James John "Jim" Hoecker was designated by President Clinton to lead the Federal Energy Regulatory Commission (FERC) on 19 June 1997. He had served as a Member of FERC since May 1993 and in August 1995 was reconfirmed to a five-year term which expired on 30 June 2000. President Clinton nominated Hoecker for another five-year term in November 1999.
Before becoming a Commissioner, Mr. Hoecker was of counsel to Jones, Day, Reavis & Pogue from 1990 to 1993 and a partner in Keck, Mahin & Cate from 1988 to 1990. His work focused on gas production, transmission and distribution issues as well as on electric utility matters. A former Commission staff member, his positions at FERC included Assistant General Counsel for Gas and Oil Litigation and Assistant General Counsel for Rulemaking and Legislative Analysis.
The Federal Energy Regulatory Commission (an independent regulatory agency) regulates key interstate aspects of the electric power, natural gas, oil pipeline, and hydroelectric industries including:
The Commission was created by the Department of Energy Organization Act on 1 October 1977, to replace the Federal Power Commission. It is made up of five members who serve staggered five-year terms and are appointed by the President and confirmed by the Senate. No more than three commissioners may belong to the same political party. The chairman, designated by the President, serves as the Commission's administrative head.
The Commission's legal authority comes from the Federal Power Act of 1935, the Natural Gas Act of 1938, the Natural Gas Policy Act of 1978, the Public Utility Regulatory Policies Act of 1978, and the Energy Policy Act of 1992. The Commission recovers all of its costs from regulated industries through fees and annual charges.
Editor's note (July 2000): the final edit of this interview was completed in June 2000. This consisted mostly of grammatical touch-ups. However, the references to FERC Order 2000 (that was only pending at the time of the interview) were added by Chairman Hoecker during the editing process.
Editor's note (January 2001): In December 2000, after the Senate failed to act on President Clinton's re-nomination, the President gave Chairman Hoecker a recess appointment that would have allowed Hoecker to serve until December 2001 (although he could have been replaced as chairman by the new administration). However, on 10 January 2001, Hoecker unexpectedly announced his resignation from the FERC.
Would you tell us a little bit about yourself?
I'm a native Wisconsinite. I was raised [born: 12 July 1945] in a little town called Eagle River, and in many ways I'm a born and bred Mid-Westerner. I went to college at Northland College in Ashland, Wisconsin, received an MA and Ph.D. from the University of Kentucky, and went back to law school in Madison at the University of Wisconsin.
My family is originally from Chicago, where my German immigrant grandfather owned a bakery. Since the late 1930s Wisconsin has been home. I've lived in Virginia for the last 20 years, however.
In the 1970s, as you were deciding on a career, the U.S. experienced an energy crisis. Did that play a part in leading you into a career in energy issues?
Indirectly it probably did. I think that the focus on energy problems in the early '70s was pretty novel for most of us. I had grown up in a small town served by a municipal utility. We thought very little about how that electricity was provided. There were no options available I suppose, but the price was reasonable. And since we were not a part of the country that was in the oil or gas patch, energy was just not part of what the public thought about.
That all changed with the Arab Oil Embargo, with the gasoline lines and the growing focus on trying to find some national solutions. This was not just an economic problem, but was perceived as a national security issue. So I became more aware of energy as a public policy issue-and in studying Joseph Priestley and thinking about public policy at that moment of presidential crisis, how Washington responded was a matter of keen interest.
In some ways, I think that may have affected my decision to go on to law school sometime later, but at that moment in time, I was still immersed in the 18th century origins of modern liberalism. And I didn't own a car yet, so I wasn't too worried about gas lines either.
To complete your Ph.D. in history you wrote a dissertation about Joseph Priestley. What attracted you to look at his story?
In graduate school, I developed a keen interest in 18th century political and philosophical thought. My specialty was the history of ideas and I was very interested, (given that it was the 1960s and early '70s), in looking at the history and origins of modern liberal thought. So I began studying Priestley, who was most noted in his day as a dissenting cleric and a scientist. He dabbled in about everything you can imagine, even psychology.
He was also a political philosopher. It's interesting that his history of electricity in 1769 is where [Benjamin] Franklin's kite experiment was widely advertised for the first time. He was a very entertaining person to research. And his connections with Franklin and [Thomas] Jefferson and some of the leading political thinkers in England and America at the end of the 18th century make him a very interesting person and a gauge of the times.
Priestley seems a transitional figure between two philosophical eras, a situation you seem to find yourself in.
All chairmen are transitional. (Laughter.) I guess the members of this particular commission are transitional in another important way. We find ourselves at the turn of the millennium looking back on nearly a century of successful regulation of natural monopoly utilities, and looking ahead to a quite different kind of environment both in terms of economics and in terms of how we think about public policy making in this area.
We have come full circle from the days when we thought natural monopolies necessitated a form of command and control regulation, to an environment where (given developments in technology and the structural evolution of the industry), the prospect of a truly competitive market with lots of new entrants is plausible. It suggests that we ought to be thinking quite differently about our regulatory responsibilities as well, and exactly what that means is not entirely clear yet. I have some colleagues on this commission and at the state level who are convinced in their hearts, I think, that the era of government intrusion into the energy marketplace must end now--that we really need to deregulate these industries and let the competitive marketplace dictate the terms of utility rates and services altogether.
