EIA: deregulation could cut power costs

The U.S. Energy Information Administration reports that competition in the electricity generation business could reduce average electricity prices for end-use consumers in most regions of the U.S.

However, the EIA study warned that many of the short-term savings will be offset if state authorities mandate recovery of stranded costs, which are expenses incurred under regulation that cannot be recovered through lower competitive prices. They include investments in expensive generating plants and high-cost contracts for fuel and wholesale electric power.

The finding is significant for oil and gas producers, for whom electricity costs are a major component of operating costs, and for the rapidly evolving deregulated downstream natural gas industry, whose interests are converging with electric utilities.

Power prices to fall

EIA said in the absence of mandated stranded-cost recovery, electricity prices are expected to fall in the short term relative to where they would have been under traditional cost of service regulation.

"With 100% stranded-cost recovery, competitive prices would differ little from regulated prices over the short term. In the long term, prices will be reduced if there are efficiency improvements or other cost reductions that result from competitive pressures."

The report did not address the relative competitive prices that could be seen by various customer classes, such as residential, commercial, and industrial consumers.

EIA's analysis assumes that no supplier or consumer has the market power to independently influence prices by virtue of size or control over any important aspect of the market, such as access to transmission lines.

Short term

EIA said that in the short term, without recovery of stranded costs, the effects of full-scale competition could reduce electricity prices across the U.S. by as much as 8-15% (including the price reductions already seen from limited wholesale competition, producers' preparations for retail competition, and actions already taken by regulators).

It said that price changes would vary from region to region. Some regions that have very low power generating costs in the current regulatory environment, such as the Pacific Northwest (Northwest Pool), with its low-cost hydroelectric generating capacity, and the upper Midwest (Mid-Continent Area Power Pool), with its low-cost coal-fired generating capacity, could see short-term price increases.

Without policy mandates for stranded-cost recovery through regulatory means, EIA noted, "U.S. suppliers could experience a total reduction in market value (stranded assets) of as much as $72-169 billion (in 1995 dollars), and there could be a number of bankruptcies."

EIA noted its estimates of stranded assets are net of any benefits accruing to low-cost suppliers. If such benefits are excluded from the calculation, the stranded assets for high-cost suppliers could be as much as another 20%.

It said so far, most state and federal restructuring plans allow for at least some recovery of stranded costs.

"If policymakers do not mandate any stranded-cost recovery, total federal tax revenues from utilities could be reduced by as much as $2.5 billion/ year on average from 1998 through 2015.

"At the same time, government expenditures on electricity would fall, and macroeconomic benefits could result from lower electricity prices, partially offsetting the reductions in federal tax revenues."

Long term

EIA said that in the longer term, efficiency improvements and better planning for future generating capacity needs resulting from competitive pressure are likely to cause electricity prices to fall relative to where they would have been under regulation.

The study did not assess the extent to which competitive pressures could reduce costs and prices in the long term but said reductions in nonfuel operation and maintenance costs, coupled with lower construction costs, could reduce competitive electricity prices by 16% in 2015 relative to traditional regulated prices.

It said that in an intensely competitive environment-where many producers have access to customers and engage in price-cutting strategies to win market share-prices could reflect only current (short-run) operating costs.

"In this case, they would fall by as much as 24% over the short term (assuming no stranded-cost recovery) instead of the 8-15% cited above."

EIA said a price decline of this magnitude would not be sustainable unless utilities are able to reduce their costs substantially from current levels and maintain those cost reductions.

"Price decreases of this magnitude would require electricity suppliers to reduce a significant portion of the $25-30 billion that they incur each year in non-fuel, non-capital-related costs."

Reactions

Rep. Tom Bliley (R-Va.), who has been pushing for electricity decontrol, said the EIA report just shows that "competition always lowers prices and improves services."

Bliley, chairman of the House Commerce Committee, disagreed that short-term savings could be consumed by allowances for recovery of stranded costs. He said that prediction "ignores the fact that in California, for instance, there will be 100% stranded-cost recovery but mandatory household rate reductions of at least 10%."

He also said competition is unlikely to increase prices in areas where they are already low, such as in the Pacific Northwest and portions of the Midwest.

"EIA's economists plugged numbers into a computer but forgot to do a reality check. State utility regulators and new competitors in those states will be the best defense against allowing existing monopolies to raise prices."

Americans for Affordable Electricity also said the EIA study is an incomplete analysis of the benefits resulting from customer choice.

"It uses static numbers and does not account for the long-term residual impact on the total economy. A recent study concluded that the federal government would save $250 billion over 10 years, savings that would accrue to the American public."