About a week ago, the two main electric utilities of the state of California, came very close to call a state of bankruptcy, and were forced to leave most of the state without electricity. This bankruptcy was due to numerous factors. The first one was that the government had recently deregulated the electrical sector, but still kept in place retail price caps for the utility companies which delivered the power to homes and businesses. During the harsh winter, which also increased demand, the power generators had to raise their rates because of an increase in the resources’ prices. This reflected on the utilities who couldn’t increase their prices as they wanted, because they were restricted by the government.
If we analyse this case we can see that this market has failed mainly because of an intervention by the government. In fact, even though the state regulated the electrical sector, it still had some influence over the prices which were imposed by the utilities. The government as it saw the prices for the consumers raising to a value too high, it established a price ceiling to protect the buyers. This ceiling, which is set below the original equilibrium price for that product (Fig. 1), set a maximum price over which the utilities could not charge more. In fact as the utilities asked for an increase of the prices of a 30 %, the government only allowed them an increase of 9%.
As fig. 1 also shows us, we can notice that the government in instituting a price ceiling, it also creates a shortage. At the new price which is established by the ceiling, the suppliers will only be capable of producing a quantity which will be inferior to the one which was manufactured at the equilibrium price. In the mean time the demanders will increase the quantity purchased because the price of the product has gone down. Therefore the quantity supplied will not be able to meet the quantity demanded. In this case though, the quantity demanded mainly increased because of a winter storm which brought very low temperatures. In the situation of California, the utility companies, were not able to purchase the electricity at such a high price and resell it at such a low price, and therefore were not able to distribute any more electrical power.
In conclusion the problems the state of California was having with electrical power, were mainly caused by a price control inserted by the government, and by an unusual cold winter.
This article which was written by Rene Sanchez and William Booth, seems to be very objective in clearly stating all of the facts. It, in fact, fairly presents all sides of the argument, including quotes from the presidents of the utility companies and from California’s governor. The source from which the article was taken is also known for being a very impartial newspaper.