I'm not prepared to buy into that at this point. The markets haven't evolved sufficiently, and competition and competitive markets will always have flaws. Given the essential nature of the services that electric utilities and gas companies supply to the public, and the monopoly characteristics of certain industry segments, I envision a continuing need for some level of public oversight of their activities. Nevertheless, the predicate for what we do is changing enormously and so we must reexamine the fundamentals of regulation at both the state and federal levels.
Does your background as a historian affect your views on regulation? Is your viewpoint different from some of your colleagues who may have different training?
Arguably. I believe my points of view are supportable and responsible, based on my understanding of where energy markets have been and what problems we've seen in the past. The price of electric power and the reliability of electric service has been quite satisfactory from a consumer perspective in this country over the last 50 years. Yet, with great demand growth and the lack of investment in infrastructure, we've had some real problems and the need for innovation is clear. The question is how much innovation, investment and economic freedom will work and what kind of changes are appropriate. Among those issues, there is considerable breadth of opinion about the desired solutions.
Looking at the trends in the evolution of electric utilities is useful. For example, with the rise of franchise monopoly in conjunction with the prevalent form of 20th century regulation, the price of power generation declined after World War II, indicating the success of that paradigm. Then things happened to change the economies of scale, lengthen the construction time for nuclear plants, and exacerbate the financing, inflation, and interest rate problems that utilities ran into--leading to enormous disparities in the price of electricity and a lot of excess generating capacity. All those things tell me that public policy makers don't always have the right answers or they get them late and hold onto them too long. Inappropriate regulation or underdeveloped markets can play havoc with these essential energy services. So, we just need to be very careful about how we deal with reform and restructuring.
You had early experience with the Office of the Commissioner of Insurance in Wisconsin. Did that lead you into policy issues?
In truth, a lot of why I'm here today has to with the love I had of administrative law and public policy issues in law school. There was a natural segue between my work in graduate school and the issues that I decided to focus on in law school.
I clerked at the Office of the Wisconsin Insurance Commissioner and worked mostly on Medicare supplement insurance fraud investigations. I wrote what I still believe is the nation's first Medicare supplement insurance regulations, which is clearly an issue still with us. After I graduated from law school I did a brief stint investigating AARP and its relationship to Colonial Penn Insurance Company, and I got some rude awakenings about the lengths to which such economic powerhouses would go in protecting such profitable arrangements.
The basis for my career in government and my interest in regulation is really not so much my fascination with energy issues as it is my penchant for administrative law and policymaking in the public sector.
In the early 1980s, you found yourself at FERC as a staff person.
That's right. I was in private practice in Madison for a year. I rather enjoyed that, but it was the opportunity to come here to the commission while they were in the process of implementing the National Energy Act legislation in the Carter administration that I really jumped at. This agency was actually created by the 1977 Department of Energy Organization Act as a successor to the old Federal Power Commission. The Natural Gas Policy Act and the Public Utilities Regulatory Policies Act of 1978 (PURPA) and a number of similar statutes required a tremendous amount of lawyering to implement -- typical of Congress' modern penchant for complex and prescriptive legislation. I came to the FERC as a GS-11 attorney to help write regulations under these new statutes. Sounds insufferably dull but it was truly challenging and exciting. The rules of practice and procedure that govern the FERC's administrative litigation today were among my early projects.
One of your early projects was the deregulation of natural gas. In retrospect, how well has that worked?
Deregulation of the wellhead price of natural gas was actually done by Congress through the Natural Gas Policy Act [NGPA]. A hellish complex statute that took different kinds of natural gas supplies (depending on where and when they were produced), and priced them differently, and eventually phased out those prices under an elaborate mechanism. It provided for various kinds of other programs as well. The statute was very complicated to administer and it created some very unfortunate near-term effects. By the early 1980s, having come from a scarcity, we had both a surplus of natural gas and very high prices. The prospect for natural gas in the early '70s had been even more dismal, however. No new reserves were being developed and everyone was projecting that we wouldn't have domestic natural gas supplies to last out the century. Under the NGPA we went from that to a surge in natural gas development.
At the same time, we had very, very high prices. So you had one of those unfortunate economic anomalies of surplus supply and excess price at the same time, due primarily and initially to the way the statute operated in encouraging the market to price gas at the statutory ceiling. Eventually, the prices were decontrolled. The NGPA, for all intents and purposes, went away. That happened by the late '80s, and the wellhead price of natural gas is now controlled entirely by the marketplace. That has been a big success.
The question then became whether the American consumer, who bought gas at the other end of a transcontinental pipeline and distribution system, got the benefit of decontrol at the wellhead. Natural gas is still a fairly volatile commodity, but prices have stabilized. Even today's lower prices encourage producers to produce and to explore for new sources of supply, and the prospects for natural gas in this country now are very, very good. Some people think we will even have 30 to 40 trillion cubic feet of consumption by the year 2010, which is fully 20 to 30 percent greater consumption than we have ever had in this country. Given the environmental benefits of natural gas compared to other fossil fuels, that's good news.
This turn-around was a result of getting the commission and the Congress out of the way of the producers. It's a more complicated question than that, obviously, when it comes to how the market delivers and allocates an energy commodity. We continue to be involved in the certification of new interstate pipeline capacity and the regulation of rates and terms and conditions of pipeline service. The states regulate local distribution of natural gas.
