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Depolarizing the debate: Can retail wheeling co-exist with integrated resource planning?
Depolarizing the Debate: Can Retail Wheeling Co-Exist with Integrated Resource Planning? Antagonists in the retail wheeling debate share a disgruntlement with the present industry structure and a desire to rely more on competition to achieve savings and efficiencies. But the critical question - - is retail electric service a natural monopoly? must be answered in the negative if retail competition is to be efficient. Only then should we go on to examine how such a regime might be structured. Scott Hempling is an attorney who represents state commissions, consumer advocates, independent power producers, municipal power systems and public interest organizations. Mr. Hempling, a frequent witness before congressional committees, holds a B.A. cum laude from Yale University and a J.D. magna cum laude from Georgetown University Law Center. This article includes research and writing on retail wheeling undertaken for the Environmental Action Foundation and the Connecticut Municipal Electric Energy Cooperative. The author acknowledges the assistance of Michael Arny, Leon Lowery, David Penn and Maurice Scully, but is solely responsible for the contents.
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Scott Hempling
/ f ~ A Thich side are you on - V V retail wheeling or integrated resource planning?" This question presumes philosophical polarization. The better question is, "Under what circumstances will competition in the provision of retail electric power be efficient?" This is a question of fact, not philosoph)a If retail electric service is a natural monopoly; unconditional retail wheeling will be inefficient. By ignoring this truism, retail wheeling advocates would have utilities lower costs for a particular cus-
tomer while raising the per-unit cost of operating its system as a whole. Retail wheeling opponents make a different error, embodied in the following syllogism: (1) For retail electric service, efficient planning requires a single plan; (2) It is inherently inconsistent to have a single plan and multiple retail sellers; (3) Therefore there should not be multiple retail sellers. Step (2) is wrong. An integrated resource plan identifies the least-
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cost mix of options. If the plan itself is efficient, competitive retail procurement of plan-prescribed resources is not inherently inefficient. This article offers an approach to retail wheeling that is grounded in principles shared by both sides: economic efficiency, nondiscrimination and fairness to customers and shareholders. The article then turns to the source of both sides' disgruntlement: the industry's illogical structure. This article discusses four principles: • Where retail electric service is a natural monopoly, unconditioned retail wheeling is inefficient; • Most arguments for unconditioned retail wheeling substitute a pecuniary interest for the public interest; • Efficient retail procurement within a natural retail monopoly must be consistent with an integrated resource plan; • As presently framed, the retail wheeling debate does not confront the electric industry's structural flaws.
I. Where Retail Electric Service is a Natural Monopoly, U n c o n d i t i o n e d Retail W h e e l i n g Will be Inefficient A. The Relationship Between 'Retail Wheeling' and 'Competition' Competition is a means, not an end. The end is economic efficienc~ Competition makes sense only where a service can be pro-
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vided efficiently by a competitive market. But where a service is a "natural monopoly" it must be provided by a monopoly. A natural monopoly exists when, due to a combination of economic and technological factors, the cost of service is lower w h e n there is a single provider and higher w h e n there are multiple providers. 1 In the electric industr3~ for example, most observers view long distance
If an integrated resource plan itself is efficient, competitive retail procurement of the prescribed resources is not inherently inefficient.
transmission, as well as retail distribution, as "natural monopolies" because replacing single with multiple providers would increase societal costs. The question, therefore, is not whether competition is good or bad, but whether retail electric service is a natural monopoly. That is a question of fact.
B. Is Retail Electric Service a Natural Monopoly? 1. W h a t is "Retail Electric Service"? For many decades, regulation has treated retail electric service as a natural monopoly. But
what is "retail electric service"? If it is the mere physical movement of power from generator to consumer, retail wheeling should cause no loss of efficienc3a Individual consumers could shop in the competitive generation market, and then hire the monopoly owner of transmission and distribution to move the purchased power from generator to load, while paying for all ancillary services necessary to complete the transaction reliably. There would be competition for the competitive service (generation), and monopoly provision of the monopoly service (local distribution). ut retail electric service is not mere physical movement of energy. It is a larger bundle of activities, including longterm planning (i.e., determining the proper level and mix of generation and conservation resources) and resource acquisition. Consider the generation planning principle that, given the unique load curve for a particular service territor~ there is a corresponding unique mix of baseload, intermediate and peaking plants which will minimize production costs. If each individual customer shopped for generation independently to minimize its own costs, only by sheer coincidence would the sum of all customer purchases replicate this unique generation mix. Because the interest of an individual customer is not easily separable from the needs of the entire service area, authorizing retail wheeling can create inefficiencies in generation planning even if no
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customers actually take the plunge: [Utilities'] planning horizons would likely become shorter in a competitive market which may result in less capital intensive power supply options and which could cause a bias towards shortterm planning. As a result, there may be less than optimal capital expansion decisions, which could result in higher electric costs for customers in the long run. 2 Even if long-term planning is a natural monopol~ utilities should not be insulated from competition in other components of retail electric service. Many elements of demand-side management can and should be provided efficiently through competition. Unconditional opposition to retail competition, therefore, is just as inappropriate as unconditional support. 2. The "Economies o f Scale" Issue. Retail wheeling advocates may respond to the baseload-intermediate-peaking/planning-isa-natural-monopoly argument by asserting that: (1) Each retail wheeling customer can analyze its own load shape and buy its own efficient mix of baseload, intermediate and peaking plants; and (2) the sum of these individual purchases would equal the most efficient mix of generating plants. Step (1) is wrong, because economies of scale would preclude the individual purchases. Consider, for example, an industrial customer with a baseload need of 3 MW. There is no 3-MW baseload plant on the market, because economies of scale do not support it. In order to buy baseload power efficientl34 there26
fore, the 3-MW baseload customer must aggregate its demand with that of many other customers to create an efficient-sized block purchase from an efficient baseload plant. In theory, this process could work if the market contained professional "aggregators" acting on behalf of buyer groups. But that is precisely what the local utility does - - aggregates the needs of diverse customers. This reasoning refocuses the original question:
Unconditional opposition to retail competition, therefore, is just as inappropriate as unconditional
support. For a particular planning area, what is the efficient number of aggregators? This is a question of fact for each service territory. If the answer is "one," then individual customer shopping (or even multiple group shopping) is inefficient. Efficiency would require all customers to form a single group and hire a single aggregator - e.g., the traditional utility monopoly or a competitor for the franchise privilege. The performance of the aggregatot is a distinct issue. If efficiency requires a single aggregator, and the utility-as-aggregator performs
poorl~ the state regulatory commission should penalize or replace the utility, not ignore the laws of efficiency by allowing multiple aggregators. 3. The "Externalities'Issue. Externalities complicate matters further. Electricity consumption affects not only the utility's consumers and shareholders, but also diverse values like the environment and national securi~ 3 These values find a voice in legal requirements like SO2 emissions caps, nuclear plant safety regulation, nuclear waste disposal requirements, decommissioning finance rules, land use restrictions and coal mine safety requirements. Once again, there is no logical or factual basis for assuming that least-cost shopping by individual customers will produce a least-cost result for the entire system. Do objections to retail wheeling dissolve if all externalities are reflected in prices? No, because the economies of scale problem would remain.
