Time to rewrite the regulatory compact

At a time when vitally important decisions are being made in regard to energy and the environment, Michigan needs to rethink its historic relationship to electric companies.

More than 100 years ago, when electric power for the masses was beginning to appear possible, the industry standard business model for electric companies had evolved around the idea of central power generating plants and large scale power distribution systems. Those infrastructure projects were hugely expensive. Understandably, investors were not enthusiastic about the capital commitments required for this construction without some demonstration of the investment’s ability to generate revenue from electric customers. On the flip side, until the systems were constructed and in operation there could be no demonstration of the revenue potential of the industry. Railroads faced a like dilemma, ultimately solved by government grants in the form of free land to help finance construction.

Eventually, politicians and financiers together came up with a plan: by law, if utility companies invested money in their businesses, they would be guaranteed a monopoly over their customers, whom they could charge rates high enough to pay the utility a return on investment sufficient to attract all the capital they required.

This concept ‒ sometimes called the regulatory compact ‒ served its purpose to prove the viability of electric service as a business. These days, hundreds of companies operating without the benefit of the regulatory compact are lining up to build power plants, especially energy projects powered by wind and solar energy not favored by traditional utilities.

Under utility ratemaking principles used in Michigan and elsewhere, the only way utility investors can make money is by investing more capital, because every other expense of running their business is merely passed through to customers dollar for dollar. Those investments and returns are paid to the companies a tiny bit at a time with each kilowatt-hour of electricity they sell.

While the regulatory compact effectively solved the dilemma of getting utility companies to invest money in electric infrastructure, it created the fresh problem of getting them to stop.

Now we need to make decisions about what will become of existing infrastructure invested in by utilities with the understanding that they would recover the full amount of their investment, with an attractive return, in future electric rates. And we need to decide what investments will be made in new infrastructure, who will pay for them and how utilities will be compensated for whatever role they are to play in financing, building or operating those assets.

It should be clear that utility managers and directors are motivated by the regulatory compact to spend as much money on any new facilities as they can; in fact they may be legally bound to their shareholders to do so. It should also be clear that maximizing investment in new facilities may or may not in the best interests of their customers from an economic point of view.

Even more important than the misalignment of financial interests between utilities and their customers is the simple fact that, in the main, nonfinancial considerations are not intended to figure into utility decision making. Global warming and the cost of curing people sickened by pollution have no formal place in utility or Public Utility Commission decision-making except to the extent that both groups are political animals and find it politically advantageous to occasionally say the “right” thing.

The bottom line is this: If we choose to let utilities make or even participate in making decisions that are so fundamental to all of our well-being, we have to take away their bias toward ever more consumption and investment. Rather than rewarding utilities for spending the greatest amount of money they can find justifications for, we have to align their interests with the rest of us. Let’s start right away to negotiate a new regulatory compact that will compensate utilities on the basis of minimizing energy use, reducing pollution and reducing reliance on energy sources that endanger people and the planet by the ways they are produced, transported and used.