At the distribution level we're making a lot of headway. Delivery of gas tends to involve use of essential -- or monopoly -- facilities and we are constantly trying to reconcile regulation and the operation of market forces. Federal regulators have been promoting a competitive, open-access market for 14 years, however, and I think we've been very successful in changing balkanized interstate natural-gas markets into a more integrated pipeline grid. That affords users at the end of the system choice among different sources of supply, different kinds of services (including storage service), and the ability to manage financial risks in new ways. It was critical for regulators to actively promote and even design market structures that worked operationally and curbed the opportunities for anti-competitive behaviors.
You left the FERC around 1988 and went into private practice of energy law. How does energy law differ from another type of legal practice?
I serviced mostly natural gas and electric companies, and the work that I did pertained to their basic business and their status as regulated utilities. Although companies like that have contract issues and uniform commercial code issues and other routine business issues, I dealt with energy law and policy issues akin to the ones I had dealt with in the government. For example, how particular sources of natural gas were going to be priced under the NGPA was very important to my clients. What kind of a relationship could a pipeline company have with its marketing affiliate under the commission's rules? What positions on a pipeline's cost of service would we take in an upcoming rate filing?
Those are the kinds of questions that a whole sector of the bar has dealt with historically. As a matter of fact, there is an Energy Bar Association that is active here in Washington and in Houston. I think we may have a Chicago chapter now, but for the most part those are the areas of the country where energy law is practiced. Energy is similar to any other administrative law specialty. In Washington, the focus is on regulated aspects of the industry. There is a communications bar and you probably had a railroad bar at one time. Railroads, of course, are substantially deregulated now.
You were a member of President Clinton's transition team in 1992. You were advising on energy issues?
I advised the campaign during most of 1992. I was still in private practice, but I coordinated the preparation of position papers and ended up by the summer of '92 doing some surrogate speaking for the campaign and engaging in some interesting debates before energy groups on policy issues of interest to them. When Governor Clinton was elected President, I was asked to serve on the transition team in what they then called the "Natural Resources Cluster." Although we reviewed the FERC, that was pretty minor. We focused largely on Executive Branch activities. In a very intense, short-term effort of about four weeks we developed a clear picture for the new administration of the current issues in particular Executive departments, what some of the organizational and management pitfalls were likely to be, and anything else that we thought were going to be important issues for the incoming administration.
I was asked to serve on the Department of Energy transition team and I found it very, very interesting. I left my job for a month and spent my time at DOE working with the fossil energy section--figuring out how they did their job and what their responsibilities and their issues were. We then compiled a report which ultimately, I think, has proven insightful in light of some of the organizational challenges that have surfaced at DOE. The Department of Energy, unfortunately, has three or four very distinct and disparate missions and, as a consequence, is a very hard place to run. We saw that coming when we were advising the President back in the fall of '92. Unfortunately, the fundamental and systemic changes needed in that department have not occurred.
In 1993, the President nominated you for a position on the FERC. Did your prior experience on the FERC staff make it a easier for you than for other commissioners?
In some ways it felt very peculiar to come back as a commissioner after having been a staff person. As a staff person, the political appointees at the top of the organization often seemed remote from our day-to-day work and all of a sudden I found I was one of them. It was a source of some discomfiture. But I had worked here for the better part of eight years before, and many of my friends and acquaintances on the staff were still there. It did make life somewhat easier for me in terms of knowing who to call when I needed an answer to a question.
I think it was the first time that a staff person had ever become a member of the commission, and it may have been the first time in the whole federal establishment that that had happened at a regulatory agency. Bill Kennard over at the Federal Communications Commission was General Counsel and is now Chairman, but I'm not sure if a GS-11 attorney has ever done quite what I did.
You've been involved with the FERC during both the Reagan and the Clinton administrations. These are rather different administrations, philosophically. Has that difference been apparent at the FERC?
I think there are some differences. Clearly, the people who led the commission during President Reagan's tenure were believers in competition and markets. They began to struggle with some of the fundamental questions that I think we've finally come to some fairly clear answers about -- for example, what is the role of modern regulation in helping to manage energy markets.
In the Reagan era, the staff here at the commission (and probably the whole regulatory community across the government) was confronting for the first time how the progressive, New Deal paradigm of regulation was going to perform and perhaps change as a result of changes in the economy, new technology, and changes in the philosophical climate. I felt a good deal of dismay about the anti-regulatory and anti-government sentiments of some Reagan-era leaders. Of course, the anti-Washington and anti-government themes that were being struck at the time are now a staple of political life. Of course, those winds had been blowing during the Carter era as well. But coming out of the 1960s, I suspect many of my contemporaries were still committed to the idea that government was an important engine of social improvement, and so the idea of deregulation created some philosophical dissonance for our generation.
I think the questions that were raised then about how to manage basic infrastructure are still the questions we're struggling to address today, both at the commission and in government generally. Over the last twenty years a consensus has surfaced that markets can be made to work in these heretofore heavily regulated businesses. That consumers can be served better and protected more by an efficiently competitive market. And that government's role is to ensure that competitive markets develop and operate responsibly, not to make all the key decisions through regulation. This is an often-ignored, bi-partisan resolution of a major issue of governance. It represents a fundamentally different precept about the role of public policy than the assumptions about regulated industries that were operative for most of the 20th century. I'm one of the big supporters of competition here at the commission, provided we can ensure that markets operate fairly and on a non-discriminatory basis. In other words, the goal must be to secure benefits for energy consumers, not simply to unleash the forces of monopoly power.