II. Most Arguments for Unconditioned Retail Wheeling Substitute a Pecuniary Interest for the Public Interest A. The Goal of Eliminating
Inter-Utility Rate Disparities Confuses Pecuniary Opportunity with Competition Theory The electricity business is capital intensive. Capital investment comes in chunks and then is amortized in front-loaded rates. Two
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equally efficient utilities can have very different rates depending on when their capacity came on line. A surplus utility prices at shortterm marginal cost, below a capacity-short competitor's average embedded cost, yet it is not necessarily more efficient. In real competition, buyers select sellers based on relative efficienc~ Shifting between two utilities having comparable long-run efficiency but different short-run prices is opportunism, not competitive shopping. Certainly utilities with surplus power should make their power available to the marketplace at competitive rates, including rates below fully allocated cost, provided the rates exceed a predatory level and provided the unrecovered costs find an appropriate home. 4 These sales can prevent redundant construction to serve existing loads. But buyers and sellers should use this surplus power to fill gaps in an efficient integrated resource plan, not to red u c e the efficiencies associated with natural monopoly service.
B. Retail Wheeling Does Not Flow 'Inevitably' from Wholesale Competition Retail wheeling advocates argue that competition at retail flows naturally from competition at wholesale. This argument assumes, incorrectl~ that wholesale power and retail electric service are the same products. The wholesale generation market deals primarily in kilowatts and kilowatt-hours. 5 Retail electric service, by contrast, is a bunApril 1994
dle of benefits. In most cases, wholesale products cannot be substituted for retail service and the converse is true as well. Competition for wholesale generation can be efficient due to economic and technological factors unique to that product. Economies of scale in plant construction, for example, may permit multiple sellers in a single market. Retail electric service, as presently structured, has very different economic and technological facts.
Shifting between two utilities having comparable long-run efficiency but different short-run prices is opportunism.
competition is here," however, is also mistaken. Many utilities obstruct wholesale competition by refusing to purchase from a moreefficient competitor unless they receive an "incentive. ''6 Permitting a monopoly to collect an "incentive" rather than a cost-based price is not consistent with "wholesale competition. "7 In a competitive marketplace, a firm could not refuse to buy lowcost inputs and survive. Where utility retail monopolies are unavoidable, regulation must substitute for competitive pressures by creating fair and orderly wholesale markets and insisting that utilities make the right purchases. Retail wheeling, if undertaken consistent with an integrated resource plan (see Section III below), can pressure utilities to make appropriate wholesale purchases without "incentives."
C. Efforts to Escape Past Utility Imprudence Amount to Re-Litigation of Past Rate Cases These facts may change some da~ if unbundling of the various service components becomes efficient. But the recent changes in market for wholesale generation do not of themselves alter the facts of retail electric service. The development of wholesale competition, rather than leading "inevitably" to retail competition, may make retail competition unnecessary by replacing inter-utility rate disparities that have grown markedly with a single wholesale price. To oppose retail wheeling as unnecessary because "wholesale
Retail wheeling advocates argue that their departure will force utility shareholders to absorb imprudent costs. That argument incorrectly applies competitive market thinking to a regulated market. In competition, the task of assigning costs between customers and shareholders is performed by the marketplace. In a natural monopol~ this task lies with the regulator. In retail wheeling, a customer's departure does not assign costs between ratepayer and shareholder; it leaves costs behind for the regulator to assign. 27
The possibilities for post-wheeling regulatory disallowance are limited. By definition, any costs which the retail wheeling customer is seeking to escape already have been approved by regulators as prudent. Departure cannot force shareholders to absorb "imprudent costs" unless regulators revisit their previous prudence decisions. Absent discovery of imprudence previously unknown, there is no legal basis for revisitation. 'f a theory of imprudence is .unavailable, the only other known theory is risk assignment. 8 In the case of a transition from a monopoly to a competitive market, the proper risk assignment depends on whether ratepayers have already compensated the utility through the authorized return on equity. Like the question of whether retail electric service is a natural monopo134 this risk issue is a question of fact, not philosophy. Merely saying "if I leave, the shareholders should pick up the tab" does not answer it. Utilities should bear the cost of imprudence. They also should bear the risks for which they received historic compensation. But in a regulated monopoly market, the proper method to determine disallowance is through a neutral administrative decision which assigns the benefits of a cost disallowance to all customers. In short, post-rate case shopping is cost shifting, not competition. Litigating a rate case, losing and then leaving is "'heads I win, tails you lose" logic which should be rejected. 28
D. Retail 'Competition" May Not be Effective Because the Number of Potential Retail Competitors is Limited by the Public Utility Holding Company Act The argument that retail wheeling will promote competition ignores the limitations on entry to the retail market which remain under the Public Utility Holding Company Act of 1935.9 Most sellers of competitive generation pre-
Utilities should bear the cost of imprudence. They also should bear the risks for which they received historic compensation.
fer to place each project in a separate corporation, thereby creating a holding company structure. But PUHCA prohibits the acquisition of multiple retail electric utilities in separate corporations, unless those utilities form an "integrated" system) ° In short, PSI Energy may not create a generating company in Central and South West's service territory and sell at retail. The one exception to this statement is a "qualifying facility" (QF) under the Public Utility Regulatory Policies Act of 1978 (PURPA). 11
The sellers available to a particular retail buyer will be restricted to utilities adjacent to the buyer's service territor34 QFs and nonadjacent entities not using the holding company form (of which there are very few). There is no guarantee that the number of competitors will be sufficient to make the market truly competitive) 2 Therefore, the premise that "retail wheeling" equals "competition" is unsupported.
III. To be Efficient, Retail Procurement Within a Natural Retail M o n o p o l y Must be Consistent With an Integrated Resource Plan A. General Conditions for Efficiency A central goal of retail wheeling, say its advocates, is to pressure utilities toward efficiency. This goal statement translates into two prerequisites: (1) The threat of wheeling must put pressure on utilities. That is, the facts must support an assignment to the utility's shareholders of the risk of lost revenues or unmarketable capacity resulting from the retail wheeling. Otherwise, the threat of retail wheeling will not pressure utilities to be more efficient. (2) The retail wheeling must be efficient. That is, implementing the retail wheeling proposal must not reduce the economies associated with natural monopoly service, measured over the long term. Proponents of unconditional retail wheeling assume, incorrect134 that retail wheeling automatically
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satisfies both conditions, each and every time. Conversely, most opponents of retail wheeling assume that these two conditions can never be met. Both sides are incorrect. Whether these conditions exist is a question of fact to be reviewed in each case. If one or both of these conditions is missing, retail wheeling still could take place, but only if the departing customer's savings exceed the appropriate compensation owed to other customers (and shareholders, w h e n appropriate) for losses resulting from unmarketable investment or reduction in service territory efficiencies. his approach to retail wheeling resembles David Moskovitz's proposal for "green pricing.,,13 Under green pricing, individual customers choose to pay a premium above the utility's conventional rates in order to change the mix of utility-acquired resources to include more renewable resources than a least-cost plan otherwise would dictate. Green pricing thus permits customers to "vote with their pocketb o o k s . ''14 Whereas green pricing permits customers to select power sources more costly than a utility's chosen mix, retail wheeling, as I define it here, could permit customers to select power sources less costly than the utility's chosen mix. The other significant difference is that in green pricing the utility would normally select the resource, while in retail wheeling the customer selects the resource. Both proposals share a common predicate: a least-cost integrated
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resource plan. In m y approach, a customer who identifies resources at lesser cost than what the utility would have purchased enjoys the savings. These savings would be reduced, however, by any costs that customer's independent shopping imposes on other customers (relative to the costs they would experience under the integrated resource plan), because the independent customer would be required to pay them compensation. This compensation would reflect any stranded investment not assigned to shareholders, plus
Access to an essential service like electricity should not be based on negotiating skill.
