Social discrimination in electricity trade

January 06, 2023 Energy

The challenge to the electricity markets that marked the year 2022 focused primarily on the wholesale market, where exchanges take place between producers on the one hand and retailers and large consumers on the other. However, the retail market, and in particular the market for sales to residential consumers, is not exempt from criticism, particularly for the price discrimination to which low-income households are likely to be subjected.


Baltimore’s electricity sellers
In the US, states have adopted heterogeneous rules when it comes to retail electricity and gas sales (read here). Regarding electricity, the majority of states have retained a regulated monopoly, 8 states have adopted forms of limited competition, and 13 haven chosen full competition. This is the case of Maryland, where the city of Baltimore is located, and was the subject of a study on residential rates. Consumers there are free to choose their supplier, or to subscribe to the regulated tariff from the incumbent operator, Baltimore Gas and Electric Company (BGE), sellers are free to choose their marketing and price policies. The graph below represents, over a period of 4 years, the evolution of the average price per kilowatt-hour (in dollars) charged to residential consumers in the BGE service area. After a slight downward trend in 2019 and 2020, we notice that the 2021-2022 price surge did not occur only in Europe. But what’s striking is that the top curve represents households living in neighborhoods (identified by ZIP code) with median income below $60 000, while prices represented by the bottom curve are those paid by households with median income above $80 000.

Clearly, households from impoverished neighborhoods pay more per kWh on average than those from rich privileged neighborhood. This pricing system can be described as regressive from a redistributive point of view because it exacerbates inequalities.

Control of contractual conditions

Why does competition on a homogeneous product such as electricity lead to regressive pricing? The main reason is behavioral. The least wealthy households, due to a lack of time and/or training, do not monitor the evolution of their bill. They are insufficiently attentive to the opportunities offered by the market. Sellers take advantage of this lack of attention by offering a contract with a low introductory price and hiding the automatic renewal clauses that include upward price adjustments. After a few months, signatories might switch to a new, more profitable contract, but they do so late, if at all, out of ignorance of market conditions. The Baltimore study highlights the consequence of this procrastination: there is a positive relationship between the price charged and the length of the contract. 

Why do the wealthiest households escape this increase? The explanation is both cultural and demographic. It is on the Internet that wealthy households learn about the terms and conditions of sale, and eventually switch supplies. Their contract is therefore better adjusted to the opportunities offered by the market, and they are spared by the insistence of door-to-door salesmen. Moreover, because of the higher population density in poor neighborhoods, it is less expensive to go door-to-door there than in rich neighborhoods. 

*     *

Spatial discrimination against the poor is a concern in all countries that have opened their retail electricity markets to competition. The policy response can range from simply requiring retailers to offer the same contracts to all residential consumers (as was the case in England from 2009 to 2012) to the radical solution of a return to regulated tariffs, as is being considered in Massachusetts (see section 54 of S.2842 currently under discussion).   
The retail market, and more particularly the market for residential consumers, is the weak link in the liberalized electricity industry, because retailers are faced with poorly informed agents who are not very capable of adapting their consumption to price fluctuations. With the recent price increases on the wholesale market, regulated electricity tariffs provide some stability that free market offers can hardly match, especially if these tariffs are constrained by a "tariff shield". Following the turmoil in the electricity industry over the past year, it is likely that European authorities will reconsider their policy of encouraging real-time electricity pricing.