The commission's agenda, in other words, is largely non-ideological and we should resist any tendency to use regulatory policy for partisan ends. I think there's a consensus around these pro-competitive ideas, and while we argue over a lot of the specifics, I think that the days when heavy-handed or command-and-control regulation were effective and appropriate are gone. The government's role in guiding the energy economy and the economy's ability to provide reliable, low-cost services unsupervised is actually coming into better balance right now. That's not to say that all regulated companies or state regulatory agencies welcome competition. Franchise monopoly and guaranteed rates-of-return provide a harbor against risk and a degree of mutual control and predictability that is hard to abandon.
Electric power deregulation. Service is generally reliable and we have universal access in the U.S. to electric power. Should we be restructuring this industry and if so, why?
I always hesitate to use the word "deregulation" when we're talking about the restructuring of our energy industries, especially electric power. Like natural gas, the commodity part of the business (the sales of electrical energy) will become deregulated. The market will set the price for energy. The Commission has authorized such market-based rates in hundreds of cases already, because we determined the power sales market was competitive. But the transmission or distribution businesses I expect will continue to be regulated. It's a matter of ensuring that the delivery network operates fairly so that sources of supply can compete. Basically, it's the same theory that underlies our natural gas policies.
We are in many ways the envy of the world in terms of reliability and quality of electric service, but the assumptions that underlie the provision of this service are changing fundamentally. The industry in the last 30 years has experienced what Alfred Kahn called "technical and institutional failure." I mentioned the problem with nuclear power--the waste problem and the costs associated with it. There was a time when we thought nuclear power was going to be too cheap to meter and now it's the most expensive source of electricity. If you think about nuclear in terms of its entire life cycle, including the disposal of spent fuel, it's even more expensive to society than the market for power currently shows. Yet today we're taking a fresh look at the clean air benefits of nuclear power.
Beginning in the 1960s, electricity prices went up. There were enormous disparities in the price of electricity, even between customer groups that live 150 miles apart. The demand for electricity ceased growing. The last 25 years witnessed crisis after crisis in terms of natural gas and oil prices. The electric industry's economies of scale disappeared and the arrival of efficient gas turbines made clear that large central generation stations were not necessarily the most cost-effective source of generation, nor the only way to ensure system reliability and security of supply.
One of the most telling developments was that the embedded cost of operating old stations was becoming greater than the cost of building new generation units that used gas turbine technology. That's a sure indicator an entrenched industry's economics are in real trouble -- that it needs to change, opt for new technologies, find new ways of running itself. Ultimately, it means new ways of organizing markets and of structuring the corporate environment. In light of what I see as a mandate for change, both the industry and its regulators are in the process of trying to figure out exactly what those changes ought to be. Utility executives and entrepreneurs want to build new generation stations, consolidate companies, functionally disaggregate their operations, enhance transmission systems, and find new roles in the market. The wrong thing that regulators could do is to simply ignore these developments and assume they will resolve themselves consistent with the public interest. There is a substantial public interest at stake here.
I'd point out that the critical issue of electric reliability will figure in all future public and private decisions in this area. Since the 1965 blackout in New York the industry has taken it upon itself to ensure the reliability of electric service. There was such public concern about power outages that, in order to maintain the reputation of the business, investor-owned utilities and public power entities banded together in voluntary organizations to develop operational standards and generation reserve-sharing agreements that provided a high degree of protection against system failures.
The North American Electric Reliability Council (NERC) and its regional organizations developed standards that promoted greater system reliability. Industry participants agreed to adhere to those standards voluntarily. It was an easy thing to do among members of the club. You knew who had the service territory, there weren't new companies entering and exiting the business, and utilities developed elaborate arrangements to share generation reserves and to provide service to one another in times of emergency. It worked very, very well.
However since the early 1980s, in large part because of PURPA, we have discovered that independent entities other than large franchise monopoly utilities can generate power and do so reliably, and save utility companies and their customers a good deal of money in the process. Independent power is ready to assume the risks of competition. What they require is non-discriminatory access to the grid owned by the existing utilities. If that access is available you have marketers coming into the system as well, providing supply alternatives, new kinds of services, and instruments that help customers hedge price risks.
The electric power environment now is much more dynamic but somewhat less predictable. Both the industry and public policymakers recognize that the old voluntary reliability system won't work in the future. The club is dissolving and with it the self-enforcing mechanisms that can only work where no-one represents a competitive threat to others. In the new environment some degree of oversight by agencies of state and federal government with authority to enforce reliability standards will be appropriate. That change, frankly, will require some federal legislation. There is no national electric reliability agency right now and FERC has very limited authority over the issue at present.
In the last 25 years, we have seen airline and telecommunications restructuring. Both are big, capital-intensive industries and there have been bumps in the road. Are there lessons in those experiences for the FERC and the electric power industry?
I'm sure there are. The electric power industry is different from those industries, in that it's a real-time business. You can't store electricity or park it at an airport somewhere. You have to provide the service all the time with substantially the same quality. It's a business that dwarfs the others. The electric power industry, measured in terms of annual revenues, is three times the size of the telecommunications business, $210 billion. It has $600 billion in assets and so we're talking real money here, and the economic consequences of wrong decisions are conceivably quite great.