any inefficiencies associated with that customer's departure, such as reducing the need for generation or DSM below efficient levels dictated by economies of scale. Moskovitz distinguishes green pricing from retail wheeling by defining the latter as "an attempt by large customers to shift costs to other customers, as large customers would be allowed to contract directly for low-cost resources leaving other customers with more expensive resources, and the utility a smaller revenue base with which to pay for the re-
sources. "15 My approach to retail wheeling w o u l d eliminate this distinction by (1) relying on the integrated resource plan to determine the least-cost mix for all customers, and (2) preventing cost-shifting by requiring the departing customer to bear the costs of his actions. Individual suppliers would compete with the utility to supply portions of the approved integrated resource plan, and customer groups with superior shopping abilities would enjoy lower costs. Like green pricing, retail wheeling thus defined combines the best of integrated resource planning, competition and customer choice. B. Access to Retail Wheeling Must be Nondiscriminatory A service is either competitive or monopolistic. It cannot be competitive for some customers and monopolistic for others. Access to an essential commodity like electricity should not be based on negotiating skill. Individual residential buyers would face significant transaction costs in a retail wheeling setting. To prevent discrimination therefore, a competing retail seller should be required to sell not only to its chosen customer, but to an appropriately sized group of residential and small commercial customers which desire similar service. Faced with this requirement, sellers (and potential industrial shoppers) would presumably work to overcome these transaction costs by creating small customer buyer groups.
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Once the principle of nondiscrimination is enforced and industrial customers are required to shop together with retail customers, the customers may find it more efficient to create a single group and hire a single aggregator. This result, as discussed in Part I.B.2, is more akin to wholesale competition than retail wheeling: A single aggregator is acquiring the least-cost power for the many customers within its service territory. If the aggregator does not perform well, the group can hire someone else next time. This type of competitive pressure, a form of "franchise competition," can stimulate better performance by utilities and their competitors.
Retail wheeling proponents would submit their nondiscriminatory proposals along with the competing options: utility build options, independent wholesale generators, and suppliers of demand-side services. The retail wheeling option will (and should) be selected only if that option, in combination with others selected, fulfills the service territory's needs at least cost. A retail wheeling proposal which imposed externalities or created unmarket-
C. Make Retail Competition an Option Within a ProCompetitive, Least-Cost Integrated Resource Planning Process
Retail wheeling advocates often say that "planning is inconsistent with competition." But "planning" and "competition" are interdependent, and not necessarily inconsistent. Planning determines the needs; competition fulfills the needs. Rather than reject retail wheeling as inherently inefficient, planners should evaluate specific retail wheeling proposals during the integrated resource plan process. The least-cost integrated resource plan first would identify the needs - - i.e., prescribe the type of generation and other services necessary to meet load efficiently With the needs thus identified, competition can begin. 30
able investment not assignable to shareholders would suffer in comparison to other proposals. Any proposal which increased perunit costs to the remaining customers of implementing the approved integrated resource plan would lose. With this approach, retail wheeling becomes a means of implementing, not avoiding, integrated resource planning. To make the competition fair, state regulators should impose the same requirements on all prospective sellers, retail or wholesale, utility or non-utility. If the utility must include externalities
in prices, so must competing retail sellers. This approach would prevent utilities from avoiding retail wheeling by asserting "we have been forced to carry out public policy agendas from which our competitors are exempt." Where a retail customer group succeeds in procuring a retail source which fits the foregoing conditions, it effectively receives a "bounty" equal to the savings relative to the utility's normal price. No one is worse off. In addition, the alternative retail source can be a benchmark for regulators assessing the quality of the utility's own wholesale procurement decisions. Provided the bounty recipient is a diverse group satisfying the nondiscrimination rule of Part III.B above, there will be no "creamskimming" and the benchmark will be fair. And because the resource purchased was one identified in the approved integrated resource plan, there will be no loss of efficiency. This approach would apply to prospective acquisitions of resources: where retail wheeling proposals compete with other new resource options. Retail wheeling of power to replace existing resources is, as discussed in Part II.A above, simply a form of shifting the sunk cost of surplus capacity among competing sources. D. Rules for Individual Customer Decision Making
To implement the foregoing retail wheeling-IRP scheme, prospective retail wheeling customThe Electricity Journal
departure increases the per-unit cost of utility service under the approved integrated resource plan (e.g., where the departure is inconsistent with economies of scale), the retail wheeling customer must pay compensation to the remaining ratepayers. 3. Prospective Investment. Before a utility makes new major investments, each customer contemplating future retail wheeling must make an agreement with the utility concerning whether to have the utility plan for that customer's needs. For those customers that "opt in" to the utility planning regime, they must agree in advance to pay off any prudent costs incurred on their behalf before leaving.
ers would follow the four rules set forth below. 1. Departure Payment to Shareholders. Where the departure renders unmarketable any utility investment reasonably made on behalf of the departing customer, the departing customer must make the shareholders whole, unless the shareholders already have received compensation historically through a return on equity reflecting the risk of unmarketability. This payment should last no longer than necessary to amortize the unmarketable investment; and, the utility must mitigate the loss by selling the surplus to others. 2. Departure P a y m e n t to Remaining Customers. Where the
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Without knowing all the consequences, retail wheeling looks like a lottery. April 1994
4. Consistent Application to All Forms o f "Departure." These rules must apply consistently to all forms of departure. Some customers say "if I don't get retail wheeling I'll build my own generation." Self-generation, like retail wheeling, is a breach of franchise exclusivity and must be subject to the same rules. Applying different rules will invite opportunism rather than least-cost service.
