EKIP– Expert Club for Economics and Politics A Different Opinion
Why are things not working out in the energy sector? Politicians have all the leverage to control the industry, but in practice they systematically make the wrong decisions. The usual excuse is a lack of sufficient control over the sector. The political decision-making process has inherent defects that stand out when we compare it to the free market, which in turn cannot exist without the presence of private property, prices, profits and losses. But do we find them in the Bulgarian energy sector?
Dimo Stefanov
BEH EAD is a hegemon in the energy sector. The enterprise is a joint-stock company with 100% state participation. It includes "Mini Maritsa-Iztok" EAD, TPP "Maritsa-Iztok 2" EAD, NPP "Kozloduy" EAD, NEK EAD, ESO EAD, "Bulgargaz" EAD, "Bulgartransgaz" EAD and "Bulgartel" EAD[i]. In turn, NEK owns 90% of the hydropower and hydroelectric power plants in the country, the entire high-voltage network, the Belene NPP project. A huge concentration of state ownership, which creates the wrong incentives for those associated with the sector.
The incentives that regulate the behavior of market and non-market agents are created by institutions. Private property is an institution in which the well-being of the owner depends on the will of the consumer. This creates incentives for preservation and development, otherwise entrepreneurs realize losses and lose their property.
The situation is completely different in the case of state ownership, as in the case of the Bulgarian energy sector. Here the positions are reversed, i.e. nothing depends on the preferences of the consumer, but on the subjective decisions of the bureaucrats in the system. Moreover, the officials themselves act in the most rational way from their point of view, maximizing their personal profits. It is much easier to steal or lobby for a higher budget than to be innovative and relevant to consumers. This is the fundamental rift and the root of all failures that accumulate over time and make reforms in the sector more difficult. People pursue different goals within different institutional frameworks.
The State Energy Regulatory Commission (SEWR ) regulates all prices in the energy sector. Of course, these are not prices, but discrete decisions, because prices exist only in free exchange, and for this private property is needed. Several problems arise from this situation.
Without market prices in the system , we have no knowledge of consumer preferences. That is, we have no way of knowing whether more or less energy is needed, because prices do not reflect the opportunity costs of other options in the economy. We have no way of knowing whether a project is worth it, because the economic calculation is confused or rather completely impossible. For example, Bulgaria is shutting down the Varna TPP, the Ruse TPP, the Bobov Dol TPP, the Maritsa 3 TPP and other smaller TPPs, with capacities of 2175 MW[ii]. Is this the right decision? Without private ownership, real prices through which to calculate revenues and costs and, accordingly, the result - profit or loss, no one can answer this question.
No one can answer positively whether it is necessary to replace the above-mentioned capacities with the AES Galabovo TPP (670MW), the Belene NPP (2000MW), the Tsankov Kamak HPP (80MW) 2, and renewable energy (about 1000 MW) for the same fundamental reason - we simply cannot count on it. The solution is not economic, but political, and therein lies the problem. In the first case, each consumer has his or her own voice, in the second case, the majority is dominated by small organized groups pursuing their personal interests. And since economic calculation is impossible, one deserts to emotional and statistical arguments, and even these are not unambiguous.
Green energy is at the forefront. It is questionable to what extent projects like the Belene NPP fit into this picture, but let's assume for a moment that the solution is better than the thermal power plants that Bulgaria is closing because upgrading them will be more expensive (an unlikely assumption). The idea sounds great, who doesn't want green energy? In the same way, who wouldn't refuse to drive a new car. Does this mean that we should scrap our old cars and buy Mercedes? When a new laptop model comes out, do we throw away the old one and buy the new one? It makes no sense, especially if we can't afford it. A quick look at the website of the State Energy Regulatory Commission[iii] shows that the prices of renewable energy are more than twice as expensive as those of conventional energy sources.
If we calculate a project and it turns out to be a loss, we simply do not undertake it, because there are better and more important opportunities for using the limited resources in the economy. The green argument rejects the first and second laws of economics - namely: resources are limited and there is no free lunch. The possibility of choice is important, in this case it is between green energy and reducing the current consumption of other goods in the economy. And the truth is that the Bulgarian citizen is much more concerned about the latter than being a leader in the production of green energy in the EU per capita. Unfortunately, the opportunity to decide is taken away from him, because the market is destroyed by politicians, bureaucrats and privilege-hungry producers of green energy.
