- Email: [email protected]
Dear Mr. President …
Dear Mr. President... An Open Letter on Electricity Restructuring s a former attorney general, governor and now as President, you've had plenty of experience with electric utility regulatory issues. You know that electricity rates and reliability are sure fire political issues whenever they change by m u c h - - u p or down. It may be worth remembering that the last two-term Democratic President made electric utility reform one of the issues he rode to victor~ establishing interstate regulation of unifies and creating public power as a competitive national force. I'll skip the homilies and get straight to the point. I don't see an advantage for you in proposing legislation early this session. The states are still experimenting, and are almost overwhelmed by change alread3a Interstate tensions and other factors ultimately will necessitate federal changes, but a better move now would be to send a strong statement of policy to the Hill---not legislative language. Like telecommunications, health care, and many other in-
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Peter Fox-Penner is principal and director of the Washington office of The Brattle Group, and author of the forthcoming book, Electric Utility Restructuring: A Guide to the Competitive Era. He recently served as a senior official in the U.S. Department of Energy and in the White House Office of Science and Technology Policy. He thanks Frank Graves and Jim Bailey for their helpful comments but takes full responsibility for the views expressed here.
M,zrch 1997
dustries, the power industry is engulfed in a chaotic season of change. Deregulation of bulk power sales--utilities selling to other utilities---began under your predecessor and has been greatly expanded by the Federal Energy Regulatory Commission under your watch. This idea is now widely accepted, and the main ongoing problems seem to involve setting the rules for governing and operating the transmission grid and monitoring market power. So far it seems most of these issues can be solved without new federal laws. ~ Iorces are n o w massing for battle over federal legislation that could do away with state regulation of exclusive franchises and retail electricity prices. Under this "customer choice" policy, unregulated firms would compete to sell power to customers w h o want to choose their supplier, using the existing utility grid and distribution system for delivery. Some states have already passed laws
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permitting choice; others are studying it. Since before Roosevelt's time the states, through their authority to regulate retail electricity rates, have controlled the great bulk of electricity transactions. Because there would be m a n y important political and economic side effects if state regulation were to be relaxed in favor of competition (some incorrectly call this "deregulation"), and because the states may take different approaches, some on Capitol Hill think a n e w federal law is needed. r. President, this legislation will as much raise questions about federalism and the best way to change national policy as it does questions of electricity prices. As we are seeing in health care, great changes can sometimes be triggered merely by a national debate and action in some of the states. In the power industry competition is already here at the wholesale level, and at least partly present at the retail level, and prices have already fallen considerably (see Figure 1). Pushing the states too far too fast could stall or reverse progress, and m a n y states clearly want no part of a federal mandate.
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I. The Impetus for Change Let's be clear on the forces driving this push for retail choice. First and foremost, there is a large disparity between power rates on the two coasts and the nation's inland regions. Electricity costs industries over 8.5c/kWh in California, N e w York and N e w England, about 75 percent higher than the
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the way electricity is priced, sold, and bundled with other services-such as home security, cable TV and total energy services. In the future, electricity will likely be priced by the hour and will be hedged with complex financial instruments. '" Smart" buildings and appliances will sense high power prices and alter their energy use. The information revolution is opening up all sorts of new possibilities, and competition will help speed this along by stimulating investment and experimentation. In telecommunication, we first deregulated long distance and are now moving toward competition in local service. Electricity is next in line. Most consumers love the thought of choosing suppliers, and politicians love to sing deregulation's praises. Competition should reduce average prices, increase the variety of products, and improve service for all power
4.9¢/kWh industrial rates in Arkansas and other inland areas. 2 Some of this difference is due to expensive nuclear plants, some is due to higher air quality standards in urbanized states, and some is due to the plain old differences in the cost of doing business in different parts of the coun~¢. Hamburgers are a lot cheaper in Little Rock than they are in L.A., too. hese rate differences create a headache for governors in high-electricity-rate states. Many of these states have severe Clean Air Act non-attainment problems and are confronting ever more severe controls on business and auto emissions. Combine this with high power rates and you have a double w h a m m y on job growth that would make anyone anxious. Beyond rate disparities, increased utility competition is sparking tremendous changes in
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lEA Statistics, Energy Prices and Taxes, Second Quarter, 1996; International Financial Statistics Yearbook 1996, lap. 110-111
Figure 1: Real Electricity Prices for Households in Four OECD Countries, 1985-1995 The Electricity Journal
users. What could be wrong with this picture?
II. The Impacts of Retail Deregulation A. Reliability Impacts To understand the potential impacts of retail choice, remember that the electric power system is more interdependent than any industry we have rate-deregulated to date. Every power plant interacts with every other plant in our interconnected transmission grid as part of a synchronous machine. Power cannot be guided over a path from seller to buyer, as can natural gas through pipelines or telecom information by switching networks. Interdependence also means that it is extremely difficult to set the economic rules that gove m the use of, and allocate the full costs of, the network. 3 The implications of this interdependence is that moving too far too fast may create unforeseen technical or political problems that could slow or even reverse useful change. The mere perception that electric reliability has started to decline due to restructuring has raised great concern among industry and consumer groups, 4 as we saw after last summer's Western power outages.
