[BETA] Fortnightly

In his article, "The Flawed Case for Stranded Cost Recovery" (Feb. 1, 1995), Charles Studness made many good points. Yet he omitted to mention one critical factor that influenced several utilities in the late 1970s to go ahead with new coal and nuclear capacity: the Carter Administration's 1978 Fuel Use Act, mandating that utilities cease burning natural gas by 1989.

For many companies operating in the south central United States, this requirement meant conversion or replacement of most existing capacity. Conversion to fuel oil increased already high risks of supply interruption and runaway costs. And although many gas-burning units were indeed converted to oil, management "prudence" dictated the addition of at least some plants dependant on secure indigenous coal and uranium, energy sources that also promised longer-term fuel price stability.

Whether this was an appropriate strategy, given the existing circumstances of reduced load growth, is something one can debate at length. However, two important facts should be kept in mind. One is that the energy crisis of the 70's came in two stages. The first began in late 1973 with the Yom Kippur war and the accompanying Arab oil embargo, which pushed oil prices up from $3 to around $15 a barrel. The second stage began five years later with the overthrow of the Shah of Iran by the Ayatollah Khomeini, which pushed prices up to $30 to $35 a barrel and seemed to confirm the prudency of fuel-switching strategies.

The second fact is that although nationwide electricity growth declined markedly in the 1970s, it declined less in those regions served by natural-gas-burning utilities. In fact, the energy crisis actually increased demand in some parts of the nation that produced gas and oil. Electric utilities in those areas thus faced not only the fuel-conversion mandate from Washington, but a growing demand from the oil-patch industries that were struggling to reduce our energy dependence on the Middle East.

Although the requirement to switch from gas was rescinded by Congress in the early 1980s, many of the affected utilities were already deep into new construction. Moreover, the main premises of the 1978 energy legislation were flawed. Forecasts of $50 a barrel for oil and $7 per million cubic feet (Mcf) of gas by the late 1980s never materialized; prices collapsed to $12 a barrel and $2/Mcf in 1986. The costs and benefits built into the legislation were also divided incorrectly. There was a fundamental mismatch between those who realized the main benefits from the conversion strategies and those who were expected to pay for them. The latter were ratepayers in a handful of gas-producing states (such as Texas and Louisiana) that relied on gas for electricity production; the principal beneficiaries were residential gas consumers elsewhere in the country. When oil and gas prices cratered in the mid-1980s, those beneficiaries suffered no harm, while the economies of the energy-producing states plummeted. Electricity demand in those states stagnated

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