Over the past few blogs, I have taken a look at electrical utilities in NH and at the State's largest electrical utility, PSNH, in particular. I have also highlighted the regulatory compact that exists between a state and its public utilities. That compact can change through policy changes, so in this post, we take a look at the start-and-stop process of electricity deregulation in New Hampshire and how it has impacted PSNH.
Until 1996, PSNH's business model was pretty simple, as shown in the figure below. It was a regional monopoly, solely responsible for generating, transmitting and distributing electricity to consumers within its franchise area. It totaled all the costs associated with its services (generation + transmission + distribution), built in its regulated return on assets, divided it by the number of kilowatt hours of electricity sold and came up with a price for supplied electricity. This price then had to be reviewed and approved by the New Hampshire Public Utilities Commission (NHPUC). PSNH was the classical, vertically integrated, regulated utility company.
In 1996, however, in response to high electricity rates and the electricity deregulation wave that was sweeping the country at that time, NH deregulated the electricity business and introduced competition into the generation (or electricity supply) part of the business. The logic behind deregulation was that competition would remove the monopolistic position of the electrical utilities, it would increase competition, and the outcome would be lower prices for electricity and more services for consumers.
At the same time, it was recognized that, while the electricity generation side of the business could be opened up to competition, the other two parts of the electricity business—transmission and distribution— should remain as monopolies. In the primer on public utilities, I pointed out that one of the reasons for allowing monopolies in the provision of public services, such as electricity, is that it avoids the congestion problem: if we allowed competition in the transmission and distribution of electricity, our state would be crisscrossed with transmission towers and power lines from different companies and our streets would be cluttered and festooned with wires and poles from different distribution enterprises - perhaps like the picture below.
An essential aspect of deregulation was that the public utilities should get out of the generating business altogether and sell off their generating assets as it was determined that true competition could only arise if the monopoly controlling the wires did not run their own product (electricity) through their wires. The concern was that the entity that owned the transmission and distribution network would naturally favor their own generated electricity and would put up overt, as well as subtle, barriers to competition. That was the initial deregulation plan for New Hampshire and so electricity restructuring in NH required the utilities to sell their generating plants.
But then in 2000, there was a major bump in the road to deregulation.
California was one of the first states to deregulate electricity supply in 1996. The California utilities had to sell off their generation assets and they were also prevented from setting up long-term power supply agreements with generators. Moreover, retail rates for many consumers were capped but wholesale rates were allowed to float. It soon became apparent that this system was very fragile and ripe for being gamed. Electricity suppliers rapidly figured out that closing down of in-state plants, for maintenance or other reasons, would increase wholesale power prices and increase their profits. This, combined with dry weather, which created a shortage of imported hydro power, led to electricity supply shortages in California, blackouts and sky-high wholesale prices in 2000 and 2001. With a cap on retail sales in some areas, utilities soon found themselves selling retail electricity at lower costs than they were purchasing at wholesale. Clearly this could only last so long: it ended up crippling some of the larger California electricity utilities and driving one of the largest, Pacific Gas and Electric, into bankruptcy.
The State of California declared a State of Emergency and had to scramble to set up long-term power purchase agreements to ensure electricity supply — at an enormous cost to California rate payers. Much of the blame was subsequently leveled at Enron, who were accused of market manipulation. Careful reading of the California electricity crisis, however, indicates that market manipulation was only one of many causes of the problem. Poorly constructed deregulation policy seems to have been the more important aspect. Regardless of the reasons, electricity deregulation in California was viewed as little short of a disaster.
NH legislators had the benefit of observing California's travails from afar and quickly took their foot off the deregulation pedal and in 2001 the State delayed the divestiture of PSNH's non-nuclear generating assets. This left NH with the hybrid system, or partial deregulation, that we have today, with competition in the supply of electricity but with PSNH also supplying electricity from its own generating assets. The structure of the electricity business in the PSNH franchise area now looks like the figure below.
We now have 18 competitive electric power supply companies and 92(!) aggregators who have the opportunity to offer competitive prices to their customers. Their prices are based on market rates and whatever supply agreements these companies can establish. We also have PSNH supplying electricity to its customers, but this price is regulated and is calculated on the basis of the costs required to run their generation facilities and guaranteed return on their generation plants divided by the amount of electricity supplied. As a regulated supplier of electricity with high fixed costs due to their generating facilities, the cost basis for PSNH's electricity is therefore higher. As a result many PSNH customers have migrated to lower cost competitive suppliers, leaving PSNH with less customers over which to spread these costs — which then drives their costs for electricity even higher.
In the table below, I have provided a sampling of the residential electricity supply rates in New Hampshire which include those from other NH electrical utilities as well as competitive suppliers in the PSNH franchise area.
