Deregulated markets

In the late 1990s, many US states took the significant step of deregulating their energy markets.¹ Before this point, power customers were required to purchase their electricity from a single local utility company. Deregulation allows customers to choose from a range of retail electricity suppliers.¹ Designed to reduce energy prices by introducing competition, deregulation was a major shake-up to a long-established system.¹ Today, utilities in regulated markets only account for a third of the nation’s electricity demand.¹ But why do some states favor one market system over another? What do deregulated markets mean for business consumers? And how can markets adapt to the growing need for renewable power generation? 

The markets explained 

The first thing to understand when talking about deregulated markets is that there are two key levels to U.S. power generation and supply: the wholesale level (covering transmission, generation development and hedging) and the retail level (selling it to customers).¹  Generally, the federal government oversees the wholesale level. In contrast, individual state governments regulate the retail level, including the energy supply .¹ How these two levels interact then depends on how a state chooses to manage its energy supply: 

Regulated (vertically integrated utilities) 

This is a market in which a single utility company controls the entire power supply chain. Combining electricity generation (or supply), the power lines used for delivery, and delivery to a customer, the company is referred to as a ‘vertically integrated utility’.¹ This utility is responsible for managing the building or procurement of generating resources to meet supply needs and the delivery of supply to its retail customers. The utility covers all the functions necessary to meet customers’ electricity requirements in a reliable manner.¹  In these markets, customers have no choice over where they purchase their energy – it all comes from the utility. To avoid a monopoly that can potentially lead to high energy costs for consumers, the states that use this system regulate the activities of the utility.¹  

Deregulated (market-based approach) 

In this market, energy customers can choose which company to purchase their power supply from; that is, the actual supply that’s ultimately delivered via the utility transmission and distribution system.¹ States adopting this system take a market-based approach, allowing customers to control their supply cost and energy mix and let competition between the available retail suppliers discipline price with light regulation to ensure adequate customer protections exist. 

In deregulated markets, there’s typically a split between the companies that manage power generation and those that manage distribution.² Also separate (in many cases) are retail suppliers who purchase power from energy wholesalers to sell to their customers.² Electric utilities then manage the transmission of large volumes of power from geographically dispersed areas, usually in combination with regional transmission organizations (RTOs), so they maintain control of the delivery function due to their ownership and control of the distribution system.² 

It's important to highlight that, in some states, both types of markets exist side-by-side (with some taking a market-based approach to gas, electricity or both).³ In Texas, for example, 72 municipally owned utilities (MOUs) provide power to roughly 15% of the state’s population⁴, while the Energy Reliability Council of Texas (ERCOT) oversees the deregulated market that gives power to the other 85%.⁵ 

Exploring the benefits of deregulation 

So, why would businesses want to operate in a deregulated energy market? What benefits could they gain by doing so? 

For many businesses, a market-based approach to power allows them to hedge their prices as best they can – helping them budget their costs for next year. This will enable them to lock in a price per kilowatt hour (kWh), protecting themselves against price spikes or increases caused by weather or other events that can impact the wholesale price of power.¹ 

You don't necessarily get that level of control if you’re required to purchase your energy from a utility. It depends on what the regulators have authorized your utility to do in a specific state. With a market-based approach, you can choose a supplier that meets your needs – giving you greater flexibility.¹ Customers can anticipate most of their energy usage and develop a reasonable budget for their electricity costs if they enter into fixed or price-managed contracts. They may pay a little more when conditions are mild, but they get the security of knowing they’re not exposed to potentially high prices from the generation and transmission operations at the wholesale level – and that these won’t be passed on to them. 

It’s the same for those companies looking to encourage the development of renewable generation resources. More control gives them more influence on their overall energy mix. If they’re working with a utility, they most likely will not have that choice. They must accept the energy mix distributed to them by the utility rather than being able to select a different deregulated market supplier that can meet their requirements. 

Overcoming the challenges facing every market 

The challenges associated with maintaining energy security and stabilizing costs in a world with more extreme weather and the addition of large volumes of renewable resources (that are intermittent and/or have limited duration supply cycles) exist within regulated and de-regulated markets. 

For instance, the rules governing the reliability of electricity infrastructure apply in all markets. Regardless of how many retail suppliers operate in a state, they all rely on the same transmission and distribution infrastructure (managed by the federal government) to deliver power to their customers. And, apart from states like Texas with an independent grid and the land to develop generation capacity, markets need to access wholesale power across a wide geographic area – especially as new renewable sources come online. 

To resolve this, developing a reliable transmission system to support the addition of renewables should be coordinated. 

Another critical challenge is that suppliers need to understand the rules and policies driving their market and adapt at pace to any changes. Take the example of large businesses looking to hedge their prices. Without the knowledge of what market policy will look like, suppliers can’t provide the information on which companies will base their supply hedging decisions. 

To reduce carbon emissions, policymakers are encouraging the transition from using fossil fuels to generate electricity to renewable generating resources instead. These policies are often not market-based and are constantly changing, making future supply and cost assessments less predictable in the long term. Utilities also face the same need to create additional renewable resources, and how they manage that will depend on their approach to development.  

[1] Resources for the Future. "US Electricity Markets 101." 2020

[2] Resources for the Future. "Electricity 101: Terms and Definitions." 2020

[3] Electricity Rates. "Deregulated Energy States." 2022

[4] Texas Public Power Association. "TPPA Member Utilities." N.D.

[5] Office of Public Utility Counsel Texas. "Regulatory Agencies." N.D.