Theories of vertical integration and their application to the electric utility industry

• Author: John H. Landon
• Published date: 01 March 1983
• Date: 01 March 1983
• DOI: http://doi.org/10.1177/0003603X8302800104
• Subject Matter: Article

The Antitrust Bulletin/Spring

1983

Theories

of

vertical integration

and their application

to the electric utility industry

BY

JOHN

H. LANDON*

I.

Introduction

101

Anumber of recent articles in the economics literature call for the

vertical disintegration

of

the electric utility industry. IThe authors

Vice President, National Economic Research Associates, Inc.,

Washington, D.C.

AUTHOR'S

NOTE: The author has served as a consultant to numerous

electric utilities and has testified on topics related to this article.

1See, for example, Edward Berlin, Charles J. Cicchetti, and

William J. Gillen, "Restructuring the Electric Power Industry," in

Electric Power Reform: The Alternatives

for

Michigan, ed. William H.

Shaker and Wilbert Steffy (Ann Arbor, Mich.: Institute of Science and

Technology, University of Michigan, 1976), pp. 233-35; James F. Fair-

man

and

John C. Scott, "Transmission, Power Pools, and Competition

in the Electric Utility Industry," The Hastings Law Journal, May 1977,

p. 1204; Philip Fanara, Jr., James E. Suelflow, and Roman A. Draba,

"Energy and Competition: The Saga of Electric Power," The Antitrust

Bulletin 25 (Spring 1980): 137; John H. Landon and David A. Huettner,

"Restructuring the Electric Utility Industry: A Modest Proposal," in

©1983 by Federal Legal Publications, Inc.

102 The antitrust bulletin

of

these studies urge areplacement

of

regulation by

competitive

forces as

the

primary

source

of

industry

stimulus

and

discipline

where

that

is possible

without

sacrifice

of

scale

economies.

Focusing

on

the

differences in scale economies

between

the

vertical levels

of

the

industry,

they

conclude

that

competition

among

independent

generation

companies

is a desirable

and

obtainable

objective.

The

vertically disintegrated electric utility

industry

envisioned

by

the

literature

would

replace

common

ownership

of

generation,

transmission,

and

distribution

facilities with

contracts

between

independent

generating,

transmitting,

and

distributing

compa-

nies.

Competitive

bidding

among

generators

would

substitute

for

their

regulation.

Distributors

and

transmitters,

unless

they

were

government

owned,

would

remain

subject

to

rate

regulation.

A

common-carrier

transmission

network

would

be available to

con-

nect

the

generators

to

the

distributors

and,

as well, to serve

the

function

of

tying generators

together

to

ensure

reliability

of

service.

The

case

presented

in

the

literature

for

vertical

disintegration

of

the

electric utility

industry

is

based

on five

major

premises: (1)

that

regulation

does

not

function

effectively to

stimulate

electric

utilities to

economic

efficiency

and

innovation;'

(2)

that

econo-

Electric Power Reform: The Alternatives

for

Michigan, ed. William H.

Shaker and Wilbert Steffy (Ann Arbor, Mich.: Institute of Science and

Technology, University of Michigan, 1976), pp. 219-20; and Leonard

W.

Weiss,

"Antitrust in the Electric Power Industry," in Promoting Com-

petition in Regulated Markets, ed. Almarin Phillips (Washington, D.C.:

The Brookings Institution,

1975),

pp. 138, 156,

169-70.

2The regulatory process is viewed by the authors as incapable of

providing sufficient inducement to innovation and efficiency. Regula-

tion is regarded as a generally mechanistic process which allows utilities

to recover their costs, but has proved incapable of providing the

stimulus to minimize those costs and to promote the development and

diffusion of new technologies and organizational forms. Competition

among bulk power suppliers is seen as a way to eliminate the need for

regulators at that level and, at the same time, provide an incentive to

develop, design, build, and operate the most economically efficient