Developing a Twenty-first Century Model for Regulating Electric Utilities

Transcription

1 Developing a Twenty-first Century Model for Regulating Electric Utilities Paul Centolella, Vice President Policy Institute for Governors' Energy Advisors September 12, 2013 Beijing Boston Chicago Dallas Denver Los Angeles Menlo Park Montreal New York San Francisco Washington BOSTON CHICAGO DALLAS DENVER LOS ANGELES MENLO PARK MONTREAL NEW YORK SAN FRANCISCO WASHINGTON

2 Electric Utility Regulation for the 21 st Century Most state regulated electric rates set using conventional cost of service model Proposed in 1898 by Commonwealth Edison President Samuel Insull: all charges for services fixed by public bodies to be based on cost plus a reasonable profit. Objective: Prevent utility monopoly from charging unreasonable or discriminatory prices or providing inadequate service Static Efficiency Is cost of service regulation the appropriate model for this century? Information, communications, and other advanced technologies can produce large efficiency gains Dynamic Efficiency Electric utilities are being asked to perform fundamentally new functions: Make the grid resilient from increasingly frequent severe weather events Become a front line cyber security defender Integrate variable and distributed resources The traditional source of revenue for new investment sales growth may not be available U.S. electricity sales declined by 1.8% in 2012 and have fallen in four of the last five years. U.S. Energy Information Administration Page 1

3 Is Conventional Regulation Meeting its Primary Objective? The single most widely accepted rule for the governance of the regulated industries is regulate them in such a way as to produce the same results as would be produced by effective competition, if it were feasible. - Dr. Alfred Kahn, The Economics of Regulation: Principles and Institutions (1970) The average U.S. generation capacity factor is below 50% and average utilization of transmission and distribution assets is frequently lower U.S. Energy Information Administration Average asset utilization in other capital intensive industries typically exceeds 75% The number of reported major disturbances outages involving large numbers of customers has more than doubled since the early 1990s. - North American Electric Reliability Corporation Few commissions expressly consider the value to customers of uninterrupted service Electric utilities spend approximately 0.2% of revenue on research and development Battelle Global R&D Survey This is less one-tenth the average rate of 3.6% for all sectors of the U.S. economy and much lower than in the most productive sectors Poland United States Portugal Czech Republic Great Britian France Italy Netherlands Germany 20% 15% 10% 5% Average Minutes of Service Interruption Per Customer All Events Excluding Major Events R&D Spending as a Share of Sales Pharmaceuticals Aerospace and Defense Computers and Electronics Automotive Electric Utility 0% Page 2

4 Billion $ Is Conventional Regulation Protecting Consumers? American Society of Civil Engineers: Maintaining reliable electric infrastructure (with limited modernization) would require $673 billion in new investment by 2020 ASCE (2011) Required investment exceeds the market capitalization of U.S. Investor Owned Electric Companies U.S. Investor Owned Electric Utility Capital Spending & Free Cash Flow $100 ASCE: If utilities fail to close the investment gap As costs to households and businesses associated with service interruptions rise, GDP will fall by a total of $496 billion by The U.S. economy will end up with an average of 529,000 fewer jobs than it would otherwise have by In addition, personal income in the U.S. will fall by a total of $656 billion from expected levels by In conventional ratemaking, regulatory lag can have negative impacts on utility cash flow & earnings, becoming a significant barrier to needed investment From 2005 through 2012, investor owned electric companies experienced $153 billion free cash flow deficit (after capital spending and dividend payments) Edison Electric Institute Frequent rate cases undermine the incentive for utilities to achieve cost savings: Cost savings in one year mean lower allowed revenue in the next $80 $60 $40 $20 $0 -$20 -$40 -$60 Capital Expenditures Free Cash Flow Page 3