A second modern argument for the current transformation is economic growth. This thesis is strongest for the Belene NPP. First, economic growth cannot be calculated, planned, modeled, etc., mainly due to the aforementioned problem with knowledge. On the contrary, such forceful intervention in the market and the destruction of its institutions can only do harm. Second, because the first argument is not liked by some politicians, with the soul of architects, even the statistics are against them - there is no significant relationship between energy consumption and GDP (Fig. 1). Third, even children understood that we have a surplus of electricity, this is shown by a brief reference on the ESO website[iv].
The third foundation of the market - profits and losses - are the reason Bulgarians endure all this. Profits go to the bureaucrats in the system (and the private companies associated with them), and losses are socialized, i.e. covered by the entire population. State-owned enterprises are like a buffer - on the one hand they have high costs, such as the Belene project or the purchased green energy, on the other hand the State Energy Regulatory Commission announces prices much lower than market prices. The difference or loss is covered by the state budget, i.e. from our taxes. The loan of 500 million leva for the Belene NPP will not be repaid by the bureaucrats or the "special consultants" who took it and used it, but from the pocket of every taxpayer. The truth is that sooner or later someone has to pay for the music.
The solution is to close down the State Electricity Regulatory Commission and introduce market institutions into the system, i.e. a transition from state to private ownership. This proposal is met with serious resistance. The opposition points out that as a result of liberalization, prices will rise significantly and the state will not be able to fulfill its social function by providing cheap energy.
First, of course, prices will skyrocket after you have designed the system in such a way that you have destroyed economically efficient enterprises, replaced them with expensive energy and the burden of large loans and broken infrastructure, as a result of poor management. This is not the fault of the market, but of those who are against its introduction. Second, the social argument is shallow - in reality, the losses are covered by citizens anyway, as mentioned. When you take from some and give to others, you do not create value in the economy. On the contrary, you create problems, losses and injustice, because you redirect efficiently used resources to projects that we need less of, which is to the detriment of consumers.
Who decides that the workers of the Varna TPP should become unemployed because somewhere else there are unemployed "hydroengineer" consultants ready to absorb "common money" for the common good - "Tsankov Kamak"? Obviously, the choice of politicians diverges from that of consumers. Why then do we give them the opportunity to make decisions for us?
Additionally, the shock of liberalization is a bitter pill to swallow while the system sorts out the good from the bad investments, which in the long run can reduce prices and reveal hidden costs in the system. The longer the decision is postponed, the more severe the consequences will be. The social argument is very cheap. The second one is more serious - the one about monopolies.
Energy is a natural monopoly, experts say, so it is better for monopoly profits to go to the people than to the private sector. This argument rests on two fallacies. First, the wrong concept of a monopoly, defined as an enterprise that imposes a monopoly price. The truth is that a monopoly price cannot be distinguished from a competitive price (even in theory!)[v], there are only regulated and free prices on the market. Second, the wrong concept of common ownership. Ownership belongs to the one who makes the decisions, in this case, the politicians, and as we have seen, their decisions are systematically to the detriment of consumers.
A monopoly exists only because the state intervenes and gives a given company the ultimate right to operate only in the sector, thus creating artificial barriers to entry into the industry. This is the correct definition, given back in the 17th century by the lawyer Lord Cocke. When a company functions better with economies of scale, it does not mean that it is a monopolist, because it can become the only one. There is a significant difference between barriers created by consumer decisions and those created by state bureaucrats, and it is that the former screen out the better product and protect it, while the latter impose one product without comment. Unlike political decisions, those of the free market have a built-in process with which consumers are maximally satisfied.
The next time the State Electricity Regulatory Commission (SEWR) reduces the price of electricity by 7%, don't be too quick to rejoice. Think about what the price is and whether the deal is really worth it.
Let me give my opinion on monopoly (quoting from my website):
Let's see what the problems are with defining the concept of monopoly. The most important thing in the existing definition of monopoly is the size of the market occupied by a given company. This is where certain problems come from, which I have not heard discussed publicly so far. Let's look at examples.
