Akshaya Jha, Louis Preonas, and Fiona Burlig “Blackouts in the Developing World: The Role of Wholesale Electricity Markets” (January 2022) | WP-325

Blackouts impose substantial economic costs in developing countries. This paper advances a new explanation for their continued prevalence: unlike in high-income countries, where regulatory mandates require utilities to satisfy all electricity demand, utilities in developing countries respond to wholesale electricity prices by curtailing some retail customers. As a result, inefficiencies in wholesale markets may not only cause misallocation of output across power plants, but can also decrease the quantity of electricity supplied to end-use consumers. We provide empirical support for this explanation using novel data from India, home to the world’s third-largest electricity sector. In contrast to the developed world, we find that Indian wholesale electricity demand is downward-sloping: when the costs of wholesale supply increase, Indian utilities provide less electricity to retail consumers. Reducing misallocation in electricity output across power plants would increase electricity supply for the average household by 1.7 percent (enough to power 4.6 million additional households). A mandate that Indian utilities must satisfy all end-use demand would only be justified if consumers value electricity far above the cost of diesel backup generation. However, if such a mandate were paired with supply-side reforms to the wholesale electricity sector, the mandate could be justified under reasonable assumptions about consumers’ willingness to pay to avoid blackouts.