As can be noted from data in this table, PSNH's standard rate for electricity supply (referred to as their default rate) is higher for their customers than that of competitive suppliers as well as other NH electrical utilities. This has now become cause for concern for legislators and regulators alike. Earlier this year, NHPUC commissioned a report to review the situation and their recommendation is that the State needs to complete the process of deregulation and compel PSNH to divest their generation assets. PSNH strongly disagrees with this position, as shown by Gary Long, the previous long-term CEO of PSNH, in his recent testimony and in a PSNH report. Completing deregulation and getting PSNH to divest their assets is a perennial issue in NH politics, but the argument has become far more intense during the past two years due to the flood of customers leaving PSNH for cheaper electricity supply rates and the increasing burden the remaining customers face via increased energy service rates.
There are good reasons for and against divestiture on both sides. I have attempted to summarize below the main points for and against compelling PSNH to sell of its generating assets.
Arguments for Holding onto Generating Assets
- Deregulation in California was a disaster for the state and for some utilities that went bankrupt as energy supply companies were able to game the system. This would not have occurred if utilities had been allowed to hold onto their generating assets.
- Many states have pulled back from deregulation or have not completed their deregulation plans. Only 15 states offer retail choice.
- Owning generating assets like hydro and coal-fired power stations allows the diversification of energy supply, which better serves NH customers as energy commodities go through different cycles of high and low prices.
- Reliability of electricity supply could suffer because the only motivation for independent power producers is profit. If it is not in their best interest to supply power at market rates, they can simply turn off their generating plants.
- PSNH provides a safety net for its customers. If you cannot or do not sign up with any of the other providers, PSNH is obligated to serve you. The generating assets are part of that safety net.
- High energy service rates in NH are more a result of policy created by law makers than PSNH's doing.
- The region has become heavily dependent on natural gas, for which there is no storage. Any interruption of natural gas supply, such as a pipeline problem, will have an immediate impact on electricity supply. Coal plants have at least some stocks of coal on site.
- Divestiture can result in a increased costs to all PSNH customers increase because PSNH would need to be compensated for lost returns on the sale of the assets via stranded cost recovery.
- Winter energy prices for New England would be higher if PSNH did not continue to operate their plants especially during the high demand winter months.
Arguments for Divestiture:
- The original intent of deregulation was to have all electrical utilities sell their generating assets. PSNH is the only utility not to have done so and, to complete the deregulation process, they must be compelled to divest the generating plants.
- If PSNH owns their own generation operations, they will be likely to favor their own generating plants and make it expensive and challenging for competitive suppliers of electricity.
- There has been considerable migration of customers away from PSNH, which has led to PSNH distributing the costs associated with its generation operations over a smaller and smaller group of remaining customers, which will continue to increase the costs for electricity supply to these customers. Higher prices will, in turn, prompt further migration away from PSNH, and eventually leave PSNH with no customers. This has been characterized as the PSNH "death spiral".
- PSNH energy customers are paying higher than market rates due to the generating assets. This is taking money out of NH consumer pockets and passing it onto PSNH, their parent company, Northeast Utilities and their shareholders.
- PSNH coal-generating plants are polluting, expensive to run and sit idle for a great deal of the time, but they still earn a continuous and assured return for their shareholders which is extracted from their energy customers.
- NH ratepayers are the only New England rate payers that are on the hook for paying the costs of utility-owned electricity generation plants.
- Reliability and resource adequacy of electricity supply is not the responsibility of one utility. We have a regional electrical grid shared by the New England states and as such is the responsibility of the regional grid authority, the Independent System Operator – New England, also know as ISO-NE, to maintain reliability and supply adequacy.
It is important to note that I am not making judgments on the merit or correctness any of these "Should I Stay, or Should I Go?"* arguments. Indeed, each one of them is worth its own blog posting, hours of legal debate and a thick consultant report. They are simply some of the for and against reasons that have been advanced in this debate. There are, no doubt, some that I have missed, so if you see a big omission in the listing of arguments, please share it with me.
This knotty situation is further complicated by the fact that the generating assets are listed on the PSNH books at $674 million and, in the present coal-unfriendly and low-priced natural gas environment, it is unlikely that buyers are going to be lined up, like on new iPhone release day, to purchase PSNH's coal-fired assets. Regardless, this is a complicated issue, and it is one that the regulators and legislators in NH are presently wrestling with: one way or another, it is going to impact the wallets of PSNH rate payers.
In a future post, I will look at possible outcomes of this debate. Until next time, remember to turn off the lights when you leave the room—even if you do have cheaper electricity from a competitive supplier.
Franklin Pierce University
(*Should I Stay or Should I Go - A fine 1982 tune from The Clash, my second favorite British punk group off their appropriately titled "Combat Rock" album. Rated at 228 on Rolling Stone's "The 500 Greatest Songs of All Time" list. That's about right, I'd say.)
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