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Comments

Barry Visel
Tue, 12/08/2015 - 10:29am
Okay...good background. So, what's your proposal?
Rick
Tue, 12/08/2015 - 12:46pm
This is a good conversation starter. Yes, a new paradigm is needed. Business as usual won't work. It would be nice if Mr. Kershner had laid out some more detailed thoughts (it appears he has the experience to make them) on what this 'new regulatory compact' would look like. All I see now in Lansing is more the same old 'protect our monopoly' stuff and a legislature that will continue to play along and not think about the future or its citizens. Just campaign $s.
Charles Richards
Tue, 12/08/2015 - 4:19pm
Mr. Kershner says, "Under utility ratemaking principles used in Michigan and elsewhere, the only way utility investors can make money is by investing more capital, because every other expense of running their business is merely passed through to customers dollar for dollar." That is not quite correct. It would be more accurate to say, "the only way utility investors can make more money is by investing more capital." Investors are pretty much guaranteed a return on existing invested capital. There Is no need to invest more capital in order for investors to secure an adequate return on existing capital. He is subtly misrepresenting the situation. He is also being misleading when he says, " in the main, nonfinancial considerations are not intended to figure into utility decision making. Global warming and the cost of curing people sickened by pollution have no formal place in utility or Public Utility Commission decision-making" Has he forgotten the existence of the Environmental Protection Agency? Every utility has to deal with ever stricter pollution limits.
Duane
Tue, 12/08/2015 - 9:55pm
Mr. Kershner is so concerned with the possible bias of the utilities that he fails to see his own bias. He seems so preoccupied with control of the utilities he shows no interest in results. This makes me wonder if he even knows what he wants. Does he want politically correct ‘green’ electricity or does he want reliable electricity? Does he want an electrical network that is accountable or one by the government [like our roads infra-structure]? I would encourage Mr. Kershner to decide what he wants the electrical network to deliver before he takes control. Mr. Kershner needs to decide whether the electrical infra-structure will be better having engineers or lawyers deciding how Michigan gets its electricity. Does he think electricity follows the laws of science or the laws of the court? If Mr. Kershner were truly interest in a cost effective, ever improving, sustainable, accountable electrical network he might start with describing the those results before choosing the regulations/rules for the electrical network. He should learn the difference between prescriptive and performance regulations. I have found engineers more innovative and results focused while lawyers are more controlling and more about the past [precedent]. The innovations I have seen in our lives have been from creativity and not from regulation. Does Mr. Kirshner want results from a reliable of Michigan electricity network or is it only about control?
Rodger Kershner
Wed, 12/09/2015 - 2:11pm
Barry and Rick, There are 2 aspects to this problem: what to do about investments made under the old order and what the new order should be. As to previous investments, we have a model to go by. When electric sales were deregulated in 2000, some utility assets not yet paid for were rendered less useful (these were the "stranded assets"). To the extent the unrecovered investment in stranded assets was less than the post-deregulation value of the assets, utilities were made whole by a process that allowed rate payers to reimburse the difference over many years. That might be a starting point. Devising a new order will take much careful thought and exchange of information and views. I can think of a few ideas to explore, but the idea is to arrive at a system for weighing economic factors vs. non-economic. This will be tough, but there is no justification for not trying. Charles, I don't agree that investors are indifferent to future investment potential. On of the most attributes of an electric utility that makes it valuable is that it is a machine for producing an endless stream of good investment opportunities. And think about what would happen if all of a sudden, under the present system, there were no more investments to be made. When the entire amount invested in existing assets was returned to investors the company would become a non-profit. Who would care how the company was run? Who would pay the directors? It is true that the EPA limits the utility's choices, but it does not make choices for the company. Duane, I don't see why anyone needs to choose between green and reliable, or between engineers and lawyers.
Duane
Wed, 12/09/2015 - 5:02pm
Rodger, I agree, we shouldn't have to choose, engineers have proven they can do both. When 'green' displaces customer service, electical quality, delievery, reliability, as the government factor then the choice has been made. The reality is that engineers were working on making things more effective/more efficient long before 'green' became politically correct. When 'green' is used as the justification for control over performance then a choice has to be made. If what Mr. Kershner suggests [" If we choose to let utilities make or even participate in making decisions that are so fundamental to all of our well-being, we have to take away their bias toward ever more consumption and investment."] is to the exclusion of operational delivery and customer use then it isn't about results and the end user's service, it is about control. When it becomes about control then it becomes about lawyers, all government actions are controlled by lawyers, they write, they edit, they go to court to enforce controls. Engineers are about results, about how to manage technology, how to utilize science. If the choice is results vs control, that makes it a choice between engineers or lawyers.
Stephen Brown
Wed, 12/09/2015 - 3:01pm
What about a robust net metering law, as exists in other states?
MM
Thu, 12/10/2015 - 3:00pm
We need a new compact - The FUTURE is here and We all must decide if want the future or will be forced by old concepts into being the last in the Country to have clean air and water and end the past ways of dirty power. A robust net metering LAW that requires any and all that want to generate electricity at Homes, by Solar, Wind, and that they Utilities are required to buy it at a fair price. Second, We need to encourage solar Statewide so We have a distributed system and with more elec. cars, there is the storage and so that each and every House can generate power incentives must be repourposed from Utilities to Consumers to underwrite the purchases/installation of Home Solar Panels. The old time Utility is still needed for backup and nighttime power, and with Nat Gas. is is cheap and clean(er). So they need to be forced to COMPETE as the paradigm changed and they (Consumers, DTE) do not seem to get it. They cannot and should not be able to force us to continue to use (soon) obsolete generation. Retire all Coal plants asap. And as they choose to be for-profit, sometimes they loose - let them eat it. We need to make Michigan Utilities non-profit. No Monopolies any more. This is simply the writing on the wall and it is not only growing, it is accelerating as why should I pay .13cents Kwh when I can generate it for less, much less. If they were smart they would get into the Solar Business as a LEAN seller installer --if they continue their kicking and screaming, (and apparently threatening now) they can be jettisoned. I could care less if the Shareholder loose as the market has changed. Another problem with the current scheme is that with now Historically low Nat. Gas prices, Michigan Utilities are charging MORE ? Odd. The prices are cheap and they are (obviously) not passing that to the consumers. This is wrong. They best get to be Lean Companies as they have had FAT for decades. I suspect that if things do not change in a radical way in Michigan, they are just chasing the future OUT of Michigan -- people will leave; Businesses will leave or never be here to start with -- so, it really does come down to either staying in the past, or moving forward to the Future -- I choose the future for not only myself, but for the Kids and Grand Kids. Do not even get me started on these companies spending money to run TV Commercials -- this must be banned. Trying to sway people (Who no doubt will do the opposite) with nonsense TV commercials when We are paying more than the area Utilities is absurd. I think those with thought and information must be brought in - Solar is reasonable and good but it still needs a backup and nighttime for base load, right now -- but this will change soon -- so they either get with it, or get out.
Duane
Fri, 12/11/2015 - 3:46pm
MM, As much as I may want to hear more about what you are saying, you lose credditbility to me as soon as you want to deny the right of free speech simply because you don't like what is said. I think it is out of conversation over competing ideas that the better answers are developed, but I wonder when someone wants to stop people from saying what they want simply because you don't like it. That makes me wonder if you are willingly to listen to anyone or any idea that maybe different than yours.