An ode to the customer, the measure of all things.
For years we have debated the legitimacy of allowing electric utilities to recover their "stranded costs" as absolution for past indiscretions now deemed useless in the face of competition. Regulators now have come to accept this idea, but have they overlooked something? Is it not the ratepayerseven more than the utilities-who are now owed something, with at least a color of law supporting their claim?
The original idea was that utilities had won approval back during the for plants and contracts now seen as out of the money in the Brave New World of market competition. These assets literally would be strandedlike a beached whalein a situation where the wholesale price of electric power, established by competition, was too low to keep these expensive sources of power afloat. So it was thought to be fair by many economistsespecially those retained by utilitiesto allow utilities that had invested in these expensive assets under a "regulatory compact" to recoup their losses. This recoupment would come through extra charges assessed during the transition to wondrous competition. And of decisive importance, the incumbent electric utilities bought in to the deal. "Give us our stranded costs," they said, "and we'll accept the loss of our monopoly franchise without a murmur."
Of course, there were soreheads who opposed the whole idea of the utilities recovering stranded costs. They believed that these behemoths should be treated just like everyone else who made investments that didn't pan out. But the utilities pledged to turn over a new leaf. "Please treat us differently just this once," they said, "and we'll promise to get competitive forever after. If we get our stranded costs, there won't be anyone else more wild about deregulation than we are." The utilities beat their breasts and asked forgiveness for the mortal sin of monopoly. (But how could it be a sin, if electricity was a "natural" monopoly?) They tore their garments in contrition and avowed never again to mention the obsolete concept of reliability. Instead, they would devote themselves to reform and innovationthose twin pillars of glorious progress.
All that was theory; now we have it reduced to painful reality in California. No stranded assets there, however. The state is so short of power that I presume every tea kettle capable of generating a kilowatt-let alone a megawatt-of juice is being pressed into service. And the price of wholesale power has climbed so high that I assume it has made every source of electricity not only viable, but cherished as a pearl without price. The rising tide has lifted all boats, even the leakiest. The generation of electricity, once scorned as the work of fools, is now profitable beyond even the monopolist's fondest dreams. Paradise has arrived, so why complain? The answer is simple, though increasingly awkward. Instead of stranded assets, we now have a new phenomenon the stranded ratepayer.
Why the Price Cap Was Right
By way of analogy, suppose ratepayers, for their part, had installed electric baseboard heating or home air conditioning in reliance on a regulated residential rate. Should that not be a defense to nonpayment of an electric bill calculated at three times the regulated level because deregulation has intervened? Everyone but an economist would honor such a defense. The residential ratepayer claims to be party to a bargain. He asks only that the bargain be kept. It was the industrial users who sought deregulation. They had the savvy and the resources to shop in the marketplace for the cheapest power. But the residential ratepayers, without the potential to shop, saw no such pot of gold. When the time came to pass a deregulation law, the ratepayers were coaxed along by the promise of a rate cut, plus the commitment to keep rates capped for some time to come. So now it is not surprising that these same ratepayers feel besieged by demands for a rate increase. They feel strandednot high on a sandy beach, but instead, on a rocky reef, now shown on the charts.
So, why do economists and editorialists say it was a terrible mistake to deregulate the wholesale market, but leave price caps on retail rates? The critics don't seem to understand. The entire program would have ended in some legislative waste basket without this nice little sweetener for consumers. How much political sex appeal would there be to an arrangement that called for retail rates to be uncapped and to rise in lockstep with wholesale prices? Don't forget that ratepayers can vote. Retail price caps might make no economic sense, but they passed political muster with flying colors. It is wholly fitting to think of stranded ratepayers as a complement to the stranded costs so cherished by utilities.
Why Force Customers to Conserve?
It is interesting that these same economists who see a disconnect in California between wholesale and retail prices (propelling the distribution utilities toward bankruptcy) still prescribe much higher retail rates as the proper remedy for what ails the state. For the most part, these economists neither pay electric bills in California nor depend on the favor of California voters. Yet they speak lightly of putting fresh burdens on Californians. The economists and their minions also argue that, apart from saving the distribution utilities from bankruptcy, higher retail rates would signal consumers to cut back on their power consumption. Let them stumble about in the dark, wrapped in blankets against the cold, or retreating to the basement in August, trying to cool off. If conservation is so great, why haven't we raised rates to the sky before this?
When the Federal Energy Regulatory Commission held a hearing in San Diego last summer, after rates had spiked in that city, the commissioners of the California Public Utilities Commission appeared as witnesses. They pleaded piteously for at least a temporary reinstatement of "just and reasonable" wholesale rates as developed by tried and true methods under the Federal Power Act. Go back to cost-based rates, they said. They spoke for consumers, and believed that consumers would see cost-based rates as fair. Their pleas were echoed by California officialdom, from the Governor on down. State officials even had the gall to ask for refunds of charges made in excess of "just and reasonable" levels. Coming as a surprise to no one but the economists, the California ratepayers apparently did not think of the rate spikes as "fair" or "just and reasonable."
Why Cost Counts
We have heard ad nauseum that a price set in a competitive market is efficientthat such a price will bring supply and demand into balance. But is such a price "fair?" Is not a cost-based regulated price fairer and more "just and reasonable?" I guess that we moderns have been conditioned to trust implicitly in marketsthat "competitive" prices make for both efficiency and justice. Certainly that is the thesis for the antitrust laws. Those laws are concerned with the workings of the market process. A price emerging from a properly competitive market is deemed efficient and fair in the eyes of the law. So it is intriguing that ratepayers are hesitant to accept this gospel. The reasons, however, are not difficult to guess.
First, ratepayers are understandably loath to think of the price of electricity in market terms. That the prices of electricity futures have begun to appear in the financial section of the newspapers is no big deal for ratepayers. If pressed, ratepayers would probably tell you that rates ought to track costsprovided that the costs aren't phony. That is the way regulated prices are arrived at. But, of course, market prices also are supposed to approximate cost in the long run. Unfortunately, ratepayers don't know if they'll be around for the long run.
A second and related reason also underlies consumer misgivings over the preaching of economists. Consumers are skeptical-and justifiably sothat markets, particularly electricity markets, can be made free of manipulation. With economists looking under the bed for "market power," this attitude of consumers is understandable. Perhaps ratepayers are just dunderheads. All the same, it will prove very difficult to persuade them that price spikes caused by shortages are the proper product of a competitive market. Moreover, quite aside from the question of market manipulation, consumers simply are not prepared to concede that there is anything "fair" about prices that far exceed cost, even if they merely reflect a demand out of sync with supply. If that condition persists, consumers will suppose that it isn't by accident.
Is it any wonder that ratepayers feel quite stranded? With apologies to Shakespeare, is it time to kill all the economists?
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