Vertical Arrangements, Market Structure, and Competition: An Analysis of Restructured U.S. Electricity Markets. Working Paper No. 126

While rules concerning horizontal market structure form the basis of antitrust policies in most countries, it is widely recognized that horizontal structure comprises only one piece of the competition puzzle. Vertical integration and other vertical arrangements between wholesal-ers and retailers will also have an impact on the incentives of firms. In addition, regulators and many economists have focused on the effects that market rules, such as auction design, may have on equilibrium prices. This paper empirically examines the relative importance of horizontal market structure and vertical arrangements in determining prices in imperfectly competitive markets. We study three US electricity markets: California, New England, and the Pennsylvania, New Jersey, and Maryland (PJM) market. These were the first three US markets to undergo regulatory restructuring. There is substantial evidence that the California market was the least competitive. Previous studies do not, however, address why there were apparent differences in the competi-tiveness of these markets. Events like the California electricity crisis have contributed to a perception that electricity markets are fundamentally different from other commodity markets. The complexity of market rules, as well as processes for the production and delivery of electricity, have added weight to this argument. Our results demonstrate that, in fact, fundamental concepts of oligopoly competi-tion do apply to, and are significantly informative about, the restructured electricity industry. I