currently, 36 percent of customers are purchasing from a competitive supplier and these customers consume 72 percent of the electric load in the Commonwealth.² A prominent report ranks the success of Pennsylvania's program as second only to that of Texas.³

Because retail electricity competition requires coordination between utilities and competitive suppliers, the market is subject to oversight by the Pennsylvania Public Utility Commission (PUC). In recent years, the PUC has taken actions to encourage customers to leave the regulated "default service" that utilities are required to offer by state law - a service they provide at cost - and to sign up with competitive suppliers. The PUC completed an investigation of the retail electricity market in February 2013 and established numerous policies intended to spur greater customer migration to competitive suppliers. At about the same time, discussions began in the General Assembly regarding legislation that would have transformed default service into a stop-gap service provided by competitive suppliers.

In January 2014, however, a period of extremely cold weather known as the "polar vortex" set off a chain of events that caused wholesale electricity prices to soar, and these high prices were passed along to shopping customers who were on variable rate plans offered by competitive suppliers. The PUC and the Attorney General responded to the resulting controversy with policy changes and enforcement actions against some suppliers, but as of the date of this writing shopping levels are down from their peak in early 2014. In addition, the legislature is no longer considering changes to the current default service model.

These events raise questions about retail electricity competition in Pennsylvania. What are the goals of competition? Is the program achieving those goals? What policies should guide development of the retail market in the future? 

Retail Competition from 1996 to 2011

To understand the current status of retail competition in Pennsylvania, it helps to have some knowledge of its past. Following passage of the Electric Competition Act in 1996, Pennsylvania had a lengthy transition period during which electric utilities collected stranded generation costs and the utilities' generation charges on customers' bills were capped. The length of the transition period varied by utility, but lasted until 2009-2011 in most of the Commonwealth. During this period, little shopping occurred except in those limited areas where the caps had expired, and over time the amounts that customers paid for supplies of electricity departed more and more from prevailing market prices.

By 2006-07, with the expiration of the rate caps looming in most of the State, legislators grew concerned that customers might see steep increases in their electric bills when the caps expired. This had already occurred in Maryland, Delaware, and in the service territory of a small utility in Pennsylvania, leading to rate shock and a political backlash. 

In response, the legislature passed Act 129 of 2008. This law amended the Competition Act to require electric utilities to meet energy efficiency targets and to file plans to provide advanced meters to all customers. It also replaced language in the Competition Act requiring utilities to procure energy for non-shopping customers "at prevailing market prices" with a detailed set of regulatory requirements. Utilities were required to use competitive procurement tools to purchase a "prudent mix" of short-term, medium-term, and long-term contracts with the goals of providing price stability at the "least cost to customers over time." Act 129 represented a step back toward regulation of retail sales of electricity in Pennsylvania, in contrast to the emphasis on market forces in the original Competition Act. Thus, the current legislative policy toward retail electricity sales in Pennsylvania is a "hybrid" approach that relies on both markets and regulation. 

As it turned out, the onset of the recession in 2008 depressed prices in wholesale electricity markets, and as a result most customers did not experience dramatic increases in their bills when the rate caps expired. The expiration of the rate caps did, however, lead to a rise in the number of customers purchasing from competitive suppliers. 

The Retail Market Investigation

At the time the PUC initiated this Investigation in 2011, over 20 percent of customers were shopping, and shopping levels were on the rise due to expiration of the rate caps. But despite this recent growth, the PUC concluded a few months into the Investigation that the market was "lagging behind expectations" and that new policies were needed to bring about the "robust retail market envisioned by the General Assembly" when it passed the Competition Act in 1996. The remainder of the Investigation focused on developing new policies that the PUC could implement under its own authority, and also developing policy recommendations to submit to the legislature. 

The PUC issued orders establishing new policies intended to stimulate shopping. These policies included utility mailings to customers encouraging them to shop; creation of a "standard offer" program under which participating suppliers would offer guaranteed savings relative to default service prices for a defined period; a requirement that utilities provide additional space on their bills for suppliers; a requirement that utilities file plans to allow "instant connects" for new customers to suppliers and "seamless moves" for moving customers; and announcement of a future statewide consumer education campaign.⁴ These requirements imposed additional costs on utilities, including in some cases millions of dollars for changes to information and billing systems. Recovery of these costs was handled on an ad hoc basis for each policy, with some costs recoverable currently and some deferred for consideration of recovery in rate cases. 

