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Magazine

Your Utility Bill Is Going Up (and There's Nothing You Can Do About It)

America's utilities must be upgraded, and it’s the consumers, not the shareholders, who will get the bill.

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Powerless: Storms are stressing the infrastructure.(Allison Joyce/Getty Images)

After eight days without power, Abbe Milstein walked out of her home in Montgomery County, Md., itching for a fight. The 2012 derecho had knocked out electricity to 4.2 million homes throughout the Ohio Valley and Mid-Atlantic regions. "I said, 'Something is wrong.' "

Milstein, a stay-at-home mom who was once a staffer for then-Rep. Marjorie Margolies-Mezvinsky, D-Pa., and a campaign worker for then-Rep. Joe Hoeffel, D-Pa., started calling her storm-frazzled, electricity-starved neighbors to organize. "I haven't done this in years, but something has to be done. We can't live like this," she told them.

 

She convened a meeting with their county council member, Roger Berliner, who has a background in utility law, and asked about the opposition groups keeping an eye on Pepco, the local electric company.

His reply: "There is no grassroots action on this. There is no information on the other side."

Milstein had unknowingly waded into the mind-numbingly complex and closed world of utility regulation, where industry insiders and their regulators manage the distribution of gas, electricity, and water to homes and businesses; maintain the pipelines and power lines; and set the prices that consumers pay. And they might as well be speaking a different language while doing it. Their stocks in trade are "rate cases" or "alternative rate recovery mechanisms"—payment systems for anyone who uses power, basically everyone in the United States. And even though the lingo affects everyone, activists like Milstein must learn it on their own, if they can.

 

Inside this black box, the stage is being set for utility rates to increase. The National Association of Regulatory Utility Commissioners, the nucleus of the country's utility regulators, last year adopted a resolution encouraging extra charges on customers' bills to speed up gas-pipeline replacement, which is needed to improve the safety of gas-powered energy. Recent reports of methane leaks in natural-gas lines in Washington, D.C., and Boston have only added to the steadily growing narrative that the country's gas-delivery network is in need of a serious makeover.

There is certainly no disputing that utilities need to upgrade the entire power system—gas and electric. Gas pipelines that are 50 years old are not safe or efficient. The electricity grid is bursting at the seams. Severe weather is becoming the norm rather than the exception, meaning power lines need to be more resilient than they were in the 1960s. At the same time, computer technology has made the country's economy and national security more dependent on a constant, reliable stream of power.

This all adds up to a massive renovation that will take place in bits and pieces over the next several decades. The cost? An estimated $4 trillion and counting, according to NARUC. All of which will be borne by consumers as a likely permanent line item on their utility bills.

Surcharges already are a reality in many places. According to a recent compilation from the Edison Electric Institute, utility surcharges have been approved in 37 states to finance "capital expenditures." These are projects like emissions control for electricity companies or pipe replacement for gas companies.

 

But here's the problem. Most of the people who truly understand how those costs are being divvied up are inside the black box of utility regulators or industry insiders. The few translations that are offered to the paying public are presented as fait accompli. Customers huff, but they eventually accept the higher charges. They're led to believe they have no choice.

Last year, for example, Indiana Gov. Mike Pence signed a measure allowing the state's electricity companies to tack on extra fees to boost power distribution, despite protests from citizens' groups and environmental organizations.

Maryland Gov. Martin O'Malley signed legislation allowing gas companies to use surcharges to upgrade their aging pipelines. That led the Maryland Public Service Commission in January to approve the first utility surcharge in the state's history, for customers in Baltimore and the surrounding counties.

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And while Missouri Gov. Jay Nixon vetoed a bill that would have expanded gas companies' ability to collect surcharges, he did it only because the state already had a law permitting such surcharges. It was enacted in 2003 after the state's two largest gas companies had fallen behind on infrastructure maintenance.

In most cases, these extra costs are justified. Normal monthly rates charged to customers cover the vast majority of a utility's work. But that revenue stream was never intended to support major investments, such as replacing gas pipes or "undergrounding" high-voltage power lines. That's where surcharges come in.

And yet, because the method of determining fair utility rates is almost incomprehensible to a layperson, it is hard to know for sure whether the system is working like it's supposed to.

NATURAL MONOPOLIES

Almost since the invention of electricity, there has been an understanding among policymakers that essential public goods, such as power, require too much of an up-front investment to foster any meaningful market competition. And so it is accepted that water, gas, and electric companies have natural monopolies in the regions they serve.