B. Rate Equity Impacts Competition is supposed to lower power prices. Some very large numbers for cost savings have been tossed around, but no one has yet done a defensible quantitative study of customer benefits.
l~h~rch 1997
xperience and the most carerful research suggests the overall savings will be modest and heavily weighted toward industrial customers. If state regulators no longer control retail prices for customers that choose direct access, small customers are likely to see relatively higher rates--perhaps even absolute increases. This has set up an unfortunate political alignment of some consumer, small business and labor groups against retail competition and customer choice unless there are
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strong safeguards. California's first-in-the-nation retail choice law, enacted last summer, purports to guarantee small consumers a ten percent rate decrease to offset their fears of higher prices. 5
C. Stranded Costs One reason it is so hard to gauge the real savings from retail competition is that the issue has become hopelessly entangled in the question of who will pay for the high-cost plants that utilities now own once electricity consum-
ers are free to leave their utility for another supplier. 6 Well over half our 109 nuclear plants produce electricity at higher costs than today's efficient gas or coal plants. 7 Under regulation, old and new plant costs would be blended. But today no one wants to pay for plants that, with 20-20 hindsight, utilities would not have built in the '70s had they known gas would be plentiful at $2/Mcf. Mr. President, there are extremely difficult and important arguments on both sides of this "stranded cost" issue. Utilities and their shareholders argue that these plants were built under the "regulatory compact," with state regulators" tacit or explicit approval. Enabling changes that force them to write these plants off could cost utility shareholders billions of dollars in unexpectedly depressed share prices, might force a number of utilities into bankruptc3~ and w o u l d raise the costs of borrowing in this capitalintensive sector s nyone would be tempted to go for the one-time rate decrease--freedom from paying off the cost of above-market plants. Those opposed to stranded cost recovery feel strongly that today's expensive plants and contracts are mistakes that should not continue to be paid for by utility customers. Consumers and low-cost utilities argue that if high-cost utilities can foist stranded costs off on others, they will have an unfair competitive advantage against other sellers. 9
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o far state and federal policy makers have been largely unanimous in their support for the full recovery of stranded costs. Last year, the Department of Energy and your own Council of Economic Advisors recomm e n d e d that you favor full cost recover~ Secretary Rubin will confirm that w h e n government tries to take advantage of capital markets with a quick policy shift, financial markets eventually get their revenge, and then some. If this isn't enough, consider that bankruptcy of a nuclear utility could hand the federal government billions of dollars in added nuclear waste storage and cleanup liabilities.
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D. Public Interest Responsibilities A number of additional public interest responsibilities that utilities have shouldered, willingly or not, are also put at risk by retail choice. Most utilities have universal service programs and disconnection policies for low-income and disadvantaged customers. As important as universal service is in telephon34 Mr. President, electric service is a far more important part of our social safety net. Keeping the heat or air conditioner on isn't a matter of convenience for senior citizens and the infirm: It is often the difference between life and death. Other public interest aspects of the industry, such as renewable energ~ energy efficienc3~ reliability, and research and development, are also important for policy as well as political reasons.
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Stakeholders who feel strongly about these issues are divided in their opinions about restructuring, with many strongly opposed unless their interests are safeguarded. Labor organizations are also strongly opposed.
E. The Environment There is also an important environmental overlay to this issue. It happens that some of the nation's
Several states have already passed restructuring legislation, so why is any federal action needed? There are several possible answers to this question.
cheapest power plants are coalfired plants in the Midwest and South. Computer projections show that the emissions from these plants will rise following restructuring, adding thousands of tons of pollution to the Eastern half of the U.S. 1° This issue is especially contentious because air pollution modeling has shown that some of this new pollution will be blown from the Midwest into the air of the East Coast states, which have plenty of Clean Air Act compliance problems with their own emissions. Can you imagine how angry it gets the governors in
these mostly high-cost electricity states to see power sellers in upwind states win the race to supply their states with power, while d o w n w i n d states pay the price of higher pollution? Every East Coast governor north of D.C. has written you to protest any deregulation that impairs air quali~, and the environmental movement is solidly behind them. And one more thing: Without policy fixes, deregulation may single-handedly wipe out your Climate Change Action Plan due to increased power plant CO2 emissions, n
III. Proposals for Change Mr. President, you are intimately familiar with federalism in its m a n y forms, including the shared state-federal pattern for traditional utility regulation. Several states--including California, Rhode Island, and Pennsylvan i a - h a v e already passed retail deregulation laws. M a n y others are likely to follow. If this is so, w h y is any federal action needed? Since regulation began, most retail policy matters have been left to state public service commissions. The last major energy bill, the Energy Policy Act of 1992, explicitly barred the FERC from ordering or approving retail competition. here are several answers to this question. The answer everyone agrees on is that it isn't clear where state authority ends and federal authority begins in this new area. If we don't clear up who has jurisdiction to do what, this whole movement could be-
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The Electricity Journal
come bogged d o w n in court challenges. The more controversial reasons for federal legislation fall into categories like these: • If some states allow retail choice and others don't, there will be a confusing patchwork of rules. • Retail deregulation m a y w o r k only if the federal government forces every state to do it. • Federal laws that h a m p e r evolution of a fully competitive marketplace, such as PURPA and the Public Utility Holding C o m p a n y Act, m u s t be fully or substantially repealed to allow competition to emerge. • Since competition is already u n d e r wajfi the federal governm e n t m u s t set m i n i m u m standards and rules to ensure that the competition is fair, beneficial to all stakeholders, and serves public needs, such as universal service, reliable service and environmental protection. There's some truth to all of these claims. Pro-competition utilities and unregulated p o w e r producers w a n t to create a uniform set of rules permitting t h e m to sell p o w e r in every market, and they w a n t to do it now. ut those w h o have concerns about the effects of wider competition have equally strong feelings and their o w n agendas. C o n s u m e r groups w a n t protection for small customers, and to ensure that low-income programs continue to provide a safety net. Labor groups w a n t to ensure that transition policies are fair to workers. Environmentalists w a n t to guard against reduced air quality.
