Thursday, July 14, 2011

Symbiotic, Parasitic Relationship Between Environmental Regulators And Utilities

From The New York Times, "Utility Shelves Ambitious Plan To Limit Carbon" by Matthew L. Wald and John M. Broder:
Company [American Electric Power] officials, who plan an announcement on Thursday, said they were dropping the larger, $668 million [carbon dioxide capture] project because they did not believe state regulators would let the company recover its costs by charging customers, thus leaving it no compelling regulatory or business reason to continue the program.
Environmental regulators and environmental organizations are self-sustaining entities that need ongoing polluters to justify their continued funding and existence.

Surprisingly, utilities need environmental watchdogs to justify increases to their rates and revenues.

Utilities cannot raise their rates to consumers unless their state utility regulators agree to the increase. A major basis for determining if a utility deserves a consumer rate increase is the utility's return on its capital base.

An expert economic and financial analysis comparing a utility's actual rate of return on its capital to its computed economically required rate of return on its capital base is used to determine if the utility deserves a price increase. Utility regulators and politicians do not like one sided rate increases. It is more palatable to politicians and regulators if a utility has to give something in return.

A utility can justify a rate increase in two ways.

The first is if the actual rate of return on its existing capital base is lower than its computed economically required rate of return on its capital base. This is a pure price increase without any change to a utilities business and without any new benefits to consumers.

The second is to accept the existing approved rate of return, but to increase the utility's capital base and ask for a rate increase based on applying the existing rate of return to an expansion of its capital base. Pollution reduction equipment and processes require new capital investment by utilities and increase the size of a utility's capital base.

Utilities satisfying a government mandated pollution abatement is an easy way for politicians and regulators to justify granting a consumer rate increase to a utility. Consumers get the benefit of less pollution, but the utility is allowed to get a rate increase to pay for the new pollution reduction investments including a return on the new capital invested in pollution abatement, which is a permanent increase in its revenues.

Environmental regulators and environmental groups get to promote their usefulness, and their need for continue funding, in abating pollution by a wrongdoing utility. They come out as the good guys, while the utility takes the money to play bad guy.

The public pulled the rug out from under American Electric Power and the government. Public opinion turned against man-made global warming and carbon dioxide reduction. Without public support for this abatement, and without public support for treating carbon dioxide as a pollutant, politicians and regulators knew they could not support a utility rate increase. Without a rate increase, the utility saw no economic benefit to reduce its carbon dioxide emissions.

Naively, one could blame the utility for lacking concern about the environment, but the real culprit and bad guy is that utility is subject to price controls. The utility's actions are a natural and expected consequence of doing business in a price regulated industry.

The parasitic relationship between utilities and environmentalist is a direct result of price controls and regulations on utilities. Utilities need to play the bad guy and pollute in order to increase their capital base and increase their revenues. Environmentalists, government, private and non-profit groups, get to play the good guys, go against polluting utilities, mandate the installation of pollution control equipment and justify their need for continued funding and existence.

In the end, the general public loses because utilities wait for actions by regulators and environmental groups before any action is taken to reduce the utility's negative effects on the environment.

1 comment :

  1. It should be noted that the rate of return for a utility is not "required". Rather, through a comparative analysis of utility market conditions, the regulatory authority assigns a rate of return on utility rate base which the utility has *an opportunity* to earn. The approved rate of return is not a guarantee, but reflects a theoretically reasonable return that a utility as a regulated monopoly could expect if it operated under competitive conditions. This is established in guiding case law of the Hope and Bluefield cases.