The Federal Regulation of Electricity Exports

Lawrence Solomon
Energy Probe Research Foundation
October 27, 1986

Submission to the National Energy Board

Energy Probe Research Foundation, an independent think tank on energy issues funded primarily by some 20,000 supporters across Canada, supports the government’s desire to deregulate the electricity export sector, as we have supported prudent deregulation in the entire energy sector. We have favoured world oil prices since 1974, the decoupling of oil and gas prices since 1978, the across-the-board removal of subsidies to all energy projects since 1980, and the breakup of electric utility’s monopoly over generation since 1982. Deregulation, we feel, has been an important contributor to our nation’s energy security, primarily because it has allowed many conservation technologies to compete. As deregulation takes firmer hold, we believe more conservation technologies and decentralized renewable energy technologies will be given the right to compete, further assuring our nation’s security of supply. With full deregulation, we believe that the demand for energy, including electricity, will be at least halved, as the energy sector becomes dominated more and more by service corporations selling demand management and other conservation techniques.

Deregulation, in our view, is not always appropriate. Whenever technology or social institutions cannot internalize all the costs of an endeavour, and innocent third parties or the environment may be affected, regulations must be maintained. As you will see from the balance of my presentation, there are several instances in which regulations may be safely relaxed, and several where they need to be maintained or even strengthened.

Regarding Overlap Between Federal and Provincial Regulation in Electricity Exports

It is our position that the interests of Canadians would be best served by treating electricity like any other commodity, like one not considered to be of strategic or national interest. As electricity is ordinarily a provincial resource, its export should not be regulated at the federal level, except under limited circumstance. These include:

  • Where cross-boundary impacts, such as acid rain, are significant
  • In case of war, or other emergency
  • Where the owner of the resource is federal, or where federal lands are involved
  •  Where areas under federal jurisdiction, such as native rights or nuclear energy, are involved.

Even in these instances, our preference is that appropriate government departments, such as the Departments of Environment, Indian and Northern Affairs, and External Affairs, be involved, rather than the NEB. The resulting absence of a regulatory role for the NEB would leave the Board free to play a strong advisory role, to conduct inquiries such as this one free from the conflicts noted by the Law Reform Commission of Canada, which maintains that the Board’s responsibility of being both an advisor and the regulator who would be carrying out the advice, constitutes a conflict of interest.

In our preferred scenario, regulation of electricity exports would devolve to the provincial level, soon leading to a diversity of approaches. This diversity, we feel, would lead to national benefits, as jurisdictions which had developed more desirable regulatory regimes would be emulated by those who had not. Such a devolution would also lead to greater public participation, as it would generally be easier for intervenors to become involved in local hearings.

Regarding the method used in determining whether the electricity to be exported is surplus to Canadian reguirements

Until such time as regulation becomes a provincial responsibility — and as long as the electricity marketplace prevents or limits competition from conservation and decentralized renewable electricity sources — the NEB will likely continue to be charged with the responsibility of ensuring that Canadian consumers are protected. My presentation thus assumes a continuing regulatory role for the NEB.

As this Board well knows, the forecasting of future demand for power is fraught with peril. Time and time again, predictions from sources such as utilities, governments, independent consultants and others, including this Board, have proven unreliable, resulting on the one hand in costly overexpansions of capacity domestically and on the other in the failure to maximize revenue from export sales.

Clearly, the dismal forecasting-dominated procedures of the past need to be overhauled. In their place, Energy Probe wishes to propose new operating principles that will reflect regional differences — such as different generating and conservation options and different volatilities in the economy. These principles will provide a high degree of confidence that the needs of domestic markets will be met, while allowing for firm sales in large quantities when appropriate.

These are two ways for a provincial utility to meet its domestic obligation to provide a secure supply of electricity into the future: by building additional generation capacity and/or transmission capacity for imports sufficient for its needs; and by experiencing a drop in domestic demand through conservation and efficiency measures. In either case, the assurance a utility is able to give the Board is inversely proportional to the lead time involved in building a new plant, or in bringing on new conservation measures. Utilities with a lead-time of 15 years, as is the case with those which prefer large-scale generating options, cannot quickly respond to an unanticipated change in domestic demand. The Board, to be prudent, should require very stringent guarantees that the needs of a province will be met, when confronted with a proposal from a utility which relies on long lead-time options. Conversely, when a utility relies on options which require short lead times, say of one or two years, the Board can be confident that, should demand patterns begin to change, the utility will be able to respond in a timely fashion. Export proposals from short lead-time utilities should thus require far less stringent guarantees. Similarly, proposals from the utilities of those jurisdictions which may have long-term conservation plans should require more stringent tests than those which can demonstrate plans for rapid energy conservation implementation should the need arise.

Many provinces often experience electricity growth rates in excess of seven percent, and several, such as New Brunswick, Alberta, and Saskatchewan, have recently experienced ten percent growth (although we have seen that past performance in electricity demand is no guarantee of future trends). In the absence of a competitive electricity sector, it is Energy Probe’s view that the Board should limit firm power sales on the following basis.

Assume that, for the life of the contract, a utility will be able to sustain a growth rate equal to the highest growth rate it achieved in any of its last ten years. Then, using the utility’s own measure of its ability to bring on new capacity or savings, determine if the utility’s domestic customers can be assured that their needs will be met. For example, in a jurisdiction where ten percent growth has occurred, a utility that had a 30 percent surplus (above its own reserve requirements) and a long lead time could thus enter into a contract to sell firm power only for the next three years (all 30 percent the first, less than 20 percent the second and less than 10 percent the third), while one with the same 30 percent surplus but a one- year lead time could sell the entire 30 percent on an indefinite basis.

