Lynne Kiesling

Last week Senators Burr (NC), Landrieu (LA), and Lott (MS) introduced S.498, “To provide for the expansion of electricity transmission networks in order to support competitive electricity markets, to ensure reliability of electric service, to modernize regulation and for other purposes.” The proposed bill is at best a tweak of the Federal Power Act, and at worst a squandered opportunity to provide badly-needed leadership to move electricity policy away from its backward-looking supply-side focus. Much of the proposed change in the bill is just putting a brocade coat on the same old ROR regulation beggar, not at all a meaningful move to a more dynamic and forward-looking approach to network reliability and investment.

Title I addresses a reliable transmission infrastructure by proposing investment, incentives for investment, and the removal of barriers to competition. It also advocates transmission investment that matches costs and benefits, state autonomy in choosing industry structure, and mandatory reliability standards.

To the extent that the “investment incentives” advocated in this legislation move us away from the perverse incentives inherent in rate-of-return regulation, it may create some useful institutional change. But the text of the bill specifies incentive-based rates that provide an attractive return on equity and allow prudent cost recovery. At best that is a lateral step, but a lateral step in a dynamic economy is a step backward. We will never get optimal investment from a regulatory policy based on backward-looking, historic prudent cost recovery – it makes the utilities and investors excessively cautious and is antithetical to the way that investment incentives arise and evolve in real capital markets.

This section of the bill applies only to utilities constructing new transmission. It is utterly silent on the possible value that private transmission could bring to the power system, which is a shame because institutional change at the Congressional level is what is required to remove the substantial barriers to competition that face private transmission. For a bill advocating the removal of barriers to competition, the omission is striking.

The bill stays in the same “prudent cost recovery” rut when ordering FERC to provide for incentives to transmission owners for joining an RTO/ISO/ITC. The incentives included in the bill are all based on prudent cost recovery, and will thus not induce any policy or business model innovation.

The bill also proposes to bring unregulated transmission owners under the existing open access tariff when those assets are a substantial part of a larger interconnection. This change would make federal, municipal and cooperative transmission assets (but not distribution wires) subject to the same open access regulation as those of the IOUs.

I think the most valuable part of the proposed bill is the treatment for tax purposes of transmission as 15-year assets, with the associated accelerated depreciation, and the removal of limitations on the sale of transmission assets. This change would remove some of the tax treatment disincentives to the sale and consolidation of transmission assets, which would reduce the existing problems associated with fragmented ownership and open more opportunities for independent transmission companies to form. Similarly, the Federal Power Act’s requirement of Commission approval for disposition of assets worth more than $50,000 has been a barrier to the transfer of transmission assets, and this bill proposes repealing that requirement. Repealing that requirement, by enhancing the transferability of the assets, is likely to make the property right more valuable.

The bill’s reliability section specifies that FERC would have jurisdiction over EROs (electricity reliability organizations, which the bill defines), regional entities (RTOs, ISOs), and users of the bulk power system, and would be able to enforce mandatory reliability standards. FERC will have the power to mandate just, reasonable, non-discriminatory reliability standards. Such power presents the risk of mandating a uniform reliability standard for all customers, even though different customers value reliability differently, and the technology exists to enable energy service providers to provide (and charge for) different levels of reliability. Forcing all customers to consume the same level of reliability will not optimize transmission investment and will not be cheap; it is a static solution to a dynamic set of problems, and as such will quickly become obsolete.

Title II claims to focus on protecting retail customers. It starts by specifying the transferability of firm transmission rights among load-serving entities to accompany the transfer of load service obligations. This sounds like a useful clarification of the property rights attached to FTRs.

The bill also specifies that when transmission construction is approved by FERC, the cost allocation method will be specified, and can be direct assignment, participant funded, rolled into regional or sub-regional rates, or some other cost assignment method. The bill stipulates that FERC’s obligation would be to evaluate whether or not “those who benefit from the transmission service related expansion or new generator interconnection pay an appropriate share of the associated costs”.

It seems that the sense in which Title II of the bill protects the retail customer is in trying to make sure that retail customers do not pay for transmission construction that they do not require and from which they do not benefit. OK, fine. But that issue is so small in significance compared to the great benefit that customers could provide to the reliability of the transmission network if instead Congress focused on removing the most onerous existing barriers to retail choice and demand response that find their origins in the Federal Power Act and the monopoly powers that it confers on utilities. One of the biggest barriers to competition in the industry is the monopoly protection codified in the Federal Power Act, and though this bill purports to remove barriers to competition, it does not address the obvious, glaring barriers facing retail choice.

Title III of the bill tackles the controversial question of participation in RTOs. It seems to begin well, saying that FERC should favor voluntary participation in RTOs in which the participating utilities approve the structure and market processes undergird the investment process. If intended as a frontal attack on FERC’s Standard Market Design proposal, it is not as aggressive as I expected.

This bill has its origins in states that have not been friendly to competition in this industry, and the substance of the bill reflects those origins in its superficiality. The most damaging barriers to competition are the overly-cozy relationships among utility executives, state regulators, and state legislators. This bill does nothing to untie that Gordian knot.