Utility costs are like taxes. Everyone knows they have to be paid, but most people have a reason that their own share should be smaller. And, just as with taxes, there are limitless ways to divide up the revenue burden.
It’s been 20 years since electricity deregulation raised the specter of stranded utility costs – past investments that have turned out to deliver less value than was originally expected — and the question of who should pay those costs: Electricity ratepayers? Customers switching to buy from a competing electricity supplier? Utility shareholders?
So now it’s 2016 and we are back to the same question. Electricity customers are leaving or are greatly reducing purchases. Some customers are installing rooftop solar while still buying some power from the utility. Others are switching to a community choice provider (as I discussed in February) or proposing municipalization. As utility sales decline, once again we are debating who should pay for utility investments that are less valuable in the new regime.
Utilities are responding mostly as they did in the 1990s, arguing that their investments were deemed prudent by regulators at the time they were made, so their own shareholders should not be on the hook. In somber tones they invoke a “regulatory compact” that is supposed to assure them a reasonable return on investments in exchange for an obligation to provide safe, affordable, reliable service. Basically, they argue, a deal’s a deal, even when the market or regulatory environment changes in ways that devalue their installed capital.
Opponents respond by saying “Not so fast. Utility shareholders have received investment returns comparable to the rates earned by unregulated companies while bearing far less risk. Yes, the market is changing and that is hurting your company. Welcome to a world with some risk.” And furthermore, the reply continues, the utility commissions that approved those investments were too cozy or politically connected with the utilities, so the deals made shouldn’t be binding.
Both arguments have some merit. Regulators should try to fulfill commitments, out of fairness, to maintain credibility, and to create a financial environment that can support investment. But if the regulatory process that made those commitments was so broken that it was not legitimate, then the argument for sticking with unfair commitments is less compelling.
So it has been ironic to now see the arguments of each side flip as regulators reconsider some of the terms set for the current wave of partially exiting customers.
In December 2015, regulators in Nevada changed the rules for rooftop solar, abandoning net metering both for new installations and for customers who already have panels on their roofs. The decision followed another ruling in Arizona that reduced incentives to install rooftop solar. The howls of protest from solar customers included many references to unfairly changing the rules, even though there was no explicit long-term commitment to those rules, just expectations.
While Nevada was rocking the DG world, California was considering many of the same issues, and the solar advocates’ arguments on net metering policies followed along similar lines: the state has made a commitment to building rooftop solar and breaking that commitment would have dire consequences.
In California, the advocates were mostly victorious. Net metering was extended for a few years, though the commissioners suggested they could follow Nevada next time if they don’t see more evidence solar customers are paying their fair share of costs.
While solar customers viewed these unwritten commitments in California, Nevada and elsewhere as sacrosanct, utilities argued they are over-the-top subsidies that don’t make public policy sense and should be scaled back. More than one utility executive, or manager at a grid-scale renewables company, has complained that subsidies for distributed generation are being driven by the outsize political influence of DG solar companies, and that state regulators have lost sight of the original goals of reducing greenhouse gases while maintaining affordable electricity.
At about the same time as they were reviewing policies towards distributed generation, the California Public Utilities Commission was also resetting exit fees for departing customers who join community choice providers, using a formula that had been established in a previous decision. These fees were created to compensate utilities for the power contracts they signed at what are now above-market prices — many for renewable power contracts in the early, expensive days — and to protect remaining customers from having to cover an unfair share of those contracts. Community choice advocates argued for delaying or abandoning the increase, while the utilities returned to the view that a deal’s a deal.
Watching the different sides repeatedly invoke and abandon the imperative of sticking with policy directions set in previous decisions is a bit like watching the Republicans and Democrats in the Senate fight over legislative procedures. Whichever side is in ascendancy uses the rules to support their agenda, while the opposing side is shocked by the blatant abuse of power. And then instantly the roles reverse when power shifts.
The big difference, of course, is there is no regulatory agency overseeing Congress that can call them on their hypocritical arguments. Electricity regulators can, and should, do so when market participants selectively argue the sanctity of whatever existing policy they support.
That’s not to say that regulators should blithely switch policies ignoring the cost of the uncertainty it creates. Policy consistency is important, up to a point. New information, new analysis, and new technologies, however, constantly alter the energy landscape. Policies that are written with clear dates of future review and potential off ramps may discourage some investment, but they seem just as likely to maintain pressure for verifiable high performance. Given the dynamism in energy technology and climate science, regulators should be extremely cautious about making inflexible policy commitments to specific technologies.
When policies are re-evaluated it is crucial to separate the determination of whether overall a policy merits continuation from the allocation of gains and losses if it is halted. Some party will always lose when policy changes. The regulatory or legal process can determine if losers are due compensation, but that mustn’t be allowed to lock policy into the status quo.
In the next 10 years, we will likely see more change in energy systems than we have seen in the last 50. While government policy should be fair to market participants it must also be nimble and adaptive to a changing landscape. Only with such flexibility will we be able to address the growing environmental impact and affordability challenges that we face.
Severin Borenstein is E.T. Grether Professor of Business Administration and Public Policy at the Haas School of Business. He has published extensively on the oil and gasoline industries, electricity markets and pricing greenhouse gases. His current research projects include the economics of renewable energy, economic policies for reducing greenhouse gases, and alternative models of retail electricity pricing. In 2012-13, he served on the Emissions Market Assessment Committee that advised the California Air Resources Board on the operation of California’s Cap and Trade market for greenhouse gases. Currently, he chairs the California Energy Commission's Petroleum Market Advisory Committee and is a member of the Bay Area Air Quality Management District's Advisory Council.