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Small businesses want protection against high rates and unreliable service. Several bills were introduced in the last session of Congress by members of both parties. You can classify t h e m in two ways:first, do they mandate retail choice, or let states decide? Second, if they allow retail choice, h o w m a n y of the consumer-labor-small business-environment-public interest
One surprising element: Last session, leading Republicans called for mandating state adoption of retail competition and customer choice.
concerns do they address as a condition for letting it happen? There is one fascinating and surprising element in this otherwise unsurprising picture. Last session, a n u m b e r of leading Republicans called for mandating state adoption of retail competition and customer choice. Defending this mandate for federal intervention in the traditional affairs of the states, Chairman Thomas Bliley said: Let me say this as clearly as I can ... I am a conservative, and I represent the Commonwealth of V'lrginia. I am a former mayor of a proud Southern city, Richmond. I stand second to none in my re-
spect for the independent role of the states. But I am also chairman of the House Commerce Committee ... the oldest committee in Congress, created because the framers understood that no state should be allowed to inhibit the free flow of interstate commerce. n the prospect of electricity legislation in the 105th Congress, y o u thus confront a more complex politico-economic admixture than you probably imagined. The major constituencies are quite divided: Some believe in the promise of deregulation; others believe the negative fallout will outweigh the benefits. Members of Congress w h o have traditionally o p p o s e d state mandates are proposing t h e m instead.
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IV. Options and Recommendations By n o w you m a y be wondering, "Do I really have to w a d e into this right now?" A full discussion of your best options is b e y o n d the scope of this epistle--not to mention m y expertise--but I will briefly outline three courses of action.
1. Wait and see. Even p r o p o n e n t s of rapid federal change concede that this issue m a y not be ripe for resolution. If the issue starts to m o v e on Capitol Hill, y o u can change from a reactive to a proactive posture at that point. The pro here is that y o u gain e n o u g h time to see h o w the 50 "'laboratories of d e m o c r a c y " are doing under present rules. The con: y o u lose the a d v a n t a g e of setting an early position and forcing the is-
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sue to evolve from y o u r starting point.
2. Support a federal mandate for retail choice, with a number of conditions attached. This is similar to the position y o u took on the Telecommunications Act of 1996--a bold stroke for massive, w i d e s p r e a d change. The pro here could be a place in the history books as the president w h o gave electricity customers a choice and gave the p o w e r industry its second great structure. The con is also a place in the history books, but as one w h o r u s h e d an untested idea into a vital, complex industry, only to create a n e w set of problems.
I could support any of these, Mr. President, but the one I recomm e n d at this time is Option 1. N o one is counting on y o u to m o v e aggressively with federal legislation, and m a n y of y o u r supporters are opposed. There is a need to u p d a t e federal electric laws, but the atmosphere on Capitol Hill is highly combustible. I have yet to find a knowledgeable Washingtonian w h o thinks a bill can be enacted this year u n d e r any cir-
Restructuring must provide benefits and protection for "the little gu)a" Savings and new services should reach all customers. Universal service and safety-net programs must be maintained. Consumer protection efforts must be strong. • Reliable Service for All Homes, businesses, schools and government agencies of all types must have dependable, highquality electric service. Restructuring need not--and must not-jeopardize reliability
We've made great progress cleaning up the nation's air and water and must not jeopardize this progress. Market-based environmental strategies, such as tradable emissions permits and renewable energy certificates, can give us competition without environmental harm. • Fair Treatment for Investors
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• C o n s u m e r Protection
• Environmental Quality
3. Support allowing states to implement retail competition if they choose, but only if they adopt standards that ensure fair competition and explicitly protect consumers, utilities, workers, and the environment. his option is a comfortable m i d d l e course in the m o d e m federalist tradition. It might be seen as less than the Telecom Act, but there are e n o u g h differences b e t w e e n these two industries to justify a different approach. 12This position is reminiscent of y o u r successful stance in the epic b u d g e t battle of the 104th Congress: Yes, w e m u s t balance the budget, y o u said, but w e m u s t d o so in a w a y that protects the nation's critical public investments in education, the environment, health care, a n d technology
vital features of the industry such as these:
cumstances. While I a m urging y o u not to forward legislation right now, I do think y o u should search for a time w h e n y o u m a k e y o u r initial policy position clear. Consistent with the Department of Energy's past statements and those of the Vice President on this subject, consider a statement like this:
Customer Choice States should have the option to implement retail choice, provided they are careful to preserve
Utilities and their investors (some of whom are also their customers) have given us the world's cheapest and most reliable power system. For the sake of credibility and decency, we must ensure their fair treatment in the transition to competition. You've played poker with Congress and w o n with far worse hands than this, Mr. President. But to change this industry's structure is to follow in the footsteps of giants, a n d regulatory policy and politics are m u c h m o r e complex n o w than they w e r e in 1935. If y o u can find the right bala n c e - - o f national leadership a n d federalism, a n d of protective
The Electricity Journal
I authority and deregulation~you will have demonstrated
a modem
version of the wisdom and pragm a t i s m t h a t F D R u s e d s o well. ~bur slogan ought to be "Volunt a r v C h o i c e , w i t h S a f e g u a r d s . " If and when Congress sends you legislation embodying such an approach, the time for revising federal p o w e r l a w s w i l l h a v e arrived. •
competition. See Is the US Rushing Into The Dark?, ELEC.WORLD,Oct. 1996, at 17; Vikram Budhraja, Beef Up Reliability, ELEC.J., Dec. 1996, at 5; and Eric Hirst, Bulk-Power Reliability: More Than Apple Pie and Motherhood, ELEC.J., Dec. 1996, at 84.
clear plants cost more per kilowatthour than new gas-fired plants. J. Hewlett, Stranded Nuclear Power Plant Retirement Costs: Is There A Problem? (Sept. 27, 1995) (conference on restructuring electric transmission, Denver, Colo.).
5. Consider the following statement from the Executive Director of TURN, California's large consumer group, on the new California law:
This does not imply that all nuclear plants with costs above any certain level will cease to operate under deregulation, nor that natural gas power plants could take up all the slack. These issues are yet to be determined.
We are concerned that TURN's non-opposition has been interpreted as support .... We withdrew our active opposition in the legislature only to
Endnotes:
1. Many issues concerning the transmission system, antitrust, and other aspects of the industry cannot be separated into neat piles labeled "wholesale" and "retail," so any legislation that addresses one will greatly affect the other. Nevertheless, as a legal matter the FERC has gone ahead and implemented bulk power competition under its existing authority. Under the Energy Policy Act of 1992, however, the FERC is expressly denied the authority to mandate retail competition.
9. These arguments are misplaced. These costs can be recovered using competitively neutral charges that treat existing and new sellers equally, and this is important for good public policy in this area. See W. Tye and F. Graves, Competitive Neutrality, ELEC.J., Dec. 1996, at 61, and Paul L. Joskow,
Does Stranded Cost Recovery Distort Competition?, ELEC.J., April 1996, at 31.
2. U.S. Energy Info., ELEC.POWER MONTHLY, Dec. 1996, Table 53. 3. Already, in California, where a retail customer choice approach is moving very fast--some say too fast--there are concerns that the complex information systems that are being designed to permit the transmission system operator to accommodate thousands of electricity trades daily m a y not bear the weight of all the transactions, at least initially. See Calif. ISO/PX Awards
C~mtracts, But Will System Be Swamped?, ELEC.DAILY,Jan. 14, 1997. 4. Electric utility labor and professional organizations are becoming increasingly vocal in response to their perception that rapid restructuring is straining the p o w e r grid. Every part of the i n d u s t r y - - u n r e g u l a t e d as well as regulated--is anxious to avoid reliability problems. However, the problems are complicated and m a n y industry technical institutions and procedures must change to accommodate
March 1997
8. Some analysts have gone so far as to suggest that regulatory changes that greatly reduce the value of utility assets could subject the government to lawsuits, See, e.g., J.G. Sidak and D.F. Spulber, Deregulatory Takings and Break of the Regulatory Contract, 71 NYU LAW REV. 851.
save Californians from implementation of the far-worse [Public Utilities Commission] decision .... Using this bill as a model for introducing competition in any of the 46 other states which are restructuring electricity is like using the shootout at the OK Corral as a template for law and order. 6. This problem is not restricted to plants owned by utilities; high-cost power purchase contracts encouraged by PURPA and nuclear decommissioning costs also create large " w h o will p a y " issues. 7. Many nuclear plants have very low operating costs, but are burdened with high capital costs. According to EIA analyst James Hewlett, 45 percent of the nation's nuclear plants have operating costs greater than 3 cents. When capital costs are included, most n u -
10. The precise figures have been a subject of dispute between the Federal Energy Regulatory Commission, the Environmental Protection Agency and others. Estimated increases of NOx from wholesale competition alone range from 71 to 896 thousand tons annually. (See K. PALMERAND D. BURTRAW, ELECTRICITYRESTRUCTURINGAND REGIONALAIRPOLLUTION(Resources for the Future, 1996) and Table 12-2 in P. FOX-PENNER,ELECTRICUTILITYRESTRUCTURING:A GUIDETO THE COMPETITIVE ERA (Pub. Util. Repts., 1997) (forthcoming). 11.
