Don’t Put the Brakes on the Energy Market

The more things change, the more they stay the same. That is the appropriate conclusion attendant upon the dishonest arguments now promoted by the supporters of Proposition 9, a ballot proposal that would reimpose price controls on an electricity market evolving rapidly toward full competition.

A bit of history: The traditional system of electricity rate regulation embodied an implicit agreement between utilities and consumers as represented by the state Public Utilities Commission. Under that agreement, utility investments that would have been highly profitable in the absence of regulation were allowed to earn only a “fair and reasonable” (i.e., competitive) rate of return. Inefficient investments, which in the absence of regulation would have earned poor returns, nonetheless were allowed to earn the fair and reasonable return.

Thus did the PUC, at least in principle, preserve competitive pricing overall. Modern conditions in the electricity market inexorably have yielded strong national competition without regulation, a fact recognized by the California Legislature in a deregulation law passed in August 1996. Because the past inefficient utility investments would be worth less under competition than their as yet unrecovered historical costs--”stranded” investments--the legislation provided for a temporary electricity charge that would pay off the historical stranded costs.

This preserved the implicit agreement with the utilities. In addition, the 1996 law mandated a 10% reduction in residential and small commercial rates; this was made possible with special bonds financed by a second charge to be paid by residential and small commercial customers over about a 10-year period. The legislation states specifically that no change may be made in this second charge without “adequate provision” for the protection of those purchasing the special bonds. In short, the legislation preserved the government’s promises both to the utilities and to the bondholders while smoothing the path toward a competitive market.

Proposition 9 would reverse those achievements by prohibiting further authorization of the special bonds, by ending the second electricity charge that finances even the bonds already issued (which total about $6 billion) and by mandating a 20% reduction in rates. This reduction offers no efficiency improvement whatever in that it is simply an economic confiscation of utility assets already in place. It is, therefore, little more than an attempt to buy political support. Moreover, the 20% reduction is permanent and so would yield important future problems for California in terms of the state’s ability to compete for electricity supplies in a competitive national market, leading to a long run degradation of service reliability and quality.

The proponents of Proposition 9 claim that the 1996 law represents a “$28-billion bailout” of bad investment decisions made by the electric utilities. Apart from the phoniness of the $28-billion figure, the “bad investment decisions” argument is dishonest. Under any reasonable set of assumptions about future market conditions, well over half of the stranded investments in California are contracts for uneconomic “alternative” energy--wind, solar, geothermal and other such sources--that were forced upon the utilities by various laws and regulations. In the case of the Southern California Edison Co., the figure is more than 60%. These expensive energy sources have been promoted for years by many of the same interests now supporting Proposition 9; now they argue that the 1996 law bails out past inefficient contracts that they supported. That is why Proposition 9 specifically exempts such “alternative” energy from its punitive provisions, despite the fact that it is the most uneconomic of all.

The real issue attendant upon Proposition 9 is whether government will keep its promises. Proposition 9, in reality, is an effort by the long-standing anti-business and antinuclear lobbies to confiscate private sector capital and then to use public policy implicitly to redistribute it to their favored constituencies. If passed, it will cost the taxpayers $6 billion to redeem the special bonds; in the larger context, it will encourage efforts by interest groups to use the initiative process for redistribution and private gain.