To satisfy the Board that the lead-time requirement is met, utilities should advise the Board of their contingency plans should their surplus disappear. The feasibility of implementing the plans within the time-frame claimed by the proponent should be subject to challenge in public hearings.

Regarding the approval of export prices

As shown by Jenkins, Zucker, and the Economic Council of Canada (see appendices for excerpts), Canada’s utilities are highly inefficient enterprises that lead to economic waste on a very large scale (estimated by Jenkins at an annual loss of approximately one percent of Canada’s GNP). Much of this loss, as found in Blue Gold (Zuker and Jenkins) and “Public Utility finance and economic waste” (Jenkins), is exported to the U.S., in effect as a subsidy to our competitors.

The NEB, in approving electicity exports, should recognize that utilities are not profit maximizers, they are not subject to shareholder restraint, and they are often subject to their political masters. For this reason, long-term firm sales tied to the importing utility’s costs should be banned altogether. As an example, Manitoba Hydro’s sale of Limestone power to Northern States Power is pegged to NSP’s costs, which may drop dramatically in future due to wild cards such as a change in the value of the U.S. dollar, coal costs, and further railroad deregulation in the U.S. In several scenarios, the citizens of Manitoba may find they are assuming large losses for the benefit of U.S. consumers. This kind of speculation, from a private corporation whose shareholders are willing to assume those risks, is a private matter that Energy Probe would not want to interfere with. But when a crown corporation is involved, when its ultimate shareholders have no vote and cannot avoid unwanted risks by selling their shares, and when the power is held by a board of directors with political masters who have priorities not necessarily related to financial prudence, this speculation is abhorrent.

This ban on contracts tied to the importing utility’s costs should apply to all contracts of five years or more in duration.

For other contracts, the following factors and procedures should be incorporated to ensure that the country doesn’t suffer economic losses in its power export activities:

  • When transmission lines are built substantially for export, their capital costs should be charged to export sales, not to domestic customers, as is currently the case. Should the lines become necessary to import power at some future date (i.e., should they cease to be substantially dedicated to exports), an increasing share of their capital costs, if still being depreciated, could then be borne by domestic customers.
  • Transmission corridors dedicated to exports are not at the service of the Canadian public, but are strictly pecuniary enterprises. For this reason, utilities must not be allowed to use the power of expropriation. Instead, the land required for the corridor should be purchased from landowners.

 

  • The full environmental costs of any export endeavour should be considered a cost like any other and be factored into the export price formula to ensure that the Canadian environment, and Canadian owners of that environment, are not subsidizing our exports. For example, those who should be entitled to compensation for acid gas emissions include tourist operators who suffer economic losses due to acidified lakes, cottage owners whose properties become devalued, fishermen who may be affected, and forest and agricultural land owners whose resources are devalued. In addition, the health care system should be compensated for the medical costs associated with toxic emissions, including acid gas.

In many cases, there is a likelihood that costs which are unrecognized today may present themselves in future. To cover such contingenies, the Board should require that the exporter be expressly          liable for such contingencies, and that the exporter take out insurance to cover these potential liabilities. This insurance cost should be considered a cost of exporting and factored into the price. When such insurance may be unavailable because the risks may be perceived by the insurers as too great (as may be the case with nuclear power), then the project should not be granted an export license. There is no evidence that Canadians are willing to assume uninsurable risks in return for the financial benefits associated with power exports, and it would be inappropriate for this Board to make any presumptions in this matter.

In some cases, the environmental costs cannot be measured in economic terms — for example, when the survival of a community is at stake, or when a wilderness area of special significance is   threatened.   In these instances, the project should not proceed without the widest possible public review involving all parties involved. Some of these hearings may require a national debate, and if foreign interests are potentially harmed, then the debate should be international in scope.

  • Whenever environmental costs are assigned, and revenues for them collected, those revenues should, whenever possible, be directed to compensate the injured party. When the injured party cannot be identified, the revenues should go to the most appropriate government agency, in an attempt to indirectly compensate the injured parties. For example, monies to health care systems provide some compensation for health effects, and monies to environment ministries would help to mitigate or compensate for environmental damage.
  • The revenue from “economy” export sales is currently determined by averaging the operating costs of the exporting plant and the importing utility’s marginal plant. This formula (P = [C+V]/2) results in discounted export prices, since in a competitive market the price would be much closer to the importing utility’s avoided, or marginal, cost. Where the utilities on both sides of the border are exporting comparable amounts of power, this formula has a ring of fairness to it since discounts are shared by both countries; but when structural differences in the electricity sectors in Canada and the U.S. guarantee that the export trade will be almost entirely one way, a change is in order.

Although higher export prices will lead to the loss of some sales to competing U.S. utilities, the overall revenue to Canadian utilities should be greater if the formula is revised to be more favourable to Canada. We recommend that the NEB commission an economic analysis of the effect of revising the [C+V]/2 formula to [C+2V]/3.

In doing so, we acknowledge the difficulty in moving away from a cost-based formula to a market arrangement, especially when our competitors (U.S. utilities) maintain the [C+V]/2 system among themselves. Far from considering our [C+2V]/3 formulation a panacea, we regard it only as a step in the right direction.

Thank you.

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