Id.
12. Actually, some of the electricity bills that mandate retail choice are even more draconian than the Telecom Act of '96 because they set a date certain for choice--an approach rejected in the Telecom Act in favor of setting conditions.
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Peter Fox-Penner is principal and director of the Washington office of The Brattle Group, and author of the forthcoming book, Electric Utility Restructuring: A Guide to the Competitive Era. He recently served as a senior official in the U.S. Department of Energy and in the White House Office of Science and Technology Policy. He thanks Frank Graves and Jim Bailey for their helpful comments but takes full responsibility for the views expressed here.
M,zrch 1997
dustries, the power industry is engulfed in a chaotic season of change. Deregulation of bulk power sales--utilities selling to other utilities---began under your predecessor and has been greatly expanded by the Federal Energy Regulatory Commission under your watch. This idea is now widely accepted, and the main ongoing problems seem to involve setting the rules for governing and operating the transmission grid and monitoring market power. So far it seems most of these issues can be solved without new federal laws. ~ Iorces are n o w massing for battle over federal legislation that could do away with state regulation of exclusive franchises and retail electricity prices. Under this "customer choice" policy, unregulated firms would compete to sell power to customers w h o want to choose their supplier, using the existing utility grid and distribution system for delivery. Some states have already passed laws
F
13
permitting choice; others are studying it. Since before Roosevelt's time the states, through their authority to regulate retail electricity rates, have controlled the great bulk of electricity transactions. Because there would be m a n y important political and economic side effects if state regulation were to be relaxed in favor of competition (some incorrectly call this "deregulation"), and because the states may take different approaches, some on Capitol Hill think a n e w federal law is needed. r. President, this legislation will as much raise questions about federalism and the best way to change national policy as it does questions of electricity prices. As we are seeing in health care, great changes can sometimes be triggered merely by a national debate and action in some of the states. In the power industry competition is already here at the wholesale level, and at least partly present at the retail level, and prices have already fallen considerably (see Figure 1). Pushing the states too far too fast could stall or reverse progress, and m a n y states clearly want no part of a federal mandate.
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I. The Impetus for Change Let's be clear on the forces driving this push for retail choice. First and foremost, there is a large disparity between power rates on the two coasts and the nation's inland regions. Electricity costs industries over 8.5c/kWh in California, N e w York and N e w England, about 75 percent higher than the
14
the way electricity is priced, sold, and bundled with other services-such as home security, cable TV and total energy services. In the future, electricity will likely be priced by the hour and will be hedged with complex financial instruments. '" Smart" buildings and appliances will sense high power prices and alter their energy use. The information revolution is opening up all sorts of new possibilities, and competition will help speed this along by stimulating investment and experimentation. In telecommunication, we first deregulated long distance and are now moving toward competition in local service. Electricity is next in line. Most consumers love the thought of choosing suppliers, and politicians love to sing deregulation's praises. Competition should reduce average prices, increase the variety of products, and improve service for all power
4.9¢/kWh industrial rates in Arkansas and other inland areas. 2 Some of this difference is due to expensive nuclear plants, some is due to higher air quality standards in urbanized states, and some is due to the plain old differences in the cost of doing business in different parts of the coun~¢. Hamburgers are a lot cheaper in Little Rock than they are in L.A., too. hese rate differences create a headache for governors in high-electricity-rate states. Many of these states have severe Clean Air Act non-attainment problems and are confronting ever more severe controls on business and auto emissions. Combine this with high power rates and you have a double w h a m m y on job growth that would make anyone anxious. Beyond rate disparities, increased utility competition is sparking tremendous changes in
T
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0.05
0 1985
I
I
I
l
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I
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] 986
1987
1988
1989
1990
1991
1992
1993
1994
[~
France ~
Italy ~
United K i n g d o m ~
] 995
United States [ i
lEA Statistics, Energy Prices and Taxes, Second Quarter, 1996; International Financial Statistics Yearbook 1996, lap. 110-111
Figure 1: Real Electricity Prices for Households in Four OECD Countries, 1985-1995 The Electricity Journal
users. What could be wrong with this picture?
II. The Impacts of Retail Deregulation A. Reliability Impacts To understand the potential impacts of retail choice, remember that the electric power system is more interdependent than any industry we have rate-deregulated to date. Every power plant interacts with every other plant in our interconnected transmission grid as part of a synchronous machine. Power cannot be guided over a path from seller to buyer, as can natural gas through pipelines or telecom information by switching networks. Interdependence also means that it is extremely difficult to set the economic rules that gove m the use of, and allocate the full costs of, the network. 3 The implications of this interdependence is that moving too far too fast may create unforeseen technical or political problems that could slow or even reverse useful change. The mere perception that electric reliability has started to decline due to restructuring has raised great concern among industry and consumer groups, 4 as we saw after last summer's Western power outages.
