Power play: Making sense of monopolies and regulation

First, some news items…I recently presented at the ACEEE Market Transformation symposium in Baltimore regarding access to utility meter data. It was a great discussion about “the data deluge” in the utility sector. Co-panelists were from Lawrence Berkeley National Laboratory, Vermont Efficiency Investment Corporation, and former executives from ComEd and ConEd. I argued that we don’t have a Big Data problem – we have a Little Data problem: Accessing meter readings in homes and buildings is quite costly.    Big Data thrives when data are freely accessible (Google indexes web pages at zero marginal cost; Facebook users upload their content for free). If only cleanweb software companies had free access to smart meter data, we could really make a dent in carbon emissions. Too much energy data would be a really good problem to have.

An interesting keynote speaker was John Quigley, Pennsylvania’s head of the Department of Environmental Protection. I don’t exactly think of Frackopolis – I mean, the Keystone State – as a bastion of climate progressivism, but I was really impressed with his strong support for efficiency. He said over 80% of Pennsylvanians – as measured both by polls and state-wide government outreach – strongly support state action on energy efficiency, regardless of political affiliation. Quigley even praised Obama’s recent actions on methane rules – a welcome comment, given Bill McKibben’s frightening new piece in The Nation about the massive under-estimates of methane emissions.

My subject line is Power Play because I’ve been thinking a lot about utilities and political power recently, particularly at the ACEEE conference. Maybe it’s because I recently finished the last season of House of Cards, but in the utility industry, when you start looking for sinister intentions or ulterior motives, you’ll start noticing them everywhere. As you may have detected from previous Telegraphs, I tend to be skeptical of investor-owned utilities (IOUs). A review of American history tells us we should be skeptical: a fantastic book, Power Loss: The Origins of Deregulation and Restructuring in the American Electric Utility System, by Richard Hirsh of the history department at Virginia Tech, explains why.

Don’t let the book’s subtitle frighten you: this is a remarkably insightful, blow-your-mind kind of book. For me, it answered a dozen nagging questions I’ve had ever since learning about the bizarrely structured electricity industry ten years ago: What the heck are public utility commissions, exactly? Why were they created? Who came up with the idea of these Frankenstein government agencies that are part judiciary, part legislature and part executive branch? My gradeschool teacher taught me America was designed with three branches of government. So what is this clumsy and awkward fourth branch?

Hirsh artfully traces the roots of the modern electric company to the powerful monopolies of the oil and railroad industries. In the late 1800s and early 1900s, utility monopolists sucked money out of a captive public while wielding unprecedented political power to maintain their dominance alongside juggernauts such as John D. Rockefeller’s Standard Oil and Leland Stanford’s Southern Pacific Railroad. If you think of utilities as friendly, enlightened (ahem, no pun intended) companies benignly civilizing society with lightbulbs, think again.

The first important lesson Hirsh teaches us is that the “natural monopoly” was a convenient fiction created by utility managers to cement their power. Thomas Edison’s electricity was not a monopoly business by design. His 1882 Pearl Street Station in Manhattan served only 59 customers with a radius of one block; he envisioned electrical generators in the basement of every building, distributed much like rooftop solar is today. The “invention” of the electric monopoly came from capitalists like Samuel Insull, once Edison’s personal secretary, who later built Commonwealth Edison by acquiring 20 competing electric suppliers around Chicago. By quickly buying up competition and constructing increasingly large and centralized steam generators (with a symbiotic relationship with General Electric), the emerging electricity system was designed so that, conveniently for the monopolists, just one company could provide the electric light on which so many Americans quickly became dependent.

Samuel Insull (1859-1938), utility tycoon of Commonwealth Edison

The challenge for utility managers was not how to solidify profits. It was how to keep the government off their backs. The Progressive Era of the late 1800s saw a backlash against the robber barons. Congress passed laws such as the Interstate Commerce Act (bringing railroads under regulation) and the Sherman Antitrust Act; the states began passing laws that gave independent bodies price-setting authority on several goods and services such as grains, dairy products, carriage by railroad and, ultimately, electricity. Given today’s political rhetoric full of government-hating, free-market ideologies, it’s hard to believe that, a century ago, the American public nobly believed that new government agencies, when staffed by experts acting in the public interest, could achieve great things for society. The Progressives’ trust in public servants was a hopeful and humanistic solution, if perhaps a naïve one, to the problems of ascendant corporate power. Resulting legislation at the state level gave “commissions” authority to administer what became known as the “regulatory compact”: utilities are granted a state-sanctioned monopoly in exchange for (i) commissions setting the prices utilities are allowed to charge, and (ii) providing universal service, even to customers located in areas that would be uneconomic to serve. From that point onward, public utility commissions were cemented as crafters of imperfect compromise between low rates for consumers on one hand and high profits for companies on the other.

As Hirsch argues, both the “regulatory compact” and the “natural monopoly” were concepts shaped by utilities to serve their financial and political interests. While submitting to regulation sounds onerous, the utilities embraced it for its obvious benefits: Fighting competition is expensive; utilities could raise capital from Wall Street investors at more attractive rates because the government provided virtually guaranteed returns; and, eager to avoid a breakup like the one faced by Rockefeller’s Standard Oil in 1911, the existence of commissions mitigated the political risk to utilities of antitrust actions taken by a populist government. On the down side, regulation may have limited profits to some extent, but regulation’s benefits were so expansive that utility executives practically begged to have their firms under state oversight. Insull declared in 1913 that “state regulation is the best thing that can possibly happen to this industry.”

State regulation is the best thing that can possibly happen to this industry. — Samuel Insull

Price per kWh of electricity, 1892-1973.

Meanwhile, utilities could further deflect political pressure on their burgeoning monopolies by decreasing the price of electricity. For nearly a century, the physics of electromagnetic induction allowed incremental improvements in turbine efficiency. What better way to neutralize anti-monopoly sentiment than by continuously reducing prices, even while profits soared? Until plateauing in the 1960s, the efficiency gains of turbines allowed utility executives to differentiate their monopolies from the much-hated railroad companies – whose prices always seemed to go up, not down – further securing their legacy.

A Duke Power Company promotional ad from the 1960s from Richard Hirsh

And then the 1970s happened. The environmental movement, the limits of thermodynamic efficiency gains and the 1973 oil crisis converged to increase electricity prices for the first time in 90 years. What happened next is the subject of future Telegraphs, but for now I’ll leave you with these take-aways from Hirsh’s excellent book:

  • In the electricity sector, everything has a deep history: from the nature of regulation to even the words we use to describe grid-related concepts (“integrated resource planning,” “avoided cost,” “demand side management”) are charged with historical meaning. Electric light came into being not as one stop on the train of scientific progress but rather from the desires of capitalists whose wealth and power were almost unequaled in American history. A greater historical understanding tells us that the grid we have is absolutely, positively not the best or the only design for an electricity system there is.
  • Utility regulation is not a “pure” governance form derived from noble principles but rather a messy and imperfect compromise forged among powerful political interests. Hirsh argues convincingly that regulation benefitted utility monopolies rather than subdued them. I hope I am not the only one frightened by that fact. In reality, utility regulation is like legislation winding its way through the Congressional sausage-maker: it’s chock-full of giveaways, back-scratching, patronage, jockeying and compromise.

So next time you’re at a public utility commission hearing or a “workshop” in a windowless San Francisco auditorium, try imagining Frank Underwood from House of Cards as a utility commissioner. Not only will it make the quasi-judicial tedium much more entertaining; visualizing Kevin Spacey’s ruthless realpolitik will connect you with the roots of the modern electric utility. §

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