IV. As Presently Framed, the Retail Wheeling Debate Does Not Confront the Electric Industry's Structural Flaws A. Present Structural Problems Retail wheeling advocates are correct on three key premises: • Generation Competition: There is large potential for more competition in the generation sector and in significant portions of the retail service sector (such as the supply of demand management services). • Utility Opportunism: The present industry structure, in which large utilities control exclusive service territories and monepoly transmission facilities at the same time they are competing to sell competitive generation and demand-side services, impedes development of effective competition because utilities have both the incentive and opportunity to favor their own products. • Inefficient Pricing: Given these structural biases within utilities, traditional regulation, which (a) bases profit on size of investment, (b) discourages actions
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which reduce sales, and (c) frequently forces ratepayers to protect shareholders from management errors, does not send clear, consistent signals that efficiency will be rewarded and inefficiency penalized. Retail wheeling solves none of these problems. Rather than confront the industry's structural flaws, retail wheeling lets some customers escape them. Conversely, the position of some retail wheeling opponents - prohibit all retail competition, and coax existing monopolies with "'incentives" - - cements the present problems more firmly in place.
would require fair compensation to shareholders consistent with their historic risks. Players also would have to devise operational agreements among the newly unaffiliated companies in order to preserve efficiencies associated with vertical integration. An alternative path would be to prohibit the utility prospectively from building generation for its own retail customers. Eventuall~ existing utility plant would be replaced by purchased power.
B. Possible Solutions
Structural problems require structural solutions. An efficient industry structure would align the self-interest of aH players (existing and potential) with efficiency and least-cost service. Many present biases would disappear if three structural conditions were met: (1) Independent ownership of generation, transmission and distribution businesses (truly independent ownership, that is; not through affiliates); (2) Competitive market prices and standards for competitive services, set by a competitive market; and (3) Regulated prices and standards for monopoly services, (including integrated resource planning).14 Restructuring along these lines would require existing vertically integrated utilities to spin off much of their assets to independent companies. The process 32
tail electric services which remain monopolies, regulators could consider establishing clear benchmarks for price and quality Utilities who surpass the benchmarks would keep the difference; those who fall below would suffer symmetrically. A utility which favored its own generation over a lower-cost purchased power, or which insisted on a non-costbased "incentive payment" for buying a competitor's power, would risk disallowance if its resulting price exceeded the benchmark. The same fate would befall a utility that implemented conservation services without returning sufficient benefits to the customers. Consistent with vigorous competition, the benchmark should not be average performance but excellent performance. he benchmarks must be based on efficienc~ unadjusted by sympathy for the financial fate of any particular player. If the benchmark results in the utility selling fewer products or performing fewer services than under the status quo, regulators should not compensate the utility for revenues "lost." The benchmark should reflect market forces. Where the marketplace reduces the demand for a seller's product, it is not the government's job to "make the seller whole." There is a one-time exception to this "no lost revenues" rule: where replacement of lost revenues is necessary to compensate the utility for past investment made prudentl~ provided the utility has not already received compensation (for example, by equity
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My point is not to urge these particular changes, but to have them considered alongside retail wheeling as alternative (but not necessarily inconsistent) means of making the industry more accountable to its customers. Any financial and operational restructuring, if implemented properl~ would take time. The existing structural problems, meanwhile, need immediate attention. A possible non-structural solution would involve use of benchmarks. For those parts of re-
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returns) for the risk of future unmarketabili~. Compensation for the actual prudent investment, not previously compensated, is both the floor and the cap on any "lost revenue" payment. "Lost revenue compensation" should not equal "revenues which the utility w o u l d have earned had principles of competition or efficiency not been applied."
V. C o n c l u s i o n Antagonists in the retail wheeling debate have m u c h in common: a desire for efficiency; a trust in wholesale competition, and a disgruntlement with the present industry structure. Cooperation on these common issues could yield real progress toward a better industry •
(Mich. Pub. Serv. Comm. Case No. U10176), Aug. 26, 1993 at 31 (paraphrasing position of commission staff). 3. A. Myrick Freeman III, Dallas Burtraw, Winston Harrington and Alan J. Krupnick, Weighing Environmental Externalities, How to Do It Right, ELEC.J., Aug./Sept. 1992, at 19.
4. See, e.g., Scott Hempling and Charles Gray, Costs Without a Customer: Some Opening Thoughts on the Definition of, and Jurisdiction Over, Stranded Investment (paper prepared for National Association of Regulatory Utility Commissioners Electricity Committee)(Mar. 1, 1994).
10. See PUHCA § 10(c)(2) (prohibiting certain acquisitions of utility assets, including retail utility assets, unless the acquisition "serves the public interest by tending toward the economical and efficient development of an integrated public-utility system.") An "exempt wholesale generator" (EWG), as defined by new PUHCA § 32 (added by Section 711 of the Energy Policy Act of 1992) is not subject to this rule. But retail entities in the U.S. do not qualify for this designation.
1. W. NICHOLSON, MICROECONOMIC THEORY: BASIC PRINCIPLES AND EXTENSIONS 547 (1989) ("Natural monopo-
SCHMALENSEE, THE CONTROL OF NATURAL MONOPOLIES3 (1979) ("An indus-
try activity is said to be a natural monopoly if production is most efficiently done by a single firm or entity.") 2. Notice of Proposal for Decision, In the Matter of the Application of the Association of Businesses Advocating Tariff Equity for Approval of an Experimental Retail Wheeling Tariff for Consumers Power Co. (Mich. Pub. Serv. Comm. Case No. U-10143) and In the Matter, On the Commission's Own Motion, to Consider Approval of an Experimental Retail Wheeling Tariff for the Detroit Edison Company
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8. Cf. New England Power Co., Opinion No. 49, 8 EE.R.C. ~ 61,054 (1979) (allowing amortization of investment in cancelled plant but denying return on unamortized amount; rejecting argument that investors should be insulated fully from risk), aff'd sub nom. NEPCO Municipal Rate Committee v. FERC, 668 F.2d 1327 (D.C. Cir. 1981), cert. denied, 102 S.Ct. 2929 (1982). See also Duquesne Light Co. v. Barasch, 488 U.S. 299 (1989) (disallowance of prudent costs associated with abandoned plant, based on "used and useful" theory, is not an unconstitutional taking). 9. 15 U.S.C. § 79 et seq. (PUHCA).
Endnotes:
lies, by definition, exhibit decreasing average costs over a broad range of output levels."); id. at 535 (in a natural monopoly, "minimum average cost can be achieved only by organizing the industry as a monopoly"); R.
7. See generally S. Hempling, Incentives for Purchased Power: Compensation for Risk or Reward for Inefficiency?, ELEC.J. (Aug./Sept. 1993), at 42.
11. See 18 C.ER. § 292.602 (FERC regulation exempting certain QFs from PUHCA). 5. I do not suggest that there is a single homogenous product, "wholesale power," however. Wholesale contracts vary considerably, with components such as backup and emergency service, bundled transmission service and reserves. Also, the components of "electricity" may be disaggregated and sold separately. One subset of wholesale contracts - - bundled wholesale requirements contracts - - can resemble traditional retail electric service. But the relative emphasis in the developing wholesale market is on the sale of electricity for a price.