B. Rate Equity Impacts Competition is supposed to lower power prices. Some very large numbers for cost savings have been tossed around, but no one has yet done a defensible quantitative study of customer benefits.
l~h~rch 1997
xperience and the most carerful research suggests the overall savings will be modest and heavily weighted toward industrial customers. If state regulators no longer control retail prices for customers that choose direct access, small customers are likely to see relatively higher rates--perhaps even absolute increases. This has set up an unfortunate political alignment of some consumer, small business and labor groups against retail competition and customer choice unless there are
E
strong safeguards. California's first-in-the-nation retail choice law, enacted last summer, purports to guarantee small consumers a ten percent rate decrease to offset their fears of higher prices. 5
C. Stranded Costs One reason it is so hard to gauge the real savings from retail competition is that the issue has become hopelessly entangled in the question of who will pay for the high-cost plants that utilities now own once electricity consum-
ers are free to leave their utility for another supplier. 6 Well over half our 109 nuclear plants produce electricity at higher costs than today's efficient gas or coal plants. 7 Under regulation, old and new plant costs would be blended. But today no one wants to pay for plants that, with 20-20 hindsight, utilities would not have built in the '70s had they known gas would be plentiful at $2/Mcf. Mr. President, there are extremely difficult and important arguments on both sides of this "stranded cost" issue. Utilities and their shareholders argue that these plants were built under the "regulatory compact," with state regulators" tacit or explicit approval. Enabling changes that force them to write these plants off could cost utility shareholders billions of dollars in unexpectedly depressed share prices, might force a number of utilities into bankruptc3~ and w o u l d raise the costs of borrowing in this capitalintensive sector s nyone would be tempted to go for the one-time rate decrease--freedom from paying off the cost of above-market plants. Those opposed to stranded cost recovery feel strongly that today's expensive plants and contracts are mistakes that should not continue to be paid for by utility customers. Consumers and low-cost utilities argue that if high-cost utilities can foist stranded costs off on others, they will have an unfair competitive advantage against other sellers. 9
A
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o far state and federal policy makers have been largely unanimous in their support for the full recovery of stranded costs. Last year, the Department of Energy and your own Council of Economic Advisors recomm e n d e d that you favor full cost recover~ Secretary Rubin will confirm that w h e n government tries to take advantage of capital markets with a quick policy shift, financial markets eventually get their revenge, and then some. If this isn't enough, consider that bankruptcy of a nuclear utility could hand the federal government billions of dollars in added nuclear waste storage and cleanup liabilities.
S
D. Public Interest Responsibilities A number of additional public interest responsibilities that utilities have shouldered, willingly or not, are also put at risk by retail choice. Most utilities have universal service programs and disconnection policies for low-income and disadvantaged customers. As important as universal service is in telephon34 Mr. President, electric service is a far more important part of our social safety net. Keeping the heat or air conditioner on isn't a matter of convenience for senior citizens and the infirm: It is often the difference between life and death. Other public interest aspects of the industry, such as renewable energ~ energy efficienc3~ reliability, and research and development, are also important for policy as well as political reasons.
16
Stakeholders who feel strongly about these issues are divided in their opinions about restructuring, with many strongly opposed unless their interests are safeguarded. Labor organizations are also strongly opposed.
E. The Environment There is also an important environmental overlay to this issue. It happens that some of the nation's
Several states have already passed restructuring legislation, so why is any federal action needed? There are several possible answers to this question.
cheapest power plants are coalfired plants in the Midwest and South. Computer projections show that the emissions from these plants will rise following restructuring, adding thousands of tons of pollution to the Eastern half of the U.S. 1° This issue is especially contentious because air pollution modeling has shown that some of this new pollution will be blown from the Midwest into the air of the East Coast states, which have plenty of Clean Air Act compliance problems with their own emissions. Can you imagine how angry it gets the governors in
these mostly high-cost electricity states to see power sellers in upwind states win the race to supply their states with power, while d o w n w i n d states pay the price of higher pollution? Every East Coast governor north of D.C. has written you to protest any deregulation that impairs air quali~, and the environmental movement is solidly behind them. And one more thing: Without policy fixes, deregulation may single-handedly wipe out your Climate Change Action Plan due to increased power plant CO2 emissions, n
III. Proposals for Change Mr. President, you are intimately familiar with federalism in its m a n y forms, including the shared state-federal pattern for traditional utility regulation. Several states--including California, Rhode Island, and Pennsylvan i a - h a v e already passed retail deregulation laws. M a n y others are likely to follow. If this is so, w h y is any federal action needed? Since regulation began, most retail policy matters have been left to state public service commissions. The last major energy bill, the Energy Policy Act of 1992, explicitly barred the FERC from ordering or approving retail competition. here are several answers to this question. The answer everyone agrees on is that it isn't clear where state authority ends and federal authority begins in this new area. If we don't clear up who has jurisdiction to do what, this whole movement could be-
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come bogged d o w n in court challenges. The more controversial reasons for federal legislation fall into categories like these: • If some states allow retail choice and others don't, there will be a confusing patchwork of rules. • Retail deregulation m a y w o r k only if the federal government forces every state to do it. • Federal laws that h a m p e r evolution of a fully competitive marketplace, such as PURPA and the Public Utility Holding C o m p a n y Act, m u s t be fully or substantially repealed to allow competition to emerge. • Since competition is already u n d e r wajfi the federal governm e n t m u s t set m i n i m u m standards and rules to ensure that the competition is fair, beneficial to all stakeholders, and serves public needs, such as universal service, reliable service and environmental protection. There's some truth to all of these claims. Pro-competition utilities and unregulated p o w e r producers w a n t to create a uniform set of rules permitting t h e m to sell p o w e r in every market, and they w a n t to do it now. ut those w h o have concerns about the effects of wider competition have equally strong feelings and their o w n agendas. C o n s u m e r groups w a n t protection for small customers, and to ensure that low-income programs continue to provide a safety net. Labor groups w a n t to ensure that transition policies are fair to workers. Environmentalists w a n t to guard against reduced air quality.
