Vertical integration in the electric utility industry

The dissertation analyzes the effect of vertical integration on electric utility cost structures. In particular, the paper investigates the potential for cost savings arising from integration. This efficiency issue has two sets of important policy implications regarding the appropriate degree of industry regulation required and carrier status for transmission and distribution services. The transmission and distribution functions are normally considered to be natural monopolies due to economies of scale. Deregulation advocates, on the other hand, argue that generation is not characterized by substantial scale economies. Nevertheless, integration efficiencies between generation and the other stages would transfer the monopoly features to the generation stage and, thus, preclude competition. In addition, integration efficiencies would also affect the appropriate carrier status for transmission and distribution services. Carriers fall into three main classes: (a) voluntary contract carriers; (b) mandatory contract carriers; and (c) common carriers. Common carriers may not own goods they transport, which is the key distinction from the other two categories. A lack of scope economies would lend support for common carriage or, at least, some limited form of divestiture. Divestiture would reduce concerns over utility self-dealing and promote greater competition in the industry. To determine if such integration efficiencies exist, the study estimates a multiproduct translog cost function. The estimates provide information about (a) cost complementarities between stages and (b) product-specific scale economies. The study's findings suggest no evidence of cost complementarity. Moreover, each stage exhibits increasing product-specific returns to scale at the point of approximation. Based on these results, the study concludes that (a) transmission and distribution should continue to be regulated; (b) complete deregulation of generation is premature; and (c) wholesale generation markets would need to be expanded through third-party wheeling if competition in the industry is possible.