The Commission, and other public policymakers I'm sure, are watching what's happened in telecommunications--how difficult it has been to open retail markets or intra-lata markets to competition. The disparity between federal and state regulatory goals in that environment has been a difficult thing to correct. I think that, when it comes to the pricing of airline tickets and the nature of consumer services in the telecommunications business, a lot of people see something approaching chaos and unpredictability, and we want to do better than that.
We think that pricing will eventually develop to make sure that electricity, as a commodity, is stable and predictably priced, but that prices also reflect the real value of particular services, be that generation, transmission, distribution or other services in the market. As commodities go, electricity prices may be a little more volatile than has historically been the case. That's part of the trade-off for competition that can lower overall prices. Another lesson from telecommunications is the intrusion of marketers into the lives of people who have never had the ability to choose service providers before. I can't tell you how many times I, or especially my state colleagues, have been asked by consumers who are becoming aware of electric restructuring, "Am I going to get a bunch of phone calls from salespeople during dinner at night?"
One big question mark raised by electric restructuring, particularly at the retail level (which is not our province here at FERC), is how to get consumers to buy-in to this competitive set-up. To understand how the competitive electricity marketplace works so that they can obtain real value from having customer choice. Right now, public policy makers can look at the marketplace and see the inefficiencies and rate disparities and the opportunities for bringing prices down closer to the marginal costs of the service -- all of that may make great public policy sense. But consumers, historically, have deferred to or even embraced their local utilities who send them one relatively predictable bill. Life is fairly uncomplicated. That's true, and that's a benefit, even if consumers end up paying more than they might otherwise pay. However, I do not think we have the right to delay or deny consumer choice when it is now a physical and economic possibility.
The current system relieves consumers of the responsibilities of choice and, frankly, there's an awful lot of American consumers who prefer to have it that way. At the commission, where we deal with large bulk power transactions between the utility companies, that's not an issue. All I mean to suggest is that, ultimately, the success of competition -- and whether Congress and state governments and regulatory agencies continue to endorse that concept and to promote competitive markets -- will likely depend on whether the vox populi is a complaining voice or not.
Have there been models from natural gas restructuring that you have looked to for guidance in electric power restructuring?
At some level, all network industries tend to be the same. Whether there is a common delivery system for highways, telecommunications, electricity, or whatever, trade and competition require open access and non-discrimination. You need to ensure that the market is efficient. You need to ensure that there are no anti-competitive relationships between the network owners and affiliated users of the network. Those kind of structural issues need to be taken care of. It's the same in the electric power business as it is for natural gas.
But the industries are also very different in some very fundamental ways. One is the fact that while the electric utility industry, or at least the investor-owned portion thereof, has always been highly vertically integrated from generation through to distribution. The natural gas business has always been very segmented, with producers, transporters and local distributors being different companies in different geographical regions. One of the natural gas industry's big problems is that various segments of the industry have considerable trouble agreeing on which economic strategies and public policies will further their mutual economic ends. They rather view their own business as part of a never-expanding pie wherein a benefit for one segment is a detriment to somebody else.
The electric utility business, on the other hand, has seldom been confronted with those kinds of interdependency issues, simply because in one region or one franchise territory one company generally has owned or controlled the whole business -- generation, transmission, and distribution. That arrangement is most directly under attack right now. I rather imagine the utility industry that we will see 20 years from now will be highly disaggregated.
You've asked Congress for authority to oversee transmission in the TVA, federal power authorities and municipal utilities. Obviously, you consider this to be very important to making electric restructuring work correctly.
I think it is a simple proposition. Competition without adequate service reliability is folly. In developing a competitive marketplace we have to make sure the quality of electric service in the country doesn't decline. The industry believes that, politicians believe that, regulators believe that, and we're going to do everything we can to make sure that we can have our competition cake and eat it too. But this will require the commission to adopt a role that it has never before had, at least in terms of overseeing electric reliability. I hope the Congress is listening to the message because it is a widely-shared view.
From a historical standpoint and from the standpoint of the current legislative debate, one of the biggest issues is the future of federal power. Should not our flagship publicly-owned utilities lead the way to a new market for power? The Tennessee Valley Authority and the Bonneville Power Administration are two of the great success stories in American economic history and in the history of the electric power industry. Yet their regional dominance and market power are now viewed as impediments to competition. Even though they have been vital engines of regional economic development, they are viewed as enormous, subsidized monopolies that have no place in a competitive environment.
Figuring out the future of those organizations (because I don't think they'll disappear) will be one of the biggest challenges facing the Congress and the Administration. From the standpoints of how you deal with the federal investment in their assets and their obligations to the Treasury, and how you continue to provide the high quality service and economic development that those institutions have come to epitomize, the policy choices are not easy even if they are obvious. The Tennessee Valley Authority may be the toughest nut to crack, simply because it is as much a social service and economic development agency as it is a power supplier. We need to continue to explore with Congress, state regulators, and the administrators of the power marketing administrations what the role of competition is going to be in the Tennessee Valley, the Pacific Northwest, and other areas served by federal utilities.
If Congress says, "No, you can't have any more authority than you have now," would that derail Order 888 and the various other steps that you believe necessary?
That's a very complicated question. I think that we will do everything we can from our small precinct here on First Street to ensure electric reliability, even though the Federal Power Act assigns us virtually no direct authority to require NERC or its members to pursue reliability of service in any particular way. We have been confronted in the past year with two or three requests from the industry to bolster its private efforts to revise and update reliability requirements.
