only half the average cost, the balance being the return to the very substantial fixed capital, as well as the fixed operating costs. A competitive market would need very high prices as the margin of spare capacity reduced, to compensate for prices being close to variable costs when capacity were adequate. Some commentators have argued that there are severe market failures on the demand side, in that final consumers cannot collectively exhibit their willingness to pay for the right degree of risk of loss of load (Stoft, 2002). Competitive wholesale markets may therefore under-provide security of supply without additional institutional requirements. The English Pool had a capacity payment to encourage adequate reserves, but that was criticised for distorting the market (Offer, 1998). The initial proposals for the US Standard Market Design (for electricity markets) required Load Serving Entities to contract up to four years ahead for adequate capacity (i.e. enough for peak demand plus the specified reserve margin).

Large electricity generating companies argue that market power provides the ability to finance and hold adequate reserve margins, and leads to less price volatility and hence more politically sustainable outcomes than a market as fragmented, competitive and un-remunerative as the British market after 2000. There the combination of initially excess capacity and fierce competition caused the bankruptcy of a number of generators. The largest single generating company, British Energy, that holds all the privately owned nuclear plant had to be bailed out by the Government to prevent a similar fate. In response, generators have withdrawn capacity, causing concerns that there will be power shortages in Winter 2003/4. The reserve margin has fallen from over 32% to under 17% within a very short space of time. On this view, too much competition is undesirable, and market power is required to deliver secure supply.

There are further problems, for if prices are above variable costs, the question is over what time period the profits should be averaged to determine whether average prices are above average total costs. Plant lasts 30 or more years, so a run of a few years of low prices might require rather high prices for an extended period to compensate. The generators under investigation could also argue that if there were a short-run problem of high prices, free entry would correct the problem, as the market is contestable.

There are other obvious problems with the competition policy route to creating workably competitive electricity markets. Where the industry was initially in public ownership, it was presumably open to the Government to restructure to increase the number of competing generation companies. If anything, most Continental governments moved in the opposite direction, consolidating previously separate companies to create ‘national champions’, as in Spain, and as was proposed for the Netherlands (but fortunately resisted). Where generation companies were privately owned, as in Germany, there was little or no resistance to proposed mergers that rapidly concentrated the European electricity industry (Codognet et. al., 2002).

The contrast with the United States is also instructive. European countries lacked the duties and powers available to the Federal Energy Regulatory Commission, FERC, under the 1935 Federal Power Act. FERC has a statutory obligation to ensure that wholesale prices are “just and reasonable”. If an electric utility wishes to sell at market-determined wholesale prices, this will be allowed providing “the seller (and each of its affiliates) does not have, or has adequately mitigated, market power in generation and transmission and cannot erect other