5 $/MWh Is Conventional Regulation Creating an Affordable & Sustainable Future? Innovation is essential to creating options for ensuring sustainable, affordable power Low carbon electric generation remains more costly than higher emitting sources Without RE < C, carbon goals (80% reduction in 40 years) are much less likely to be globally accepted and achieved $500 $400 $300 $200 $100 Levelized Cost of Electricity Neither customer participation nor the operation of the grid are designed to integrate variable renewable generation Combined Cycle Gas Turbine (CCGT) Coal Coal / CCGT CCS On- Shore Wind Off- Shore Wind Commercial Price Range Nuclear PV CSP Conventional regulation provides little incentive for utilities to innovate Conventional regulation creates first mover disadvantages Costs may be disallowed in innovation fails and utility may be criticized for failing to implement more rapidly or broadly if the innovation succeeds Utility may be subject to a lengthy regulatory review process before implementing a new system or change a previously approved practice Competitive firms can rapidly experiment, learn, and, if necessary, redirect efforts Page 4

6 What are the Existing Forms of Alternative Regulation? Rate Making Models that Lean Toward Supporting Investment Constructive PUC / utility relationship needed: May involve advance planning & after the fact prudence reviews Limited incentives to reduce costs or improve productivity and efficiency Model Examples Form Key Implications Annual Rate Case Wisconsin Forecast test year Limited efficiency incentive, administratively burdensome Capital Expenditure Tracker Pennsylvania, California, Ohio Separate rider for investments Incents investment, retains incentive to reduce other costs Formula Rate FERC, Illinois Reported costs + return on capital Little efficiency incentive, any regulatory risk reduces spending Rate Making Models that Lean Toward Incenting Efficiency Strong incentive to cut costs between rate proceedings (may share cost savings) Absent strong reliability incentives, associated with reduced reliability & inconsistent with increased investment Model Examples Form Key Implications Multi-year Revenue or Price Cap Central Maine Power, NSTAR, Ontario Price index productivity +/- extraordinary items Indices may not be representative during an investment cycle (Earnings sharing mechanism or savings reflected in next cap) Page 5

7 An Emerging Regulatory Framework: Results based, Forward Looking Regulatory Contracts U.K. Office of Gas & Electric Markets review of 20-years of price cap regulation RIIO: Revenue set to deliver strong Incentives, Innovation and Outputs, Developed after extensive multi-year stakeholder consultation Seeks to mimic competitive markets with incentives for efficiency, delivery of long-term value to customers and innovation Forward looking regulatory contract that combines: multiple strong output incentives, cost savings incentive, management flexibility on how to deliver outputs and savings, sharing with customers of earnings variances above and below target levels, and funding for innovation projects Massachusetts Electric Grid Modernization Stakeholder Working Group Commission initiated, nine month facilitated dialogue with active participation of twenty-seven stakeholder organizations Utility of the Future Today Regulatory Framework Forward looking performance based model First choice of National Grid, Massachusetts Department of Energy Resources, ISO New England, and fifteen other parties Page 6

8 An Emerging Regulatory Framework: Results based, Forward Looking Regulatory Contracts RIIO Components Eight year revenue cap based on regulatory review of utility s business plan Duration provides utility incentive to innovate Fast vs. slow (capitalization) recovery percentages set in advance utility can efficiently adjust its actual capital and operating spending Efficiency incentive: Earnings sharing mechanism Utility has continuing incentive to reduce total costs Significant output incentives for: Reliability (based on the value to customers of uninterrupted service) Conditions for interconnection Environmental impacts Customer satisfaction Social Obligations Safety Funding for Innovation: Innovation fund: Utility and 3 rd parties compete for funding of innovation projects Page 7

9 Paul Centolella Vice President 111 Huntington Ave. 10 th Floor Boston, MA (617) Beijing Boston Chicago Dallas Denver Los Angeles Menlo Park Montreal New York San Francisco Washington BOSTON CHICAGO DALLAS DENVER LOS ANGELES MENLO PARK MONTREAL NEW YORK SAN FRANCISCO WASHINGTON