In its final order issued in February 2013, the Commission recommended that the legislature approve quarterly procurement for default service in place of the "prudent mix" of contract lengths required by Act 129. This policy was intended to help competitive suppliers obtain customers by linking default service more closely to fluctuating wholesale market conditions. The PUC's quarterly procurement recommendation did not attract legislative support; however, a legislator did introduce a bill to remove utilities from the default supplier role and make it a stop-gap service provided by competitive suppliers, and discussion on this legislation continued through the remainder of 2013.

The 'Polar Vortex' of January 2014

In retrospect, a number of factors may have contributed to complacency in wholesale and retail electricity markets heading into the winter of 2013-2014. Beginning in roughly 2009, natural gas production from the Marcellus Shale region in Pennsylvania boosted energy supplies and combined with lingering influence from the recession to produce low wholesale natural gas prices. These new gas supplies also lowered wholesale electricity prices, which are heavily influenced by the price of gas. The rosy outlook for supplies and prices may have led some to believe that volatility in natural gas and electricity prices was a thing of the past.

These illusions were shattered in January 2014. Extremely cold weather triggered a cascading series of events that resulted in rate shock for customers on variable rate plans offered by competitive suppliers and a step backward for the retail electricity market. As temperatures plummeted, consumer demand for natural gas and electricity soared, putting pressure on gas and electricity infrastructure. The strain on gas pipeline infrastructure was acute in the northeast section of the U.S., including the eastern half of Pennsylvania. In addition, some electric generating plants experienced unplanned outages due in part to the cold temperatures.

These conditions caused wholesale electricity prices in the PJM market to spike upward. The wholesale prices, in turn, were passed along to consumers on variable rate plans offered by some competitive suppliers. Customers on these plans, who did not know the price of electricity supplies at the time they were consuming them, received bills for January 2014 that were often two or more times what they had been the previous month. This resulted in a flood of complaints to the PUC and the Attorney General's office by customers claiming that the charges were unreasonable, that they had been misled about how they would be charged, and in some cases that they had been "slammed" - switched to a supplier without their permission. 

State government responded to the controversy. Attorneys for the PUC, Office of Consumer Advocate, and Attorney General took action against some suppliers for inadequate disclosure and other infractions. Some suppliers provided rebates to customers and paid fines. The PUC also issued two sets of rules requiring more detailed disclosure of contract terms by suppliers, and requiring electric utilities to accelerate the process for switching customers to a new supplier so that the switch could be completed in three business days. In addition, the PUC changed its shopping website to more clearly differentiate between variable and fixed rate offers. Finally, legislation was introduced in the General Assembly to implement policies such as banning or placing monthly limits on variable rates, but these bills did not attain passage.

The polar vortex affected the retail market, and also the policy and political environment surrounding it. At the time of this writing, shopping levels are down about six percent from their peak in early 2014, reflecting the withdrawal of a major supplier and perhaps increased wariness on the part of customers. In addition, the Senator who had introduced legislation to transform default service into a short-term product provided by competitive suppliers withdrew his support for the idea at the height of the polar vortex controversy, and instead advocated stronger consumer protections such as placing restrictions on variable rates.

Is Retail Competition Fulfilling Statutory Goals in Pennsylvania?

In its retail market investigation, the PUC concluded that retail electricity competition was not meeting the goals of the Competition Act because most customers remained on the default supply service offered by electric utilities. This conclusion reflected the PUC's vision of the Competition Act it wanted, not the one it had.

The purpose of the Competition Act was to end the utility monopoly on generating and supplying electricity and to give customers the choice of purchasing from competitive suppliers. However, the Act explicitly preserved the option of purchasing supplies from the utility.⁵ Moreover, the amendments to the Competition Act in Act 129 of 2008 strengthened the supply role of utilities and made clear that default supply service was intended to be an attractive long-term option for customers, not just a short-term backup service for customers who are temporarily without a supplier. Accordingly, under the Competition Act the concept of "choice" includes the option of purchasing a regulated supply offering from the utility. The fact that most customers have chosen this regulated option is not proof that the legislation is failing.

