Energy & Utilities: Lets start by taking a look at the
state of the electric utility industry marketplace as it relates to congressional
debates over reducing carbon dioxide emissions.
Alan Richardson: Congressional action on climate change will
have a huge impact on the electric utility industry. Most APPA members of APPA
acknowledge the scientific reality that human activity contributes to climate
change as well as the political reality that Congress is going to deal with
the issue in some fashion. The APPA has endorsed a set of principles that we
think must be included in any legislation that Congress enacts. For example,
we believe that any legislation should apply to all sectors of the economy;
place an enhanced and economywide focus on energy efficiency; consider the financial
impact on consumers; preserve a diverse mix of fuels for the generation of electricity;
and take into account the impact on the economy and jobs within the U.S.
There are a few options that Congress
might use to limit greenhouse gas emissions.
One is the cap-in-trade approach, where the
government would set an allowance of a number
of metric tons of carbon that could be
emitted into the atmosphere, and then if youre
short you buy allowances from others, and if
youre long you sell. Another alternative is to
impose a tax on carbon that ramps up over
time until its more painful to pay the tax than
it is to find alternatives to emissions reductions.
Straw polls of my members suggest they
find a tax approach much easier to administer
and more equitable. And its more compatible
with the idea that you need an economywide
program that doesnt put all the burden on one
sector of the economy, electric utilities, just
because thats the easiest one to deal with.
The method Congress selects will affect the
industry in a couple of ways. If theres a carbon
tax, costs will increase to reflect this fact.
Its going to increase the cost of doing business
for every utility that generates electricity
using fossil fuels. But it will also affect other
segments of the economy, such as individuals
who drive their automobiles and have to pay
a little bit more for gasoline. If Congress
selects a cap-in-trade approach, we need to
create a new market for emission allowances.
For electric utilities in some regions, this market
will be superimposed on top of complex
wholesale electric markets set up by regional
transmission organizations or independent
Weve been very concerned about the
dysfunctionality of those wholesale markets
and the relative ease with which they can be
manipulated. More important, the prices were
seeing in those markets are not what we would
expect to find in truly competitive marketplaces.
For example, the last unit of generation
needed to meet electric load at any point
in time sets the market clearing price for all
other generation sold at that time. If emission
allowances must be purchased in order to
generate that last bit of electricity, then the
cost of those allowances will increase the
cost of all other generation. So tying back to
the climate change issue, one of the many
things that concerns us about the cap-in-trade
approach is the superimposition of a new market
for carbon emissions on top of these organized
wholesale markets, making the whole
process that much more complex, difficult to
manage and more costly for all consumers.
E&U: What has restructuring achieved in terms of lowering
prices and providing incentives to invest, and how has restructuring affected
American businesses and consumers in terms of prices and access to a reliable
supply of electricity?
AR: There were great promises of lower rates, better service
and more innovation through restructuring the markets and getting the regulators
out of the way. Over the past several years, a number of studies have purported
to show that, indeed, those results have been achieved. Some of these studies
show billions of dollars of savings for consumers. My members havent seen those
savings. In fact, if anything, they are experiencing higher costs for wholesale
power. The APPA commissioned Northeastern University Professor of Economics
John Kwoka to look at the validity and accuracy of those studies and the conclusions
reached. His analysis found that none of the studies withstood scrutiny and
that policy makers should not be relying upon those results when they decide
whether consumers are better or worse off under restructuring.
As far as reliability, some observers
have suggested that restructuring has
adversely affected operational reliability
because power generators are
focused almost exclusively on profits.
There may be some truth to that, but
there is another problem, particularly in
these organized markets, and that is the
failure of investors to come forward to
build the new generation or transmission
infrastructure necessary as we move
further into this century. The markets
simply have not been providing the kind
of incentives to investors that were predicted
at the outset, and now weve got
concerns about whether there will be
enough generation to meet tomorrows
needs. Therefore, public power systems
that historically relied upon the market
are now realizing that it isnt producing
what they thought it would and what the
economists thought it would, and there
is a tremendous push within my membership
to move forward with building new
generation on their own.
E&U: How did Congress address the electricity marketplace
in its umbrella Energy Policy Act of 2005?
AR: It did a number of things, some of which are perhaps a
little contradictory. You can look at certain parts and say the Energy Policy
Act supported the promotion of competition in the electric utility industry,
at least in the wholesale markets, while other parts of the Act suggest Congress
isnt ready to rely solely on competition to set rates and protect consumers.
Congress repealed the Public Utility
Holding Company Act on the assumption
that it was an impediment to competition
and investment in new facilities. Were
not necessarily seeing investment in new
facilities now, but instead, were seeing
acquisition activity among entities that
previously would not have been allowed
to enter the electric utility industry in the
first place. Consider the private equity
firms that are attempting to purchase
Texas Utilities (TXU). These venture
capitalists see opportunities to acquire
utilities. The typical VC pattern is strip
and flip buy companies, strip them and
sell them at a profit. This may be profitable,
but it is not suitable for an industry
as critical as the electric utility industry.
Repealing the Holding Company Act has
allowed introduction of new players into
the electric utility industry whose interests
are not likely to be consistent with
the best interests of electric consumers.