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Small businesses want protection against high rates and unreliable service. Several bills were introduced in the last session of Congress by members of both parties. You can classify t h e m in two ways:first, do they mandate retail choice, or let states decide? Second, if they allow retail choice, h o w m a n y of the consumer-labor-small business-environment-public interest
One surprising element: Last session, leading Republicans called for mandating state adoption of retail competition and customer choice.
concerns do they address as a condition for letting it happen? There is one fascinating and surprising element in this otherwise unsurprising picture. Last session, a n u m b e r of leading Republicans called for mandating state adoption of retail competition and customer choice. Defending this mandate for federal intervention in the traditional affairs of the states, Chairman Thomas Bliley said: Let me say this as clearly as I can ... I am a conservative, and I represent the Commonwealth of V'lrginia. I am a former mayor of a proud Southern city, Richmond. I stand second to none in my re-
spect for the independent role of the states. But I am also chairman of the House Commerce Committee ... the oldest committee in Congress, created because the framers understood that no state should be allowed to inhibit the free flow of interstate commerce. n the prospect of electricity legislation in the 105th Congress, y o u thus confront a more complex politico-economic admixture than you probably imagined. The major constituencies are quite divided: Some believe in the promise of deregulation; others believe the negative fallout will outweigh the benefits. Members of Congress w h o have traditionally o p p o s e d state mandates are proposing t h e m instead.
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IV. Options and Recommendations By n o w you m a y be wondering, "Do I really have to w a d e into this right now?" A full discussion of your best options is b e y o n d the scope of this epistle--not to mention m y expertise--but I will briefly outline three courses of action.
1. Wait and see. Even p r o p o n e n t s of rapid federal change concede that this issue m a y not be ripe for resolution. If the issue starts to m o v e on Capitol Hill, y o u can change from a reactive to a proactive posture at that point. The pro here is that y o u gain e n o u g h time to see h o w the 50 "'laboratories of d e m o c r a c y " are doing under present rules. The con: y o u lose the a d v a n t a g e of setting an early position and forcing the is-
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sue to evolve from y o u r starting point.
2. Support a federal mandate for retail choice, with a number of conditions attached. This is similar to the position y o u took on the Telecommunications Act of 1996--a bold stroke for massive, w i d e s p r e a d change. The pro here could be a place in the history books as the president w h o gave electricity customers a choice and gave the p o w e r industry its second great structure. The con is also a place in the history books, but as one w h o r u s h e d an untested idea into a vital, complex industry, only to create a n e w set of problems.
I could support any of these, Mr. President, but the one I recomm e n d at this time is Option 1. N o one is counting on y o u to m o v e aggressively with federal legislation, and m a n y of y o u r supporters are opposed. There is a need to u p d a t e federal electric laws, but the atmosphere on Capitol Hill is highly combustible. I have yet to find a knowledgeable Washingtonian w h o thinks a bill can be enacted this year u n d e r any cir-
Restructuring must provide benefits and protection for "the little gu)a" Savings and new services should reach all customers. Universal service and safety-net programs must be maintained. Consumer protection efforts must be strong. • Reliable Service for All Homes, businesses, schools and government agencies of all types must have dependable, highquality electric service. Restructuring need not--and must not-jeopardize reliability
We've made great progress cleaning up the nation's air and water and must not jeopardize this progress. Market-based environmental strategies, such as tradable emissions permits and renewable energy certificates, can give us competition without environmental harm. • Fair Treatment for Investors
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• C o n s u m e r Protection
• Environmental Quality
3. Support allowing states to implement retail competition if they choose, but only if they adopt standards that ensure fair competition and explicitly protect consumers, utilities, workers, and the environment. his option is a comfortable m i d d l e course in the m o d e m federalist tradition. It might be seen as less than the Telecom Act, but there are e n o u g h differences b e t w e e n these two industries to justify a different approach. 12This position is reminiscent of y o u r successful stance in the epic b u d g e t battle of the 104th Congress: Yes, w e m u s t balance the budget, y o u said, but w e m u s t d o so in a w a y that protects the nation's critical public investments in education, the environment, health care, a n d technology
vital features of the industry such as these:
cumstances. While I a m urging y o u not to forward legislation right now, I do think y o u should search for a time w h e n y o u m a k e y o u r initial policy position clear. Consistent with the Department of Energy's past statements and those of the Vice President on this subject, consider a statement like this:
Customer Choice States should have the option to implement retail choice, provided they are careful to preserve
Utilities and their investors (some of whom are also their customers) have given us the world's cheapest and most reliable power system. For the sake of credibility and decency, we must ensure their fair treatment in the transition to competition. You've played poker with Congress and w o n with far worse hands than this, Mr. President. But to change this industry's structure is to follow in the footsteps of giants, a n d regulatory policy and politics are m u c h m o r e complex n o w than they w e r e in 1935. If y o u can find the right bala n c e - - o f national leadership a n d federalism, a n d of protective
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I authority and deregulation~you will have demonstrated
a modem
version of the wisdom and pragm a t i s m t h a t F D R u s e d s o well. ~bur slogan ought to be "Volunt a r v C h o i c e , w i t h S a f e g u a r d s . " If and when Congress sends you legislation embodying such an approach, the time for revising federal p o w e r l a w s w i l l h a v e arrived. •
competition. See Is the US Rushing Into The Dark?, ELEC.WORLD,Oct. 1996, at 17; Vikram Budhraja, Beef Up Reliability, ELEC.J., Dec. 1996, at 5; and Eric Hirst, Bulk-Power Reliability: More Than Apple Pie and Motherhood, ELEC.J., Dec. 1996, at 84.