6. See, e.g., the collection of articles in this journal last August-September. ELEC. J., Aug./Sept. '93, at 20-53.
12. Cf. F.M. SCHERERAND D. ROSS, INDUSTRIALMARKET STRUCTURE AND ECONOMIC PERFORMANCE 53-54 (1990).
13. See, e.g., D. Moskovitz, 'Green Pricing': Customer Choice Goes Beyond IRP, ELEC. J., Oct. 1993, at 42. 14. Id. 15. Id., at 49. 16. For a discussion of alternative industry structures, see DIVISION OF STRATEGIC PLANNING OF THE CALIFORNIA PUBLIC UTILITIES COMMISSION, CALIFORNIA'S ELECTRIC SERVICES INDUSTRY: PERSPECTIVES ON THE PAST, STRATEGIES FOR
THE FUTURE165-94 (Feb. 1993).
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Scott Hempling
/ f ~ A Thich side are you on - V V retail wheeling or integrated resource planning?" This question presumes philosophical polarization. The better question is, "Under what circumstances will competition in the provision of retail electric power be efficient?" This is a question of fact, not philosoph)a If retail electric service is a natural monopoly; unconditional retail wheeling will be inefficient. By ignoring this truism, retail wheeling advocates would have utilities lower costs for a particular cus-
tomer while raising the per-unit cost of operating its system as a whole. Retail wheeling opponents make a different error, embodied in the following syllogism: (1) For retail electric service, efficient planning requires a single plan; (2) It is inherently inconsistent to have a single plan and multiple retail sellers; (3) Therefore there should not be multiple retail sellers. Step (2) is wrong. An integrated resource plan identifies the least-
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cost mix of options. If the plan itself is efficient, competitive retail procurement of plan-prescribed resources is not inherently inefficient. This article offers an approach to retail wheeling that is grounded in principles shared by both sides: economic efficiency, nondiscrimination and fairness to customers and shareholders. The article then turns to the source of both sides' disgruntlement: the industry's illogical structure. This article discusses four principles: • Where retail electric service is a natural monopoly, unconditioned retail wheeling is inefficient; • Most arguments for unconditioned retail wheeling substitute a pecuniary interest for the public interest; • Efficient retail procurement within a natural retail monopoly must be consistent with an integrated resource plan; • As presently framed, the retail wheeling debate does not confront the electric industry's structural flaws.
I. Where Retail Electric Service is a Natural Monopoly, U n c o n d i t i o n e d Retail W h e e l i n g Will be Inefficient A. The Relationship Between 'Retail Wheeling' and 'Competition' Competition is a means, not an end. The end is economic efficienc~ Competition makes sense only where a service can be pro-
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vided efficiently by a competitive market. But where a service is a "natural monopoly" it must be provided by a monopoly. A natural monopoly exists when, due to a combination of economic and technological factors, the cost of service is lower w h e n there is a single provider and higher w h e n there are multiple providers. 1 In the electric industr3~ for example, most observers view long distance
If an integrated resource plan itself is efficient, competitive retail procurement of the prescribed resources is not inherently inefficient.
transmission, as well as retail distribution, as "natural monopolies" because replacing single with multiple providers would increase societal costs. The question, therefore, is not whether competition is good or bad, but whether retail electric service is a natural monopoly. That is a question of fact.
B. Is Retail Electric Service a Natural Monopoly? 1. W h a t is "Retail Electric Service"? For many decades, regulation has treated retail electric service as a natural monopoly. But
what is "retail electric service"? If it is the mere physical movement of power from generator to consumer, retail wheeling should cause no loss of efficienc3a Individual consumers could shop in the competitive generation market, and then hire the monopoly owner of transmission and distribution to move the purchased power from generator to load, while paying for all ancillary services necessary to complete the transaction reliably. There would be competition for the competitive service (generation), and monopoly provision of the monopoly service (local distribution). ut retail electric service is not mere physical movement of energy. It is a larger bundle of activities, including longterm planning (i.e., determining the proper level and mix of generation and conservation resources) and resource acquisition. Consider the generation planning principle that, given the unique load curve for a particular service territor~ there is a corresponding unique mix of baseload, intermediate and peaking plants which will minimize production costs. If each individual customer shopped for generation independently to minimize its own costs, only by sheer coincidence would the sum of all customer purchases replicate this unique generation mix. Because the interest of an individual customer is not easily separable from the needs of the entire service area, authorizing retail wheeling can create inefficiencies in generation planning even if no
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customers actually take the plunge: [Utilities'] planning horizons would likely become shorter in a competitive market which may result in less capital intensive power supply options and which could cause a bias towards shortterm planning. As a result, there may be less than optimal capital expansion decisions, which could result in higher electric costs for customers in the long run. 2 Even if long-term planning is a natural monopol~ utilities should not be insulated from competition in other components of retail electric service. Many elements of demand-side management can and should be provided efficiently through competition. Unconditional opposition to retail competition, therefore, is just as inappropriate as unconditional support. 2. The "Economies o f Scale" Issue. Retail wheeling advocates may respond to the baseload-intermediate-peaking/planning-isa-natural-monopoly argument by asserting that: (1) Each retail wheeling customer can analyze its own load shape and buy its own efficient mix of baseload, intermediate and peaking plants; and (2) the sum of these individual purchases would equal the most efficient mix of generating plants. Step (1) is wrong, because economies of scale would preclude the individual purchases. Consider, for example, an industrial customer with a baseload need of 3 MW. There is no 3-MW baseload plant on the market, because economies of scale do not support it. In order to buy baseload power efficientl34 there26
fore, the 3-MW baseload customer must aggregate its demand with that of many other customers to create an efficient-sized block purchase from an efficient baseload plant. In theory, this process could work if the market contained professional "aggregators" acting on behalf of buyer groups. But that is precisely what the local utility does - - aggregates the needs of diverse customers. This reasoning refocuses the original question:
Unconditional opposition to retail competition, therefore, is just as inappropriate as unconditional
support. For a particular planning area, what is the efficient number of aggregators? This is a question of fact for each service territory. If the answer is "one," then individual customer shopping (or even multiple group shopping) is inefficient. Efficiency would require all customers to form a single group and hire a single aggregator - e.g., the traditional utility monopoly or a competitor for the franchise privilege. The performance of the aggregatot is a distinct issue. If efficiency requires a single aggregator, and the utility-as-aggregator performs
poorl~ the state regulatory commission should penalize or replace the utility, not ignore the laws of efficiency by allowing multiple aggregators. 3. The "Externalities'Issue. Externalities complicate matters further. Electricity consumption affects not only the utility's consumers and shareholders, but also diverse values like the environment and national securi~ 3 These values find a voice in legal requirements like SO2 emissions caps, nuclear plant safety regulation, nuclear waste disposal requirements, decommissioning finance rules, land use restrictions and coal mine safety requirements. Once again, there is no logical or factual basis for assuming that least-cost shopping by individual customers will produce a least-cost result for the entire system. Do objections to retail wheeling dissolve if all externalities are reflected in prices? No, because the economies of scale problem would remain.
