Second Generation Electricity Reforms in Latin America and the California Paradigm

In this paper we discuss second-generation electricity reforms being formulated in Latin America and how they are being reshaped by the California crisis, which had stood as a paradigm, at least in theory, for fully competitive markets. We argue that the main lesson policy makers in Latin America should draw from the experience in California and other electricity markets around the world is that the liberalization of wholesale markets will not result in more competitive outcomes where market concentration is significant, final consumers are isolated from actual marginal production costs and capacity is tight. At least in the case of Argentina and Chile, the California crisis has had a “positive externality” by persuading policy makers, at least momentarily, to postpone liberalization reforms and make them realize the complexities in implementing competitive markets. 1. The Latin American electricity supply industry The electricity supply industry in Latin America has faced a profound transformation in the last two decades. Despite challenges are diverse in the region, all countries require high investments to respond to a continuous increase in demand. Because electricity consumption per capita is relatively small (Figure 1), it is not surprising that while industrialized countries have had an average annual growth of electricity consumption between 1 to 2%, the Latin American subcontinent has experienced an average growth of over 5% during the last decade. There are other characteristics particular to the Latin American electricity industry. Systems are often of a radial nature, with weakly meshed networks and only few incipient international interconnections. Hydro generation is the dominant supply source in the region with a share of 71,8% of the total installed capacity (1997 figures) and often with plants within complex series hydrological schemes. Out of the 190,000 MW * Hugh Rudnick is Professor of Electrical Engineering at the Pontificia Universidad Católica de Chile (PUC). Juan-Pablo Montero is Professor of Economics at PUC and currently Visiting Professor of Applied Economics at the Sloan School of Management of MIT. We thank Richard Green and two anonymous referees for helpful comments and Fondecyt grant no. 1000517 for financial support. 1 Note that our analysis mostly focus on South American countries and, particularly, Argentina, Brazil, Colombia and Chile.