For example, the Western System Coordinating Council [WSCC] came to us early this year  and said, "We are adopting something called the 'Reliability Management System' [RMS], an elaborate contractual arrangement among the electricity suppliers in the whole Western half of the country, including generic standards for operations within our organization. FERC, we need you to bless the RMS and the standards. We need FERC to stand behind it, and we need -- most of all -- FERC to say that these standards are just and reasonable, not unduly discriminatory under the Federal Power Act." As the WSCC develops these standards (given the diversity of situations in which they might apply now), the people who rely on them or who, for example, curtail electric services pursuant to those standards expose themselves to potential legal liability. The Commission does have authority over the terms and conditions of electric service and a responsibility to make sure that, when it comes to commercial practices in the business, power is provided on a non-discriminatory basis. So we can say some meaningful things about the justness and reasonableness of these arrangements and how commerce and the public interest is affected by these new standards.
What we can't do is look at them and say, "This is a good standard or a bad standard from the standpoint of whether it is technically sufficient to guarantee reliable service." That's just not our job. Not only do we not have the authority, we probably don't have sufficient expertise. These can be very complicated electrical engineering issues and we have not yet been asked by the Congress to wade into such matters. Ironically, it is industry that wants the FERC to do as much as it can to ensure the industry begins to develop new reliability programs in a responsible way. The history of regulation attests to how it can benefit industry by promoting "best practices."
As for open access transmission under Order number 888, it will clearly not be fully achieved--and competitive wholesale markets will not exist--unless the Commission obtains jurisdiction over all transmission, the ability to curb market power abuses, and authority to establish regional transmission organizations [RTOs]. The Commission and, more important, electricity markets await Congress' action.
Have there been discussions between FERC and the Federal Trade Commission about marketing? Regulating, for example, claims about "green power?"
I'm sure that will come as energy services like green power become available in some substantial way. I'm sure that disclosure will become an increasingly important issue. What is green power? How many of those electrons in your light bulb have to be generated by a hydro plant or a solar unit? It raises some very difficult issues, not just from a public policy or a truth-in-advertising perspective, but it raises very difficult technological questions. One may have solar and wind units and other kinds of renewable energy located around the grid, but that doesn't mean that when you buy your power you're necessarily buying power from those units as opposed to the coal plant down the street. Or that the renewables will be rewarded for their outputs. It really will require a deeper public understanding of what green power means. I think it's a very practical concept, but it's not what it seems to be, unless of course you have a windmill on your roof and then it's a different question.
There's an important educational need, because this is such a key piece of the nation's infrastructure. If there's a need to understand the telecommunications revolution and the rise of the Internet, what happened to the railroads and mass transit and airlines and health care networks -- if there is a need for the public to understand that, I can't imagine there isn't a need to understand this. What the American public takes for granted, of course, is any essential service that has been virtually guaranteed them for most of a century in ways that are designed to make its risks and dynamics invisible.
And quite paradoxically, the economic leadership in the country has facilitated that. Even now decisions about electric power is a game of insider baseball. Although the way in which the nation's power needs are met is a vital concern, the decision as to how it ought to happen is delegated to a few cognoscenti who are predisposed to think about things like allowed rates of return on equity all the time. But outside the bosom of the lodge there's little public involvement in deciding the future of this industry and what it means to the public. As a result, the American public is not really prepared to think about electricity as a commodity or to exercise choice among suppliers on economic, environmental, or other grounds.
People need to appreciate how important this is to their lives, and feel as if they have some control over the future of this industry through economic as well as political choices. The public has an interest, but I don't think many people feel as if this $200+ billion business is anything they can influence in any important way. That's part of the reason Congress is finding it so difficult to legislate. And it's part of the reason why those people who are promoting competition and who think competitive markets for power are ultimately going to be good for the country are hesitating about pushing too hard. They don't hear any public concerns about it. They don't hear the public lobbying for customer choice. And restructuring can be misinterpreted as mere sloganeering that will ultimately yield very little in terms of new consumer benefits. American consumers are going to have to be more of a part of the emergence of competitive markets than they are right now. We are not alone in pointing the way. It has not gone unnoticed by me that the American Association of Retired Persons and the Consumer Federation of America support the Commission's legislative proposals to open up bulk power markets.
Some industry analysts predict that eventually there may only be six or seven transmission organizations nationwide. In laying the groundwork of future policy, does it really matter what form of organization controls transmission? Or is distributed generation going to make it all "the stranded assets of 2020?"
I don't think that the future of transmission is necessarily the most controversial part of electric restructuring. I think that stranded asset issues and retail competition issues are much more hotly debated. But the future of the transmission network, and how those assets are used, will be the key to competition. I think everybody is coming to recognize what we said in Order 888 three years ago, that competition in the electric power industry both at the wholesale and the retail level is going to depend on an open, non-discriminatory transmission network with comparable service for all users of the system--including native load.
We have done our very best to promote open access and have worked very hard since Order 888 to ensure that utilities owning transmission provide a uniformly high quality of service to others who want to use their networks -- the same quality of service that they provide themselves. Realistically speaking, there is tremendous discrimination and inefficiency remaining. So, in late 1999, the Commission issued its Order number 2000, which sets forth an entirely new vision of wholesale market structuring. It strongly encourages all utilities that own transmission cede control of that transmission to an Independent System Operator (or "ISO") or divest their ownership of transmission to an independent wires company, so that the transmission system is not affected by the economic stakes these utilities have in selling their own generation.