The trade-off for these monopolies is that these companies are heavily regulated. In every state, public utility commissions approve every rate that the utilities charge and any extras added on in between. It is an arduous process. Every column in the utility's investment and revenue spreadsheets is available for the commission's parsing.

The customer is supposed to cover the cost of providing a reliable, safe, utility service, plus a little extra for the shareholders who keep the utility companies in business. Nothing more. Nothing less.

The regulators are the judges. "We have the duty of balancing the interests of a number of stakeholders—the utility's interests in gaining capital to invest in its infrastructure and its facilities, [and] that the utility is sound and able to get a good rating from Wall Street to attract investors," said Colette Honorable, president of the regulator's association.

"The utility must be able to pass on costs to consumers. At the end, the regulator stands in the gap," added Honorable, who also heads the Arkansas Public Service Commission. "We also have to make sure that the costs that ratepayers or consumers bear is a reasonable cost, is a prudent cost."

The utilities don't oppose those rules. This may be because they and the regulators have a mutual understanding that customer surcharges make sense for extra investments that can't be covered through the "normal" utility rates that pay for the basic distribution of power. "When a utility has a need to stretch, improve reliability, improve infrastructure, it can't work within that normal rate-making," said Mark Case, vice president of strategic and regulatory affairs for Baltimore Gas and Electric, which serves central Maryland. "It's really a pay-as-you-go."

But for consumer advocates, the setup feels like, well, a setup. "The commission does feel sorry for the utilities. They feel like the infrastructure is in need of repair, and they feel like somebody needs to pay for it," said Tammy Bresnahan, advocacy director for Maryland's AARP.

Bresnahan has encouraged Maryland customers—many of them seniors on fixed incomes—to protest when utility companies propose surcharges for gas-pipeline replacement and electric upgrades. But she says their activism barely moves the needle away from the regulators' favoritism toward the utilities.

"I've tried to get people to go to the public hearings. We've been successful getting 20, 30, sometimes up to 50 people to testify," she said. 

Bresnahan feels like her efforts have made only a slight difference with the regulators. "I think it has kept the surcharges lower. They don't give them the full amount. I think at least we're winning a little."

Yet, on the industry's corporate and regulatory insider track, they feel like they're setting fair rates. They know that power-grid upgrades are necessary and that this means customers' bills are going to go up.

They would be right if the utilities and the consumers were on equal ground. They aren't.

UNEQUAL WEIGHT

The utility's influence in the rate-making process is the equivalent of a high school linebacker on one end of a teeter-totter with his kid sister dangling her legs on the other end.

Case in point: Every rate-setting assessment is like a trial, where different parties produce evidence (much of it deadly dull) about the need, or lack thereof, for an adjustment of rates. The commission's staff weighs in. The state public council weighs in. The utility makes its case for an increase (note that it is never a decrease). All of these arguments are presented in an obscure legal utility code, with case filings and rebuttals and surrebuttals.

Of course, there's also a public hearing held for every case, where a consumer can air his or her views. The only trouble is, the public hearing isn't part of this torturous evidentiary record. It just happens, and then the regulators go back to the real business of parsing thousands of pages of testimony.

"Right from the beginning, you have an unbalanced story," said Stan Balis, a retired attorney who spent his career handling rate regulation for municipal utilities. "Consumer groups, even if they get in the door, they don't really have the resources to do any of this."

In truth, consumers shouldn't have to force themselves into the thick maze of utility regulation. The regulators themselves have no interest in rubber-stamping a utility's rate requests and they genuinely want to do right by the customer. In Georgia, for example, the state Public Service Commission in 2011 refused to allow Georgia Power to include pension contributions for its employees in the customers' base rates, stating that any savings to the company would not flow through to customers.

Similarly, regulators are perfectly willing to dive in to the nitty-gritty of a utility's infrastructure improvement plans, and they aren't shy about changing them in drastic ways.

Last year, the Maryland Public Service Commission cut by more than two-thirds a request from Pepco, the electricity provider for Washington and parts of Maryland, for a $7.13 average monthly increase for its Maryland customers. They said Pepco could charge extra for upgrading certain priority power lines, but the rest of its proposal did not justify an increase in customers' utility bills.

But Pepco wasn't going to be denied. Commissioner Lawrence Brenner complained in a separate statement that Pepco was refusing to undertake any of its proposed improvement projects if it did not get its requested surcharge. He took umbrage at Pepco's "all-or-nothing, take-it-or-leave-it" attitude.