As a matter of policy, one might question the need to provide a regulated default supply option. There is logic in the argument that if policymakers have faith in retail electricity competition, then customers should purchase electricity in the market just as they purchase other commodities in the market. However, this argument brings to mind the statement of Justice Holmes that "[t]he life of the law has not been logic; it has been experience." Experience throughout the country with retail electric choice shows that: first, most states have not authorized choice; and second, among the thirteen states plus the District of Columbia that have authorized it, only Texas has adopted a "pure" market model that does not offer customers a regulated supply option. In Pennsylvania, legislation was introduced to eliminate the current default service model, but the prime sponsor withdrew support for the legislation following the polar vortex episode. Based on this experience, it is likely that for the foreseeable future Pennsylvania will continue to offer regulated default service and that a significant number of customers will choose this service.

How have customers fared who signed up with competitive suppliers? These customers have choices, and that alone is important to some people. Customers can choose among suppliers offering fixed and variable rates, and different amounts and types of renewable energy. Among other enticements, suppliers have offered customers gift cards for signing up and free electricity for usage on specified days. Customers generally have a chance, at least, to save money relative to the prices utilities charge for default service. One journalist reported that, over a period of four years, he saved an average of $5.84 per month by shopping - almost 7 percent of his total electric bill.⁶

But savings are not assured, as many customers learned the hard way during the polar vortex. That episode revealed gaps in the consumer protections for shopping customers. The PUC has since made improvements to supplier disclosure requirements and to its shopping website so that customers are better informed about the difference between variable and fixed rates.⁷ Whether these improvements go far enough, or whether variable rate offerings to small customers should be restricted or banned, is debatable. (See Appendix, "Regulation of Supplier Rates under the Competition Act.")

Apart from the polar vortex episode, while some customers may save money by shopping, there is reason to doubt whether most customers do. Data from a number of jurisdictions indicates that customers who purchase from competitive suppliers pay significantly more, on average, than customers who purchase default service from utilities.⁸ For example, a Pennsylvania utility provided data in response to a discovery request indicating that 73 percent of low income customers who shopped paid more than they would have if they had opted for default service. In New York, 82 percent of electric customers and 94 percent of gas customers who shopped paid more. In Connecticut, the Consumer Counsel recently issued a news release stating that, in two utility service territories in a recent month, 77 and 86 percent of shopping customers were paying more than if they had purchased supplies from their utilities.⁹

While some customers make a conscious choice to pay more - for example, to purchase more expensive renewable energy or to lock in a fixed price for a longer period of time - this data is troubling and it raises questions about the wisdom of promoting shopping as a means to save money. More scrutiny is warranted to determine why shopping customers are paying more and to assure that the reality of competition lives up to the theory. 

Conclusion

The first step in determining the future course of retail competition in Pennsylvania should be to objectively evaluate its past. Until 2010-2011, a prolonged transition period with utility rate caps in place throughout most of the Commonwealth stymied the development of the retail market. When these caps finally expired, shopping levels began to grow. Currently, almost all large customers shop, but a majority of small customers remain on utility default service, which is regulated and designed to be relatively stable. These mixed results for small customers reflect the hybrid nature of the Competition Act - it provides customers with the choice between a market option and a regulated option for supply service.

In light of the history of the choice program in Pennsylvania and other states, it seems clear that the current default service model will be around for the foreseeable future. It also seems likely that many or most residential customers will choose to remain on this service. The only thing likely to change that will be if competitive suppliers offer some service innovation that small customers value enough to motivate them to enter the market. That won't be easy because the hard truth is that most small customers still regard electricity supply as a homogenous product, and the advertised savings are insufficient to motivate them to switch. 

Accepting these realities about default service and shopping levels helps to define the policies that should govern the market in the future. The PUC plays an important role in protecting consumers by regulating competitive suppliers, overseeing default service plans, and providing information to help consumers make informed choices. Given the polar vortex episode and the data suggesting that shopping customers pay more than those on regulated default service, the primary focus should be on consumer protection. While the rules governing interactions between suppliers and utilities may evolve as circumstances change, it will not be productive to pursue additional policies to "jump start" the market. The experience to date with these policies warrants skepticism as to whether they are successful or cost-justified. This is also important to consider as the PUC moves forward with its investigation of the retail natural gas market, which is different from the electric market in some respects but has the same dynamic of competitive suppliers struggling to attract customers who also have access to a regulated supply offering from the distribution utility.¹⁰

As the twentieth anniversary of passage of the Competition Act approaches in 2016, the basic framework of the retail market has been set. Any dramatic changes in the market should come from the actions of market participants - suppliers and customers - not from further regulatory interventions attempting to enhance the market.