Generically, we call all those things "regional transmission organizations," or RTOs. "Gridco", "wireco", "transco", and "ISO" have slightly different meanings in current parlance--along with different kinds of governance structures, different kinds of profit motives, and different kinds of incentives to act. Nevertheless, the Commission believes at bottom that regionalization -- regional management of the transmission system -- will promote better pricing, eliminate rate barriers that exist when a transaction crosses multiple utility systems, enhance reliability at the bulk power level, and promote greater efficiencies. Ultimately, we may see regional transmission organizations becoming as large as the whole Eastern Interconnection or the whole Western Interconnection, because these grids do operate as one machine as an engineering matter. But it's not going to happen immediately. It's got to happen on a smaller scale first. We must persuade the industry and persuade the Congress that this is a key concept in taking open access to a higher level and achieving a greater degree of operating and economic efficiency. RTOs will make this industry much more competitive and efficient over the next century, but this effort requires a rethinking all the assumptions about monopoly and vertical integration and how utilities operate and who they serve. It is not clear that this Congress is up to the task.
Order number 2000--even though it relies on a voluntary compliance--will compel electric utility executives to think about what business they want their companies to be in in five years or 10 years. Do they want to be in a highly competitive generation business? Do they want to own transmission? Do they want to market power? Do they want to provide energy services? Do they want a service territory? They haven't had to face such questions in the past. Now they must. If they cannot devise a strategy to participate in an RTO, thereby creating broad, regional transmission network markets, I fear that Commission will be left with no option but to be prescriptive. As executives struggle with these questions and billions of dollars of consumer benefits are being lost, the Commission may be required to utilize its full authority to preserve the benefits of competition.
Distributed generation [DG] has a bright future but I would not say, as your question suggests, that DG is the beginning of gridless energy. The technology will be ready for greater commercialization in three to five years, but the uses of DG will generally be limited to peaking service, an assist to system reliability, or a kind of demand-side management when commercial facilities self-generate and get paid not to take as much power off the grid.
One of the new buzz words is "convergence," or ways of integrating energy interests. Particularly natural gas and electric power companies, both of which fall under your jurisdiction. Is this complicating matters or does it make things simpler?
Convergence complicates things a little bit. When we've had FERC jurisdictional mergers of natural gas and electric companies, the Commission's staff has been challenged to analyze the market power implications of controlling both upstream supplies of natural gas and downstream sources of generation that depend on natural gas. What are the opportunities for taking advantage of the kind of vertical market power to foreclose competition or control prices?
Generally speaking, though, I don't think it complicates our regulatory job a whole lot. We regulate these two industries under the quite complimentary schemes of the Natural Gas Act and the Federal Power Act. Even if gas and electric operations merged into the same company, in most cases they would remain regulated in the same way. Eventually, we may find that natural gas pipeline transportation is every bit as important to electric restructuring and the trade in electricity as open access on the transmission system. At bottom, utilities are rapidly diversifying into telecommunications and overseas investments as well. Their new dynamism is hopefully not a challenge to the consumers' interests we are sworn to protect.
Put on your historian's hat. We're a couple of years into the process of restructuring the electric industry. Have there been critical events that stand out as being important to the early history of this effort?
Clearly, I think the Commission's Order 888 and Order 2000 are key developments. We have pushed the policy envelope from Washington even though Congress has not acted on electric restructuring yet. What we are doing, in part, is implementing what we perceive to be Congress' pro-competitive inclinations in the 1992 Energy Policy Act [EPAct]. Yet we've decided that, given changes in the industry and the way we understand the market, that it's our responsibility to move aggressively and beyond EPAct to help craft the emerging electricity marketplace in ways that are both rational and fair.
It's much like what happened with natural gas pipelines. Congress decontrolled the price of natural gas, but for a variety of reasons (including the fact that pipelines were both in the merchant function and the transportation function), many of the benefits of wellhead price decontrol were not flowing through to consumers. So the commission took it upon itself in 1985 to begin requiring transportation access on a non-discriminatory basis, which we finished by unbundling the pipeline services in 1992 in Order 636. All that flowed from the general dictums of 1978 legislation. But a historian should never presume anything is inevitable. Restructuring is hard work and the potential for error is great. The ultimate outcome will be influenced by various groups. So those key public policy decisions are important.
I think the decisions being made in the corporate environment are extremely important. Utility consolidation is a powerful influence. I can't point to one merger that is more important than others, but they are, in the aggregate, changing the face of the business. A number of major companies (including some European companies), are buying electric utilities and merging them into larger, hopefully more efficient operations. Companies are buying reputations for service, new operations, expertise, and even customers, when they buy other companies.
At the same time, 10 percent of the country's electric generation has been on the block in the last couple of years. When companies that own units like Three-Mile Island are able to sell those plants to somebody else, often above book value, you know there's a real shake-out happening in the market.
There are two other events I would mention. First I should mention the severe price spikes that we experienced in the Midwest in June 1998. For an unfortunate day or two extremely hot weather and violent thunderstorms knocked out a nuclear plant, a number of market problems combined, and the price of power in the bulk power market skyrocketed from $30 a megawatt-hour to $7,500 a megawatt-hour. This demonstrated that--if we fail to make competitive markets workable--it could be very costly for the American public and for some companies.