"My reaction to that is, who is regulating whom here?" Brenner queried.

Now, it's all on hold while the commission's decision to allow a partial surcharge is challenged in court.

Advocates say the biggest problem with the commission's decision was its circular logic: The regulators based their decision on Pepco's estimates about what the project would cost, which were presented as part of a Maryland task force commissioned by the governor. It's a classic case, they say, of "regulatory capture"—when a regulator becomes an unwitting reiterator of an industry's viewpoint.

The lack of independent verification of Pepco's estimates also caused another Maryland commissioner, Harold Williams, to dissent from the commission's decision to grant the partial surcharge. "I fear [the commission] will continue granting the wishes of Maryland utilities for many years and we may never get it back in the bottle," he wrote.

UMPIRE OR ADVOCATE?

The industry's influence on the regulators weighs heavily on Milstein, who has spent the last year and a half plowing through documents that make James Joyce's Ulysses look like a first-grade reader. "You're in this really nebulous world of rate-makers and policymakers," Milstein says. "Who's in control?"

It's definitely not Milstein, who is not considered a real player in the game. There is no established method for someone like her to participate in a rate-setting case. She had to write a letter to the governor and the chairman of the Maryland Public Service Commission before they granted her a special time and place to formally offer her petition.

She filed it as the head of a small organization called Powerupmontco. But when the rate case wound up in court, she didn't seek to join. She simply couldn't afford it. The copy costs alone for her participation in the rate case were in the hundreds of dollars. "The commission requires 17 copies of everything," she says.

Milstein's group is truly grassroots. She takes no money. She uses volunteer help from friends and builds buzz through her small e-mail list of home-based businesses that stake their livelihoods on reliable power. Her organization doesn't have its own website.

She doesn't even know how many people receive her e-mails, because outside associations redistribute them once she sends them to her primary list. The only way she can describe her progress is to note that she introduced herself at a campaign event for a Maryland General Assembly candidate, "and everyone applauded."

Milstein is starting from scratch. She and Balis put together a 50-page booklet for state Assembly members and candidates. Most of them know little, if anything, about the utility world. She testified recently against Anne Hoskins, a candidate to sit on the Maryland Public Service Commission, because Hoskins is a big fan of surcharges.

Yet Milstein is resigned to losing these first fledgling battles. "I'm sure she'll get confirmed," Milstein sighs.

Balis advises her about the cloistered world on which she is encroaching. She isn't welcome there. "Along comes someone like Abbe Milstein, and it's, 'Oh, my God! Here come the Molotov-cocktail throwers. The barbarians are at the gate,' " he says.

Industry insiders see people like Milstein as the exception, not the rule. "I would push back that customers are questioning it on a broad basis. They want reliability. They want a safe system. They know they don't get that for free," said Case of Baltimore Gas and Electric, which won approval in January for a 32-cent monthly surcharge on customers.

At least for now, he's right. Case's company found through surveys that two-thirds of its customers believe an extra $2 per month for accelerated pipeline upgrades is a good deal. That's exactly what the new Maryland law allows.

PRIORITIZING INDUSTRY OVER CONSUMER

Consumer advocates pose a provocative question when it comes to utilities and their fees: Why are the shareholders protected over the monthly rate payers? Pepco Holdings recently posted a 41 percent increase in its earnings year over year, yet the company has consistently been in the bottom quartile of electric companies for reliability. Why can't a profitable company pay to upgrade its own system?

"So now here we are at the bottom of the barrel," says Balis. "Payouts to shareholders are never missed."

The answers are convoluted and unsatisfying. It comes down to this: Upsetting the shareholders is more disruptive to the financial structure of a utility than upsetting the customer. Shareholders' steady dividends are important for a utility to maintain a strong front on Wall Street, which then gives it an easier path toward borrowing any advance money it needs for operations, maintenance, or upgrades. Cheaper borrowing means lower costs overall, so the customer eventually benefits. Or so the reasoning goes.

Massive upgrades don't fit into this equation unless surcharges are part of it. Moreover, a utility's credit rating can actually go up if a state government shows willingness to allow extra charges for big projects. After Maryland passed a bill last year permitting surcharges to replace old gas pipes, Standard and Poor's credit agency upgraded Baltimore Gas and Electric from a BBB to a BBB+.

Utilities also operate within a narrow band of acceptability in terms of what they spend and how they charge consumers. Any deviation in how they allocate their resources draws questions from regulators, even if it's for a legitimate addition to the infrastructure. "It gets very complex," said NARUC's Honorable. "Do they need to build it, or is it just something they want to do?"