clear plants cost more per kilowatthour than new gas-fired plants. J. Hewlett, Stranded Nuclear Power Plant Retirement Costs: Is There A Problem? (Sept. 27, 1995) (conference on restructuring electric transmission, Denver, Colo.).
5. Consider the following statement from the Executive Director of TURN, California's large consumer group, on the new California law:
This does not imply that all nuclear plants with costs above any certain level will cease to operate under deregulation, nor that natural gas power plants could take up all the slack. These issues are yet to be determined.
We are concerned that TURN's non-opposition has been interpreted as support .... We withdrew our active opposition in the legislature only to
Endnotes:
1. Many issues concerning the transmission system, antitrust, and other aspects of the industry cannot be separated into neat piles labeled "wholesale" and "retail," so any legislation that addresses one will greatly affect the other. Nevertheless, as a legal matter the FERC has gone ahead and implemented bulk power competition under its existing authority. Under the Energy Policy Act of 1992, however, the FERC is expressly denied the authority to mandate retail competition.
9. These arguments are misplaced. These costs can be recovered using competitively neutral charges that treat existing and new sellers equally, and this is important for good public policy in this area. See W. Tye and F. Graves, Competitive Neutrality, ELEC.J., Dec. 1996, at 61, and Paul L. Joskow,
Does Stranded Cost Recovery Distort Competition?, ELEC.J., April 1996, at 31.
2. U.S. Energy Info., ELEC.POWER MONTHLY, Dec. 1996, Table 53. 3. Already, in California, where a retail customer choice approach is moving very fast--some say too fast--there are concerns that the complex information systems that are being designed to permit the transmission system operator to accommodate thousands of electricity trades daily m a y not bear the weight of all the transactions, at least initially. See Calif. ISO/PX Awards
C~mtracts, But Will System Be Swamped?, ELEC.DAILY,Jan. 14, 1997. 4. Electric utility labor and professional organizations are becoming increasingly vocal in response to their perception that rapid restructuring is straining the p o w e r grid. Every part of the i n d u s t r y - - u n r e g u l a t e d as well as regulated--is anxious to avoid reliability problems. However, the problems are complicated and m a n y industry technical institutions and procedures must change to accommodate
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8. Some analysts have gone so far as to suggest that regulatory changes that greatly reduce the value of utility assets could subject the government to lawsuits, See, e.g., J.G. Sidak and D.F. Spulber, Deregulatory Takings and Break of the Regulatory Contract, 71 NYU LAW REV. 851.
save Californians from implementation of the far-worse [Public Utilities Commission] decision .... Using this bill as a model for introducing competition in any of the 46 other states which are restructuring electricity is like using the shootout at the OK Corral as a template for law and order. 6. This problem is not restricted to plants owned by utilities; high-cost power purchase contracts encouraged by PURPA and nuclear decommissioning costs also create large " w h o will p a y " issues. 7. Many nuclear plants have very low operating costs, but are burdened with high capital costs. According to EIA analyst James Hewlett, 45 percent of the nation's nuclear plants have operating costs greater than 3 cents. When capital costs are included, most n u -
10. The precise figures have been a subject of dispute between the Federal Energy Regulatory Commission, the Environmental Protection Agency and others. Estimated increases of NOx from wholesale competition alone range from 71 to 896 thousand tons annually. (See K. PALMERAND D. BURTRAW, ELECTRICITYRESTRUCTURINGAND REGIONALAIRPOLLUTION(Resources for the Future, 1996) and Table 12-2 in P. FOX-PENNER,ELECTRICUTILITYRESTRUCTURING:A GUIDETO THE COMPETITIVE ERA (Pub. Util. Repts., 1997) (forthcoming). 11.
Id.
12. Actually, some of the electricity bills that mandate retail choice are even more draconian than the Telecom Act of '96 because they set a date certain for choice--an approach rejected in the Telecom Act in favor of setting conditions.
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