Letter to the Editor
April 15, 2003
To the Editor:
I would like to respond to some of the issues raised in Public Utilities Fortnightly's March 1, 2003, "Gas Executives' Forum." While it is admirable that executives featured in this issue, such as Bruce C. Klink, Dominion East Ohio's vice-president of regulation and pricing, and Isaac Blythers, president of Atlanta Gas Light Co., have begun making strides and meeting many of the obstacles of gas deregulation, the reality is that the success of gas choice programs continues to be mixed.
These programs vary widely in terms of size, regulatory rules, the posture of the local gas utility toward choice, and participation by residential customers and third-party marketers. States such as Ohio, Michigan, Virginia, Wyoming, and Illinois have expanded their programs to include more eligible customers. Programs in other states, such as Delaware, Wisconsin, and Iowa, have terminated programs.
As everyone knows, several states have enacted legislation or rules, starting in 1995, that give residential customers the opportunity to purchase their gas supplies from someone other than the local gas utility. Gas choice programs are currently operating in 19 states and the District of Columbia. According to a May 2002 report from the American Gas Association, 3.9 million residential customers are participating in choice programs-an 18 percent participation rate.
A current problem in both the natural gas and electricity sectors has been the lack of interest shown by marketers to enter retail markets serving small customers. Recent experience, starting with the price spikes during the winter of 2000-2001 and aggravated by the energy trading scandal, have cast a shadow over the current and future state of gas choice programs. Something needs to happen to jump-start these programs in reaching the next level.
How these programs perform over the next few years will be critical in determining their long-term viability. Some programs have seen large numbers of residential customers switch from marketers to the gas utility. We have also seen a heavier dosage of regulation imposed upon marketers, which may further discourage marketers from entering residential retail markets. For example, in ensuring consumer protection, stricter regulations on marketers were enacted last year in Georgia, Illinois, and Ohio. Finally, we have seen many marketers leave the residential market because of the lack of profit opportunities.
Unsurprising Apathy
On the consumer side, gas choice programs have been hampered since their inception by the apathy of most residential customers. It seems rational, given the small savings, for residential customers to remain with the incumbent utility. In investigating other suppliers, customers must expend time and effort in collecting information and dealing with the hassle of finding a new supplier. Besides, for the average middle-class residential customer, any benefits received would almost certainty be a small percentage of her income. In any event, it is not surprisingly that about 80 percent of residential customers eligible to switch from their utility have not.
We have accumulated some useful information about residential-customer behavior in gas choice programs. First, it seems that consumers require at least a savings within the range of five to 10 percent off their gas bill to seriously consider switching. Second, we know now, not surprisingly, that small customers are less inclined to switch than large customers. This has been true in other restructured industries as well. Having higher levels of consumption, large customers are likely to be more sensitive to price differentials across suppliers. Third, we have not observed a logistic-curve pattern of consumer participation-initial low participation followed by high growth in participation. Instead, for many programs we have seen participation rates reaching a plateau with little growth in recent years. Finally, there is residential-customer inertia. For marketers to attract residential customers they must work harder to increase consumer benefits or lower consumer transaction costs, or both. This is in essence the challenge that marketers face if they want to attract more customers. Marketers may have to find ways to leverage the sale of commodity gas into potentially higher profit margin, value-added services. Marketers also may have to "brand" their product so as to differentiate their service from other marketers.
No Panacea
In characterizing the gas choice programs to date, it would be misleading to say that they have been a failure. Studies have indicated that consumers as a whole have benefited. At specific points in time, some customers who chose a marketer might be worse off, but that is part of the risk for consumers in any market when they have a choice of suppliers.
Gas choice programs are not the panacea that some have hoped for. Given how some programs were designed and structured, the potential benefits to consumers were destined to be small relative to the search and hassle costs inevitably incurred by customers. My position today is that these programs were worth the effort and we should continue to improve them to increase the potential benefits to consumers and potential profits to marketers in the absence of subsidies and other market distortions that would skew the outcomes.
I believe that the ball is in the court of marketers to come up with new business strategies and products to attract more consumers. These strategies can include segmenting the market, repackaging value-added services, and product differentiation. Retail marketing of gas has so far been a low-marginal-cost business where it has become essential for marketers to expand their consumer base to reduce their average cost. Of course, these efforts may not guarantee success.
Ken Costello
National Regulatory Research Institute
Costello.1@osu.edu
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