In a small town, there is a single pharmacy that is barely surviving. The town is poor and people cannot afford to spend a lot of money on medicines. For this reason, the pharmacy sells medicines very cheaply and its profit is very small. The question is: is this pharmacy a monopoly? The answer is: yes, it is a monopolist because it controls 100% of the market in the town. By law, it must be punished for this (regulated). If this is not done (and it is not done), then this means that the state is not enforcing its own laws. Let's see what would happen if the state decided to enforce its antitrust laws properly and introduce regulations on the given pharmacy. Since the pharmacy is already operating on the verge of loss, if regulations are imposed, it will simply be forced to close. What follows from this: all the people in the town who need medicines will have to pay for transportation to a neighboring, larger town to buy them. The total money that people in the city will give for medicines and transportation will become much more. In fact, this is precisely the positive thing about having a pharmacy: in the fact that it makes the supply of medicines centralized, in group deliveries, and thus saves money for those who need medicines.
I have just described a situation where there is a monopolist in a given market under the current legislation, but his customers do not suffer from this. In fact, his customers would be very badly off if he were not there. That is, there can be a monopoly under the current legislation without having bad consequences for consumers. The situation I am describing is completely real, especially in smaller towns.
Another similar case of a sole supplier of goods, but without bad consequences for consumers is the case of Alcoa. Alcoa is an aluminum producing company in the USA. The company invested a lot of money, became more efficient than its competitors and, offering low prices and high quality, remained the only one on the market. In fact, it was not possible for its competitors to appear because of its low prices and high quality. The company behaved as if there was competition. Do we have a monopoly here? Under current legislation, we do and the company was convicted for it. That is, it was convicted for being efficient and keeping its prices so low that others could not compete with it. The point is that consumers did not suffer from this monopoly, they benefited from it. That is, it is possible to have a sole supplier of a given good or service without having bad consequences for consumers.
Let's now look at another example. In Paris, there are about 10,000 taxis. The reason there are so many is that in order to operate a taxi business there, you need a permit from the municipality. And the municipality issues 10,000 of them. These permits to operate a taxi business are tradable, i.e. they can be sold from one company to another and cost about 1,000,000 euros. Now let's see if a monopoly exists in this situation. Since a given taxi company controls 1/10,000 of the market, a monopoly cannot exist under current legislation. However, are consumers protected from high prices? The answer is: no, they are not. And the reason is that a taxi business license costs 1,000,000 euros. This is the amount you can earn when you have the license. And the money for this amount comes from higher passenger transportation fees. In other words, passengers sponsor taxi drivers. If there were, for example, 20,000 taxi licenses, the cost per kilometer and the cost of the license would be much lower. And if there were no limit on taxi services, the cost of the license would be zero, and the cost of taxi services would be extremely low.
The above case is an example of when there are many participants in a given market, i.e. there is no monopoly, but consumers are not protected from high prices. That is, when even one potential participant out of thousands is not allowed into the market, then a monopoly (in the sense of high prices for consumers) exists.
So far, I have given examples of how the current antitrust legislation:
It registers a monopoly due to the presence of a single supplier. It punishes it (if it is a large company) or not (if it is a small pharmacy, in which case it simply does not follow its own laws). In both cases, there would be no bad consequences for consumers.
He does not see a monopoly with multiple suppliers of a given good or service, but it has bad consequences for consumers.
The reason for the above “misunderstandings” is the definition of monopoly used by the state. That is, I am giving examples of its inadequacy in certain situations. If economics were an exact science, then the presence of exceptions that do not confirm the rule would call into question the definition of monopoly. However, given the fact that economics is not an exact science, these exceptions are simply ignored because they contradict existing theoretical developments. In practice, however, based on the existing theory, an adequate definition of when a monopoly is present cannot be given, because the presence of a monopoly has nothing to do with the number of firms in the industry. The actual definition of monopoly is as follows:
A monopoly exists when there are barriers to entry for new entrants into the market.
According to the above definition, in the case of Alcoa and the pharmacy under discussion, there is no monopoly, but in the case of taxis in Paris there is, since there is a refusal to admit potential market participants.