II. Most Arguments for Unconditioned Retail Wheeling Substitute a Pecuniary Interest for the Public Interest A. The Goal of Eliminating
Inter-Utility Rate Disparities Confuses Pecuniary Opportunity with Competition Theory The electricity business is capital intensive. Capital investment comes in chunks and then is amortized in front-loaded rates. Two
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equally efficient utilities can have very different rates depending on when their capacity came on line. A surplus utility prices at shortterm marginal cost, below a capacity-short competitor's average embedded cost, yet it is not necessarily more efficient. In real competition, buyers select sellers based on relative efficienc~ Shifting between two utilities having comparable long-run efficiency but different short-run prices is opportunism, not competitive shopping. Certainly utilities with surplus power should make their power available to the marketplace at competitive rates, including rates below fully allocated cost, provided the rates exceed a predatory level and provided the unrecovered costs find an appropriate home. 4 These sales can prevent redundant construction to serve existing loads. But buyers and sellers should use this surplus power to fill gaps in an efficient integrated resource plan, not to red u c e the efficiencies associated with natural monopoly service.
B. Retail Wheeling Does Not Flow 'Inevitably' from Wholesale Competition Retail wheeling advocates argue that competition at retail flows naturally from competition at wholesale. This argument assumes, incorrectl~ that wholesale power and retail electric service are the same products. The wholesale generation market deals primarily in kilowatts and kilowatt-hours. 5 Retail electric service, by contrast, is a bunApril 1994
dle of benefits. In most cases, wholesale products cannot be substituted for retail service and the converse is true as well. Competition for wholesale generation can be efficient due to economic and technological factors unique to that product. Economies of scale in plant construction, for example, may permit multiple sellers in a single market. Retail electric service, as presently structured, has very different economic and technological facts.
Shifting between two utilities having comparable long-run efficiency but different short-run prices is opportunism.
competition is here," however, is also mistaken. Many utilities obstruct wholesale competition by refusing to purchase from a moreefficient competitor unless they receive an "incentive. ''6 Permitting a monopoly to collect an "incentive" rather than a cost-based price is not consistent with "wholesale competition. "7 In a competitive marketplace, a firm could not refuse to buy lowcost inputs and survive. Where utility retail monopolies are unavoidable, regulation must substitute for competitive pressures by creating fair and orderly wholesale markets and insisting that utilities make the right purchases. Retail wheeling, if undertaken consistent with an integrated resource plan (see Section III below), can pressure utilities to make appropriate wholesale purchases without "incentives."
C. Efforts to Escape Past Utility Imprudence Amount to Re-Litigation of Past Rate Cases These facts may change some da~ if unbundling of the various service components becomes efficient. But the recent changes in market for wholesale generation do not of themselves alter the facts of retail electric service. The development of wholesale competition, rather than leading "inevitably" to retail competition, may make retail competition unnecessary by replacing inter-utility rate disparities that have grown markedly with a single wholesale price. To oppose retail wheeling as unnecessary because "wholesale
Retail wheeling advocates argue that their departure will force utility shareholders to absorb imprudent costs. That argument incorrectly applies competitive market thinking to a regulated market. In competition, the task of assigning costs between customers and shareholders is performed by the marketplace. In a natural monopol~ this task lies with the regulator. In retail wheeling, a customer's departure does not assign costs between ratepayer and shareholder; it leaves costs behind for the regulator to assign. 27
The possibilities for post-wheeling regulatory disallowance are limited. By definition, any costs which the retail wheeling customer is seeking to escape already have been approved by regulators as prudent. Departure cannot force shareholders to absorb "imprudent costs" unless regulators revisit their previous prudence decisions. Absent discovery of imprudence previously unknown, there is no legal basis for revisitation. 'f a theory of imprudence is .unavailable, the only other known theory is risk assignment. 8 In the case of a transition from a monopoly to a competitive market, the proper risk assignment depends on whether ratepayers have already compensated the utility through the authorized return on equity. Like the question of whether retail electric service is a natural monopo134 this risk issue is a question of fact, not philosophy. Merely saying "if I leave, the shareholders should pick up the tab" does not answer it. Utilities should bear the cost of imprudence. They also should bear the risks for which they received historic compensation. But in a regulated monopoly market, the proper method to determine disallowance is through a neutral administrative decision which assigns the benefits of a cost disallowance to all customers. In short, post-rate case shopping is cost shifting, not competition. Litigating a rate case, losing and then leaving is "'heads I win, tails you lose" logic which should be rejected. 28
D. Retail 'Competition" May Not be Effective Because the Number of Potential Retail Competitors is Limited by the Public Utility Holding Company Act The argument that retail wheeling will promote competition ignores the limitations on entry to the retail market which remain under the Public Utility Holding Company Act of 1935.9 Most sellers of competitive generation pre-
Utilities should bear the cost of imprudence. They also should bear the risks for which they received historic compensation.
fer to place each project in a separate corporation, thereby creating a holding company structure. But PUHCA prohibits the acquisition of multiple retail electric utilities in separate corporations, unless those utilities form an "integrated" system) ° In short, PSI Energy may not create a generating company in Central and South West's service territory and sell at retail. The one exception to this statement is a "qualifying facility" (QF) under the Public Utility Regulatory Policies Act of 1978 (PURPA). 11
The sellers available to a particular retail buyer will be restricted to utilities adjacent to the buyer's service territor34 QFs and nonadjacent entities not using the holding company form (of which there are very few). There is no guarantee that the number of competitors will be sufficient to make the market truly competitive) 2 Therefore, the premise that "retail wheeling" equals "competition" is unsupported.
III. To be Efficient, Retail Procurement Within a Natural Retail M o n o p o l y Must be Consistent With an Integrated Resource Plan A. General Conditions for Efficiency A central goal of retail wheeling, say its advocates, is to pressure utilities toward efficiency. This goal statement translates into two prerequisites: (1) The threat of wheeling must put pressure on utilities. That is, the facts must support an assignment to the utility's shareholders of the risk of lost revenues or unmarketable capacity resulting from the retail wheeling. Otherwise, the threat of retail wheeling will not pressure utilities to be more efficient. (2) The retail wheeling must be efficient. That is, implementing the retail wheeling proposal must not reduce the economies associated with natural monopoly service, measured over the long term. Proponents of unconditional retail wheeling assume, incorrect134 that retail wheeling automatically
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satisfies both conditions, each and every time. Conversely, most opponents of retail wheeling assume that these two conditions can never be met. Both sides are incorrect. Whether these conditions exist is a question of fact to be reviewed in each case. If one or both of these conditions is missing, retail wheeling still could take place, but only if the departing customer's savings exceed the appropriate compensation owed to other customers (and shareholders, w h e n appropriate) for losses resulting from unmarketable investment or reduction in service territory efficiencies. his approach to retail wheeling resembles David Moskovitz's proposal for "green pricing.,,13 Under green pricing, individual customers choose to pay a premium above the utility's conventional rates in order to change the mix of utility-acquired resources to include more renewable resources than a least-cost plan otherwise would dictate. Green pricing thus permits customers to "vote with their pocketb o o k s . ''14 Whereas green pricing permits customers to select power sources more costly than a utility's chosen mix, retail wheeling, as I define it here, could permit customers to select power sources less costly than the utility's chosen mix. The other significant difference is that in green pricing the utility would normally select the resource, while in retail wheeling the customer selects the resource. Both proposals share a common predicate: a least-cost integrated
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resource plan. In m y approach, a customer who identifies resources at lesser cost than what the utility would have purchased enjoys the savings. These savings would be reduced, however, by any costs that customer's independent shopping imposes on other customers (relative to the costs they would experience under the integrated resource plan), because the independent customer would be required to pay them compensation. This compensation would reflect any stranded investment not assigned to shareholders, plus
Access to an essential service like electricity should not be based on negotiating skill.