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Regulation of Supplier Rates Under the Competition Act

The PUC and the Courts have concluded that the Competition Act deregulated supplier rates.¹¹ As one of the draftsmen of the Act, I do not believe this reflects the original intent of the law.

Deciding how to regulate new entrants in a formerly monopolistic industry presents a dilemma: regulate too much and you may deter competition; regulate too little and the public may be harmed. The solution to this problem in the Competition Act was to borrow a "forbearance" concept from federal law, which allows the Federal Communications Commission to forbear from applying statutory requirements if it finds that competition is protecting consumers.¹² Thus, the Competition Act states in a section entitled "Form of regulation of electric generation suppliers" that the PUC may "forbear" from applying statutory requirements applicable to utilities to suppliers if it determines that the requirements are unnecessary due to competition.¹³ It was implicit in this language that the PUC could, if necessary, apply these requirements to suppliers; otherwise, the language allowing the PUC to "forbear" from applying them made no sense.

In Coalition for Affordable Utility Services, et al v. PA PUC, the Court agreed with the PUC that the Competition Act deregulated supplier rates, relying on language in the Act that suppliers are not "public utilities" and that that generation of electricity would no longer be regulated after the Act. This read too much into the cited language and disregarded the section that specifically addressed the form of regulation of suppliers. Suppliers were not classified as public utilities to assure that they would not have eminent domain authority if they built new power plants - it was believed at the time, before the eventual industry structure became clear, that the same entity might both generate electricity and supply it at retail to customers. In addition, the language freeing generation of electricity from state regulation was not intended to mean that the retail supply function was also deregulated. In fact, this conclusion conflicts with other provisions of the Act, such as the requirement that suppliers obtain licenses, furnish bonds, etc.¹⁴

During the drafting of the Act, if a legislator had described a situation like the polar vortex episode and asked me whether the PUC would have authority to place prospective limits on variable rates, I would not have hesitated to answer "yes." -TF

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Endnotes:

1. In Pennsylvania, the formal name for retail suppliers is "electric generation suppliers."See, 66 Pa.C.S. Sec. 2802. This article will use the terms "competitive suppliers" or "suppliers."

2. See, Monthly update for January 2016 at www.PAPowerSwitch.com.

3. See, Annual Baseline Assessment of Choice in Canada and the United States, Distributed Energy Financial Group LLC, p. 1, (July 2015).

4. As of the date of this writing, the PUC has not launched this campaign or raised funds to pay for it.

5. While it is possible for the PUC to designate a default service provider other than the electric utility serving that area, it has never been done.

6. Andrew Maykuth, "Choosing Your Electric Supplier,"The Philadelphia Inquirer, May 17, 2015.

7. In contrast, while accelerating the switching process so that switches can be accomplished in a few days has other benefits, it is, at most, a second best solution to the problems caused by variable rates. If customers cannot absorb the risk of market volatility, then they should not be on variable rates. Promoting three-day switching as a solution for customers on variable rates suggests that these customers should try to "time the market." Moreover, customers on these rate plans are not aware of the price they are paying for electricity at the time they are using it, so by the time they try to switch much of the damage has already been done.

8. Barbara R. Alexander, "An Analysis of Retail Electric and Natural Gas Competition: Recent Developments and Implications for Low Income Customers," June 2013. This paper cites data from New York, Pennsylvania, Illinois, Ohio, and Ontario (Canada).

9. News release dated October 19, 2015, "Most Customers of Electric Suppliers Paid More than the Standard Service Rate in August; Overall Cost to Electric Supplier Customers is $23 Million Extra this Year,"available at www.ct.gov/occ.

10. Investigation of Pennsylvania's Retail Natural Gas Supply Market, Docket No. I-2013-2381742.

11. Coalition for Affordable Utility Services, et al v. Pennsylvania Public Utility Commission, 120 A.3d 1087 (Pa. Commw. 2015).

12. 47 U.S.C.A. Sec. 160, See, Petition of U.S. Telecom for Forbearance Under 47 U.S.C. Sec. 160, 28 FCC Rcd. 7627 (2013).

13. 66 Pa.C.S. Sec. 2809 (e).

14. 66 Pa.C.S. Sec. 2809 (a), (c).

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