A utility's reputation is important in this give and take. Pepco's poor performance has caused regulators to take a closer look at surcharge requests than perhaps they normally would. The Maryland Public Service Commission said in 2010 and 2012 that it can't allow the utility to continue to reap increasing profits while reliability to its customers is so poor.

Pepco has responded to the criticism with a larger focus on customer satisfaction. The company has its improvement figures ready at hand. It met or exceeded Maryland's reliability standards in 2012 and in 2013. Since 2010, outages have decreased by 38.5 percent.

"We are working very hard to meet our customers' expectations," says Pepco spokeswoman Myra Oppel.

Even if what customers generally do is complain? "We understand that," Oppel says. "We make investments on behalf of the customers. We seek recovery of the investments [from customers] on that level."

In the end, the customers still need their power. Pepco may be having difficulty with its surcharge request in Maryland, but a separate surcharge request to "underground" high-voltage wires in Washington is going forward with few bumps. It is the result of a yearlong task force in which the city government and Pepco fashioned a "game-changer" way to reduce electric outages during severe weather. Just this week, Mayor Vincent Gray signed legislation clearing the way for a $1.50 monthly surcharge on the city's Pepco customers for the project.

Balis agrees that customers should bear some of the costs of infrastructure upgrades like these, especially if the utility has done everything it can to keep its structures in tip-top shape. Even if utilities have done their due diligence to their facilities (and that's debatable), he still wants to see the regulators weight the scale more toward the consumer.

He often cites a baseball analogy tucked in to a 1965 case where a federal Appeals Court scolded the Federal Power Commission for failing to affirmatively protect the public's interest. "This role does not permit [the commission] to act as an umpire blandly calling balls and strikes," the court said.

That means, Balis says, that public utility commissions should welcome people like Milstein into their deliberations. Right now, they don't.

To be fair, the regulators have a Herculean task. They must independently determine how much a bunch of sprawling profit-seeking companies can charge for billions of dollars of essential power. They have to deal with more than one utility. They have a lot of cases going on at once. It's not uncommon for commissions to be understaffed, while the utility companies have a treasure trove of lawyers to make their cases.

What's more, the case work is painstaking, tedious, and exacting. It requires expertise in engineering, long-term financing, and market forces. Every evidentiary question or challenge, no matter how outlandish, must be considered. Even without random queries from an amateur member of the public, there is no simple formula to assess each utility's request.

"There is no easy booklet that I can refer to as a regulator, like a flow chart that says, 'If this occurs, you give them their money. If this occurs, you do not give them their money,' " said NARUC's Honorable.

This is why, when push comes to shove, the commissions fall back on what they know. They know the utilities. They know the other established entities in rate cases—state special-counsel offices, building associations, environmental groups, and even the bigger consumer groups. They know each other.

The utility world is full of cautious people. They are engineers who are uncomfortable with drawing broad conclusions from dense, complex data. They are politicians who don't want to tell their constituents that the infrastructure system that was built 50 years ago wasn't meant to last forever. They are investors who bank on a steady drip of small dividends, not a onetime watershed. (Warren Buffett says this about the utility sector: "You won't get rich, but you won't go broke either.")

This is not a community that reacts well to disruptive changes, like, say, climate shifts that all of a sudden call for twice the reliability of your tired old electric grid. Or new regulations that require power plants to upgrade, and fast, to curb carbon emissions. Or even the collective aging of gas pipelines that took decades to build—now they need to be replaced, and, wow, that snuck up on us!

They know what they're supposed to do—ensure just and reasonable rates. And they are well aware that the definition of "just and reasonable" is changing.

The public is only dimly cognizant of all of this, which can lead to nasty, even irrational reactions to higher utility bills. "If we say, 'Two cents [more] per kilowatt hour,' everybody freaks out. 'We can't have the big bad utilities raising our rates again,' " says Otto Lynch, an engineer who evaluates the energy grid for the American Society of Civil Engineers.

"Sometimes it's the people who yell the loudest about a rate increase who are the first ones to yell when the power goes out," he adds.

The complaints make it tough for overworked regulators to welcome the public with open arms. But if they want those massive infrastructure upgrades to happen, they will eventually need buy-in from customers. They will need to open their black box. In brighter light, its contents might surprise everyone.

This article appears in the March 8, 2014 edition of National Journal Magazine as In the Dark.

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