Blackouts in the Developing World: The Role of Wholesale Electricity Markets

Abstract

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. As a result, misallocation of output across power plants can decrease the quantity of electricity supplied to end-users. 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 demand is downward-sloping. Reducing supply-side misallocation would increase electricity supply for the average household by 1.7 percent (enough to power 4.6 million additional households). Justifying a mandate that utilities must satisfy all end-use demand would require consumers to value  electricity far above the cost of diesel backup generation. However, such a mandate would likely be cost-effective if paired with supply-side reforms.

Keywords: Electricity supply, Wholesale electricity demand, Blackouts, Supply-side misallocation, India

JEL Classification: L94, O13, Q41