any inefficiencies associated with that customer's departure, such as reducing the need for generation or DSM below efficient levels dictated by economies of scale. Moskovitz distinguishes green pricing from retail wheeling by defining the latter as "an attempt by large customers to shift costs to other customers, as large customers would be allowed to contract directly for low-cost resources leaving other customers with more expensive resources, and the utility a smaller revenue base with which to pay for the re-
sources. "15 My approach to retail wheeling w o u l d eliminate this distinction by (1) relying on the integrated resource plan to determine the least-cost mix for all customers, and (2) preventing cost-shifting by requiring the departing customer to bear the costs of his actions. Individual suppliers would compete with the utility to supply portions of the approved integrated resource plan, and customer groups with superior shopping abilities would enjoy lower costs. Like green pricing, retail wheeling thus defined combines the best of integrated resource planning, competition and customer choice. B. Access to Retail Wheeling Must be Nondiscriminatory A service is either competitive or monopolistic. It cannot be competitive for some customers and monopolistic for others. Access to an essential commodity like electricity should not be based on negotiating skill. Individual residential buyers would face significant transaction costs in a retail wheeling setting. To prevent discrimination therefore, a competing retail seller should be required to sell not only to its chosen customer, but to an appropriately sized group of residential and small commercial customers which desire similar service. Faced with this requirement, sellers (and potential industrial shoppers) would presumably work to overcome these transaction costs by creating small customer buyer groups.
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Once the principle of nondiscrimination is enforced and industrial customers are required to shop together with retail customers, the customers may find it more efficient to create a single group and hire a single aggregator. This result, as discussed in Part I.B.2, is more akin to wholesale competition than retail wheeling: A single aggregator is acquiring the least-cost power for the many customers within its service territory. If the aggregator does not perform well, the group can hire someone else next time. This type of competitive pressure, a form of "franchise competition," can stimulate better performance by utilities and their competitors.
Retail wheeling proponents would submit their nondiscriminatory proposals along with the competing options: utility build options, independent wholesale generators, and suppliers of demand-side services. The retail wheeling option will (and should) be selected only if that option, in combination with others selected, fulfills the service territory's needs at least cost. A retail wheeling proposal which imposed externalities or created unmarket-
C. Make Retail Competition an Option Within a ProCompetitive, Least-Cost Integrated Resource Planning Process
Retail wheeling advocates often say that "planning is inconsistent with competition." But "planning" and "competition" are interdependent, and not necessarily inconsistent. Planning determines the needs; competition fulfills the needs. Rather than reject retail wheeling as inherently inefficient, planners should evaluate specific retail wheeling proposals during the integrated resource plan process. The least-cost integrated resource plan first would identify the needs - - i.e., prescribe the type of generation and other services necessary to meet load efficiently With the needs thus identified, competition can begin. 30
able investment not assignable to shareholders would suffer in comparison to other proposals. Any proposal which increased perunit costs to the remaining customers of implementing the approved integrated resource plan would lose. With this approach, retail wheeling becomes a means of implementing, not avoiding, integrated resource planning. To make the competition fair, state regulators should impose the same requirements on all prospective sellers, retail or wholesale, utility or non-utility. If the utility must include externalities
in prices, so must competing retail sellers. This approach would prevent utilities from avoiding retail wheeling by asserting "we have been forced to carry out public policy agendas from which our competitors are exempt." Where a retail customer group succeeds in procuring a retail source which fits the foregoing conditions, it effectively receives a "bounty" equal to the savings relative to the utility's normal price. No one is worse off. In addition, the alternative retail source can be a benchmark for regulators assessing the quality of the utility's own wholesale procurement decisions. Provided the bounty recipient is a diverse group satisfying the nondiscrimination rule of Part III.B above, there will be no "creamskimming" and the benchmark will be fair. And because the resource purchased was one identified in the approved integrated resource plan, there will be no loss of efficiency. This approach would apply to prospective acquisitions of resources: where retail wheeling proposals compete with other new resource options. Retail wheeling of power to replace existing resources is, as discussed in Part II.A above, simply a form of shifting the sunk cost of surplus capacity among competing sources. D. Rules for Individual Customer Decision Making
To implement the foregoing retail wheeling-IRP scheme, prospective retail wheeling customThe Electricity Journal
departure increases the per-unit cost of utility service under the approved integrated resource plan (e.g., where the departure is inconsistent with economies of scale), the retail wheeling customer must pay compensation to the remaining ratepayers. 3. Prospective Investment. Before a utility makes new major investments, each customer contemplating future retail wheeling must make an agreement with the utility concerning whether to have the utility plan for that customer's needs. For those customers that "opt in" to the utility planning regime, they must agree in advance to pay off any prudent costs incurred on their behalf before leaving.
ers would follow the four rules set forth below. 1. Departure Payment to Shareholders. Where the departure renders unmarketable any utility investment reasonably made on behalf of the departing customer, the departing customer must make the shareholders whole, unless the shareholders already have received compensation historically through a return on equity reflecting the risk of unmarketability. This payment should last no longer than necessary to amortize the unmarketable investment; and, the utility must mitigate the loss by selling the surplus to others. 2. Departure P a y m e n t to Remaining Customers. Where the
iFr
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Without knowing all the consequences, retail wheeling looks like a lottery. April 1994
4. Consistent Application to All Forms o f "Departure." These rules must apply consistently to all forms of departure. Some customers say "if I don't get retail wheeling I'll build my own generation." Self-generation, like retail wheeling, is a breach of franchise exclusivity and must be subject to the same rules. Applying different rules will invite opportunism rather than least-cost service.
IV. As Presently Framed, the Retail Wheeling Debate Does Not Confront the Electric Industry's Structural Flaws A. Present Structural Problems Retail wheeling advocates are correct on three key premises: • Generation Competition: There is large potential for more competition in the generation sector and in significant portions of the retail service sector (such as the supply of demand management services). • Utility Opportunism: The present industry structure, in which large utilities control exclusive service territories and monepoly transmission facilities at the same time they are competing to sell competitive generation and demand-side services, impedes development of effective competition because utilities have both the incentive and opportunity to favor their own products. • Inefficient Pricing: Given these structural biases within utilities, traditional regulation, which (a) bases profit on size of investment, (b) discourages actions
31
which reduce sales, and (c) frequently forces ratepayers to protect shareholders from management errors, does not send clear, consistent signals that efficiency will be rewarded and inefficiency penalized. Retail wheeling solves none of these problems. Rather than confront the industry's structural flaws, retail wheeling lets some customers escape them. Conversely, the position of some retail wheeling opponents - prohibit all retail competition, and coax existing monopolies with "'incentives" - - cements the present problems more firmly in place.
would require fair compensation to shareholders consistent with their historic risks. Players also would have to devise operational agreements among the newly unaffiliated companies in order to preserve efficiencies associated with vertical integration. An alternative path would be to prohibit the utility prospectively from building generation for its own retail customers. Eventuall~ existing utility plant would be replaced by purchased power.
