Electricity deregulation and PUHCA

This article does a decent job of laying out the issues in something that most people find pretty arcane, but is a crucial debate in electricity deregulation — repeal of the Public Utility Holding Company Act of 1935 (PUHCA). Actually, that article does a much better job of articulating the arguments against repeal of PUHCA, so here I’d like to lay out some of the arguments in favor of repeal. Public power and “consumer advocates” see PUHCA as the sole remaining consumer protection against ever-increasing corporate, private utility market power, and they would like to see the SEC enforce it more vigorously instead of repealing it. On the other hand, opponents cast PUHCA as obsolete regulation that unnecessarily stifles innovation and investment in capital that would provide better service at lower cost. So where does this debate come from?

One of the best sources on this question, and any question dealing with the history of the electricity industry in the U.S. is Richard Hirsh. Hirsh is a Professor of History of Technology and Science & Technology Studies at Virginia Tech, and is author of a fabulous book about the electricity industry’s development called Power Loss. Hirsh also wrote content for the Smithsonian exhibit called Powering a Generation, from which I quote here on holding companies and PUHCA:

To help finance the great expansion, the utility industry exploited a financial innovation known as the “holding company.” Begun by equipment manufacturers, this type of company started by accepting the relatively unattractive stock and bond issues of utilities in exchange for generating and associated equipment. Thus, nascent utilities could therefore retain cash for their operations … A favorite holding company investment among many was the Electric Bond and Share Company, created by the General Electric company in 1905, to market the securities it acquired while selling equipment to utilities.

Because the holding company now had a stake in the operating companies, they offered management and engineering services that the smaller firms could not have afforded themselves. Moreover, the holding company often consolidated the equipment and management of smaller companies into larger ones, and it helped them interconnect transmission facilities to ensure higher levels of reliability. Overall, the holding company innovation appeared to facilitate expansion of the utility industry …

During the go-go years of the 1920s, however, some of the beneficial principles of the holding company concept got lost in the desire to exploit its business structure … The scheme allowed stockholders of the top company to control the assets of operating companies with very little investment. Samuel Insull was one of the kings of these empires. In 1930, his capital investment of $27 million allowed him to control electric companies and assorted other businesses in 32 states having assets of at least $500 million … By 1932, only eight holding companies controlled almost three-quarters of the investor-owned utility business. Perhaps best of all for the holding companies, their operations usually were exempt from the investigation of state regulatory commissions, since so much of their business crossed state boundaries.

The abuses of holding companies invited a six-year investigation pursued by the Federal Trade Commission beginning in 1928 … By passing the Public Utility Holding Company Act of 1935, Congress outlawed the pyramid structure that had been at the core of financial abuses. Holding companies could remain, but they could only have two levels — one holding company on top and one or more operating subsidiaries below. Meanwhile, the law dissolved holding companies that did not contain contiguous operating utilities; earlier companies held operating companies that were scattered about the country and could not take advantage of consolidated or interconnected operation. Moreover, all interstate holding companies and practically all businesses that produced a substantial amount of electricity would be forced to register with the newly created (in 1935) Securities and Exchange Commission … By not outlawing holding companies altogether, these New Deal initiatives recognized the engineering and management value that holding companies could provide to operating companies. Nevertheless, the number of holding companies declined, from 216 to 18 in the period between 1938 and 1958, while hundreds of operating companies became separated from holding companies altogether.

So what are the arguments for repeal? In December, 2001, the House Subcommitte on Energy and Air Quality held hearings on H.R. 3406, which is the House electricity bill and is complementary to the House energy bill passed last summer (the Senate version essentially rolls together many proposals of these two House bills). This testimony from Isaac Hunt, an SEC Commissioner, laid out the arguments for repeal quite eloquently. Here are some quotes:

… because much of the regulation required by PUHCA is either duplicative of that done by other regulators or unnecessary in the current environment, the SEC continues to support repeal of PUHCA … As the SEC has testified in the past, however, we continue to believe that repeal should be accomplished in a manner that also preserves important protections for consumers of utility companies in multistate holding company systems … repeal of the Act would eliminate regulatory restrictions that prohibit utility holding companies from owning utilities in different parts of the country and that prevent nonutility businesses from acquiring regulated utilities. In particular, repeal of the restrictions on geographic scope and other businesses would remove the impediments created by the Act to capital flowing into the industry from sources outside the existing utility industry. Repeal would thus likely have the greatest impact on both the continuing consolidation of the utility business as well as the entry of new companies into the utility business.

Repeal of the Act would also eliminate any impediments that exist to other regulators’ attempts to modernize regulation of the utility industry. For example, during the past year, questions have arisen about how the Act will impact the ability of the Federal Energy Regulatory Commission (“FERC”) to implement its plans to restructure the control of transmission facilities in the United States … As a result of FERC’s new regulations, many utilities will cede operating control — and in some cases, actual ownership — of their transmission facilities to newly-created entities. The status of these entities, as well as the status of utility systems or other companies that invest in them, raise a number of issues under the Act. Most prominently, it has been asserted that the limits the Act places on the other businesses in which a utility holding company can engage will create obstacles for nonutility companies that may wish to invest in or operate these new transmission entities.

Furthermore, FERC Chairman Pat Wood testified in the same set of hearings that

Sections 111-125 of the Chairman’s proposed legislation repeal the Public Utility Holding Company Act of 1935 (PUHCA) and replace it with increased access by the Commission and state regulators to certain books and records. This is appropriate. PUHCA was enacted primarily to undo harms caused by certain holding company structures that no longer exist. In the 65 years since PUHCA was enacted, utility regulation has increased substantially under the Federal Power Act (including oversight of corporate restructurings such as electric utility mergers, discussed below), federal securities laws and state laws, all of which ensure that customers are fully protected.

Other testimony in favor of repeal is here and here. Arguments against repeal are here, here, and here.

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