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Utility Capital in the Twenty-First Century

What FERC might learn from Thomas Piketty and his best-selling book on wealth and income.

Fortnightly Magazine - August 2014
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To Thomas Piketty's Capital in the Twenty-First Century ,1 "attention must be paid." 2 The Parisian economist's tome has become a best-seller on both sides of the Atlantic, for good reason: Piketty has married incisive theorizing to painstaking data-crunching, to produce a lucid summary of capitalism's past and likely future.

Piketty's policy prescriptions - including a global progressive tax on capital - are controversial. Nonetheless, his empirical work (a few minor quibbles aside) has been commended by numerous well-regarded economists, and they hold significant lessons for utility regulators. In particular, they provide a useful background against which to understand the Federal Energy Regulatory Commission's recent Opinion No. 531, 3 in which FERC addressed a Federal Power Act Section 206 complaint concerning the return on equity ("ROE") allowed to New England transmission owners.

Piketty and his collaborators have pored through centuries of property and tax records to see beyond short-term fluctuations and second-order effects, so as to isolate capitalism's fundamental mechanics. 4 In Piketty's provocative analysis, those mechanics revolve around the number of years of income stored up as wealth, aggregated either globally, or by nation, or by population percentiles. For example, he shows that for pre-WWI Britain and France, this wealth ratio approached 7:1 (tradable assets equaled almost seven years' income) before the two world wars halved it, and has since substantially rebounded. In his model, and to a first-order approximation, three key ideas stand out:

• The share of annual income that goes to those holding capital equals the wealth ratio multiplied by the average rate of return on capital;

• A nation's wealth ratio will trend towards its savings rate divided by its income growth rate; and

• The rate of return on capital falls as wealth accumulates, but does not fall as fast as wealth grows, because new productive uses for capital continue to be found.

Piketty's principal conclusion is that in times of peaceful slow growth, average return on capital inherently tends to exceed average income growth. That difference keeps nations' wealth ratios on an upward spiral. It also has distributional implications, because wealth tends to concentrate as its owners accumulate their returns faster than they spend, with the wealthiest owners taking the largest and best-informed risks and therefore enjoying the highest

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