B. Possible Solutions
Structural problems require structural solutions. An efficient industry structure would align the self-interest of aH players (existing and potential) with efficiency and least-cost service. Many present biases would disappear if three structural conditions were met: (1) Independent ownership of generation, transmission and distribution businesses (truly independent ownership, that is; not through affiliates); (2) Competitive market prices and standards for competitive services, set by a competitive market; and (3) Regulated prices and standards for monopoly services, (including integrated resource planning).14 Restructuring along these lines would require existing vertically integrated utilities to spin off much of their assets to independent companies. The process 32
tail electric services which remain monopolies, regulators could consider establishing clear benchmarks for price and quality Utilities who surpass the benchmarks would keep the difference; those who fall below would suffer symmetrically. A utility which favored its own generation over a lower-cost purchased power, or which insisted on a non-costbased "incentive payment" for buying a competitor's power, would risk disallowance if its resulting price exceeded the benchmark. The same fate would befall a utility that implemented conservation services without returning sufficient benefits to the customers. Consistent with vigorous competition, the benchmark should not be average performance but excellent performance. he benchmarks must be based on efficienc~ unadjusted by sympathy for the financial fate of any particular player. If the benchmark results in the utility selling fewer products or performing fewer services than under the status quo, regulators should not compensate the utility for revenues "lost." The benchmark should reflect market forces. Where the marketplace reduces the demand for a seller's product, it is not the government's job to "make the seller whole." There is a one-time exception to this "no lost revenues" rule: where replacement of lost revenues is necessary to compensate the utility for past investment made prudentl~ provided the utility has not already received compensation (for example, by equity
T
My point is not to urge these particular changes, but to have them considered alongside retail wheeling as alternative (but not necessarily inconsistent) means of making the industry more accountable to its customers. Any financial and operational restructuring, if implemented properl~ would take time. The existing structural problems, meanwhile, need immediate attention. A possible non-structural solution would involve use of benchmarks. For those parts of re-
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returns) for the risk of future unmarketabili~. Compensation for the actual prudent investment, not previously compensated, is both the floor and the cap on any "lost revenue" payment. "Lost revenue compensation" should not equal "revenues which the utility w o u l d have earned had principles of competition or efficiency not been applied."
V. C o n c l u s i o n Antagonists in the retail wheeling debate have m u c h in common: a desire for efficiency; a trust in wholesale competition, and a disgruntlement with the present industry structure. Cooperation on these common issues could yield real progress toward a better industry •
(Mich. Pub. Serv. Comm. Case No. U10176), Aug. 26, 1993 at 31 (paraphrasing position of commission staff). 3. A. Myrick Freeman III, Dallas Burtraw, Winston Harrington and Alan J. Krupnick, Weighing Environmental Externalities, How to Do It Right, ELEC.J., Aug./Sept. 1992, at 19.
4. See, e.g., Scott Hempling and Charles Gray, Costs Without a Customer: Some Opening Thoughts on the Definition of, and Jurisdiction Over, Stranded Investment (paper prepared for National Association of Regulatory Utility Commissioners Electricity Committee)(Mar. 1, 1994).
10. See PUHCA § 10(c)(2) (prohibiting certain acquisitions of utility assets, including retail utility assets, unless the acquisition "serves the public interest by tending toward the economical and efficient development of an integrated public-utility system.") An "exempt wholesale generator" (EWG), as defined by new PUHCA § 32 (added by Section 711 of the Energy Policy Act of 1992) is not subject to this rule. But retail entities in the U.S. do not qualify for this designation.
1. W. NICHOLSON, MICROECONOMIC THEORY: BASIC PRINCIPLES AND EXTENSIONS 547 (1989) ("Natural monopo-
SCHMALENSEE, THE CONTROL OF NATURAL MONOPOLIES3 (1979) ("An indus-
try activity is said to be a natural monopoly if production is most efficiently done by a single firm or entity.") 2. Notice of Proposal for Decision, In the Matter of the Application of the Association of Businesses Advocating Tariff Equity for Approval of an Experimental Retail Wheeling Tariff for Consumers Power Co. (Mich. Pub. Serv. Comm. Case No. U-10143) and In the Matter, On the Commission's Own Motion, to Consider Approval of an Experimental Retail Wheeling Tariff for the Detroit Edison Company
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8. Cf. New England Power Co., Opinion No. 49, 8 EE.R.C. ~ 61,054 (1979) (allowing amortization of investment in cancelled plant but denying return on unamortized amount; rejecting argument that investors should be insulated fully from risk), aff'd sub nom. NEPCO Municipal Rate Committee v. FERC, 668 F.2d 1327 (D.C. Cir. 1981), cert. denied, 102 S.Ct. 2929 (1982). See also Duquesne Light Co. v. Barasch, 488 U.S. 299 (1989) (disallowance of prudent costs associated with abandoned plant, based on "used and useful" theory, is not an unconstitutional taking). 9. 15 U.S.C. § 79 et seq. (PUHCA).
Endnotes:
lies, by definition, exhibit decreasing average costs over a broad range of output levels."); id. at 535 (in a natural monopoly, "minimum average cost can be achieved only by organizing the industry as a monopoly"); R.
7. See generally S. Hempling, Incentives for Purchased Power: Compensation for Risk or Reward for Inefficiency?, ELEC.J. (Aug./Sept. 1993), at 42.
11. See 18 C.ER. § 292.602 (FERC regulation exempting certain QFs from PUHCA). 5. I do not suggest that there is a single homogenous product, "wholesale power," however. Wholesale contracts vary considerably, with components such as backup and emergency service, bundled transmission service and reserves. Also, the components of "electricity" may be disaggregated and sold separately. One subset of wholesale contracts - - bundled wholesale requirements contracts - - can resemble traditional retail electric service. But the relative emphasis in the developing wholesale market is on the sale of electricity for a price.
6. See, e.g., the collection of articles in this journal last August-September. ELEC. J., Aug./Sept. '93, at 20-53.
12. Cf. F.M. SCHERERAND D. ROSS, INDUSTRIALMARKET STRUCTURE AND ECONOMIC PERFORMANCE 53-54 (1990).
13. See, e.g., D. Moskovitz, 'Green Pricing': Customer Choice Goes Beyond IRP, ELEC. J., Oct. 1993, at 42. 14. Id. 15. Id., at 49. 16. For a discussion of alternative industry structures, see DIVISION OF STRATEGIC PLANNING OF THE CALIFORNIA PUBLIC UTILITIES COMMISSION, CALIFORNIA'S ELECTRIC SERVICES INDUSTRY: PERSPECTIVES ON THE PAST, STRATEGIES FOR
THE FUTURE165-94 (Feb. 1993).
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