E&U: What is FERC doing to meet its congressionally mandated
mission to ensure electricity rates are in fact just and reasonable?
AR: Well, they recognize that that they have this responsibility,
but its not clear whether they are exercising it to the fullest extent possible.
We would like to see them be more active in examining the relationship between
prices paid for power on the wholesale market and the actual cost of production.
The commission is assuming that competitive wholesale markets will produce results
that meet the statutory definition of just and reasonable. If we were dealing
with widgets or oranges, that might well be the case. Competition usually does
produce that kind of result for those kinds of commodities. But the electricity
marketplace is fundamentally different. Electricity isnt really a commodity;
its more of a phenomenon. It is a necessity for which there is no substitute,
and there is a limited number of sellers. It is difficult to rely on competition
under these circumstances. The commission needs to be looking at this more carefully,
and we have been encouraging it to do so.
E&U: Are higher fuel costs the explanation for higher
AR: Thats another one of the arguments that has been used
to justify the increased prices being charged in RTO- and ISOmanaged wholesale
markets. We have taken a close look at this issue. Its clear that fuel costs
have risen and that rising fuel costs do increase the cost of generating electricity.
But its not clear that higher fuel costs alone are responsible for the higher
prices that are being paid, particularly in the organized markets. As I mentioned
earlier, the methodology for setting the price in these organized markets is
a single-bid clearing price auction the last generator to be dispatched to
meet the load within a particular area sets the price for all other generators.
High-cost natural gas-fired generation is frequently the last generation unit
dispatched and the cost of that generation sets the price for lower-cost generation
from coal or nuclear plants.
E&U: What lessons are we learning from Europe about its
marketplace approach to CO2 reduction, and how do we apply those lessons to
U.S. policy to hold down electricity costs?
AR: I hope were taking time to learn lessons from Europe.
Theyve employed a very complicated cap-and-trade approach, and theres a great
deal of momentum here in the U.S. behind cap-and-trade too, particularly on
Capitol Hill. There are about 12,000 emitting sources that are subject to the
European Union (EU) cap right now, accounting for about 50 percent of carbon
emissions. That leaves another 50 percent that are not covered by the cap-and-trade
program. Its hard to slow, stop and reverse emissions of greenhouse gases if
you are only dealing with half of total emissions. We can avoid this problem
in the U.S. if Congress endorses our principle that any legislation must cover
all emitters in all sectors of our economy.
Another problem in the EU is that
theres no single monitoring or enforcement
source to make sure those with allocations are abiding by the allocations, that
they are emitting no more than allowed
to emit by law or that they are purchasing
allowances when necessary. There were
also too many allowances given out in
the EU when the cap-and-trade approach
was first introduced, meaning they were
allowing more emissions than they should
have and the price fluctuated wildly as a
consequence. And there were some costly
mistakes for consumers. For example,
some of these allowances were given away
free to electric utilities that turned around
and calculated the price of the emissions
in the marketplace and added that price
to the power they were selling to consumers.
They got a windfall at the expense of
consumers. If Congress does embrace a
cap-and-trade approach, it should protect
against behavior such as this.
E&U: It sounds like we can learn from the mistakes of
the EU experience as well as any smart things theyre doing.
AR: Many people say this whole capand- trade approach is similar
to what we used for controlling sulphur dioxide several years ago. Youll hear
the argument that we did it for acid rain, we can do it to reduce greenhouse
gas emissions to address climate change. But with acid rain, we had a relatively
discrete number of emitting sources, mainly stationary power plants. We had
technology available for putting things on the end of the combustion cycle that
would capture the SO2 , and weve been able to monitor how well that technology
works. Plus, we had the EPA, a federal agency that was able to enforce the emissions
limits. Even under these conditions, however, some companies tried to game the
As mentioned, the EU has a multitude
of emitting sources. The U.S. will have to
deal with the same problem if we go to
a cap-in-trade approach with CO2 . Well
have thousands and thousands of emitting
sources and no clear way of ensuring that
theyre abiding by the rules. Then we have
the question of how those allowances will
be allocated. You can bet the infighting
will be fierce in Congress as various industries
scramble to make sure they get their
allowances. But since there will be an absolute
limit on the number of allowances, for
every winner, there will also be a loser.
E&U: As it legislates CO2 policy, what kinds of considerations
must Congress take into account in relation to the electric power grid and how
the marketplace is currently organized?
AR: Energy drives our economy. But we dont yet know how to
capture and store carbon on a commercial scale, and there are many, many questions
that must be answered. Environmental policy and technology must proceed in tandem.
Congress shouldnt set emission targets that simply cannot be met. Much research,
development and deployment of potentially promising technologies will be required
in our search for answers. Congress should ensure adequate funding for these
activities. Congress should measure alternative means of mandating emission
reductions, based on how simple, efficient and equitable they are. From my personal
perspective, this suggests a greenhouse gas tax rather than a cap-and-trade
approach. And as far as the electric power marketplace is concerned, Congress
should take into account what the consequences for consumers will be if they
do decide to superimpose an emission allowance market on top of the RTO- and
ISO-managed wholesale electric markets.