The emerging electricity market has plenty of warts at this point, in terms of access to accurate information, the credit-worthiness of marketers, the transparency of prices and transmission availability, and people's ability to move power around on a regional basis to where it is most needed at any moment. Those kinds of issues need to be solved across entire regions where the exchanges of bulk power take place. We have already done that to a significant extent, namely in the Northeast where the system has responded to historically high demand during the 1999 summer peak under the direction of ISOs and now seems to perform very well.
Now, Mayor Giuliani complains bitterly because Consolidated Edison lost a couple of hundred thousand customers in New York City last weekend [6 July 1999]. It shows you how very high society's expectations are. During that heat wave the PJM [Pennsylvania-New Jersey-Maryland] Interconnection had demand placed on its system of well over 50,000 megawatts -- well above anything it had experienced before. They met that load, in part by drawing on suppliers from several states away, and were able to manage the system without any substantial hiccups. That demonstrates the importance of a reliable and integrated transmission system. PJM has developed a coordinated regional system for redispatching generation units, and they were able to get some additional supplies from Canada and from the Midwest, to do things that individual transmission-owning utility companies are unable to do.
PJM has a somewhat unique locational marginal cost pricing scheme in place. Did that play a factor last summer?
I don't necessarily think that played a role in alleviating this problem. What locational marginal cost pricing does is allocate resources on a rational basis when the system is constrained, and demonstrate where the system needs to be expanded. It allows people to exchange contracts and transmission rights--a quick and effective way of allocating constrained transmission capacity in the short term.
The other thing I would mention, in response to your earlier question about my historical perspective on industry developments, is the significant number of states which have concluded that retail electric competition is the best public policy for their citizens in the future.
Two years ago, the only states that wanted competition were states like New York and California where the price of power hovered at 60 or 70 percent above the national average. Suddenly, there are 24 states that have either enacted retail competition legislation or have taken action at a regulatory level to implement competition. Congress, until recently, was contemplating ordering all the states to open their retail markets to competition by a date certain. I think that those plans have been abandoned for the moment, although the need for a federal mandate may come again.
Do you see a future for nuclear power?
I do. You know, nuclear is always going to be hobbled until we have a solution to the long-term waste-storage issues. The new generation of nuclear plants are substantially better designed and the economics are probably turning around. But plants still take a long time to build. Natural gas combined-cycle units can be built more quickly for much less--and generate power for a lot less. But there are two events that could change that. One is the price of natural gas and the other is clean air requirements. Nuclear generation is reputed to have few consequences for the air. That certainly does not mean it doesn't have its environmental problems, but if we're focused on trying to clean the air, it's hard for me to imagine that there isn't a role for nuclear power in the future.
The degree to which restructuring is technically determined. Nuclear didn't go where we thought, thus far we have no way of storing electricity, the sudden availability of gas, and the efficiency of gas turbines and cogeneration. Have there been other significant technical happenings in the last decade or so?
I don't think that restructuring in the electric and natural gas industries is as technologically driven as in telecommunications. The Internet, for example; what a phenomenon that has turned out to be. Not only is AT&T wrestling with the regional Bell operating companies over local access, they are buying up cable companies and deciding they can provide local access and data access a different way. Of course, the technology now exists for sending data over electric distribution lines and that may create an even greater struggle to win over residential customers.
I think electric power and natural gas may be slightly more staid technologically, but I do think the gas turbine has allowed for distributed generation, an important development in the long run for ensuring reliability, shaving peaks, and serving small loads off the grid. I think that superconductivity at the transmission or distribution levels could mean delivery of substantially greater amounts of power over longer distances, using the same wires and rights of way. I think that could be very significant.
But the biggest impact I see on the electric industry--and on natural gas industry as well--is from communications technologies. The ability of organizations like the PJM Interconnection or the NEPOOL [New England Power Pool] ISO or the California ISO to manage very large, technically complex systems and financial markets from one central location. To understand the systems in real time and to empower market participants to be able to make decisions to buy or sell power in ways that replicate any commodity market. I think that those technologies offer significant additional opportunities for efficiency and will actually expand the capacity of the system to perform, even if we don't string another wire or build another plant.
We started the Powering project with the notion that a 10-year span for our monitoring of restructuring made sense. Is it?
Well, regulators began restructuring the natural gas pipeline industry in 1985. Congress deregulated wellhead prices in 1978, and we are still doing things to help that market improve and evolve and become more efficient. So gas restructuring is not over yet. But all the basic features of the modern gas industry (for the next 10 to 20 years anyway), are fairly well understood. Who is going to own transportation, how it's going to operate, where the new incremental demand is going to come from. It's going to come from electric generation.
We know an awfully lot about the future of the natural gas industry right now. We don't know as much about electricity, but electric restructuring is moving much more quickly. There will shortly be as many retail markets that are open to competition on the electric side as there are natural gas markets, and that tells you something. Electricity plays a key role in all our lives, and the idea of changing old-style utility monopolies into competitors is something that has grabbed the imagination of public policy makers in a way that natural gas never did. Few residential gas customers have competitive supply choices, nationally.
I think these industries are going to continue to change. We've got a very complicated phenomenon on our hands, and I think in five years we're going to know 80 percent of what we need to know about what the future holds for the electricity business--at least for the next half century. But the developments are going to continue, and there could be another major change in technological innovation that will change the entire equation.