“Cost Causer Pays” or Where is the Incentive for T&D Grid Upgrade?

by David Niebauer

In representing a utility-scale solar developer client recently, I was surprised to learn (naively, I now realize) that the general rule for transmission upgrades is  “cost causer pays”.  What that means for my developer client is that, regardless of how desirable the project, the developer will have to pay the full cost of upgrades to the grid network to bring the generation on line.  This is the case even though most of the positive effects of the upgrades will benefit the utility and the electricity consumers in general, and even competitors that will be able to piggyback on the investment.

This has led me to ask the question in the title of this article:  who has the incentive to invest in upgrades to the nation’s electricity transmission and distribution system?

It is common knowledge to anyone working in Cleantech that the transmission grid requires extensive upgrades.  These upgrades are required in order to allow more renewable resources to be brought online, and they are necessary for modernization and expansion.   The grid was built a long time ago and infrastructure investment in the area has lagged for decades.  The most recent (and reliable) estimate that I have seen anticipates that $165 billion will be deployed over the next 20 years upgrading and expanding the grid.

Deregulation has forced utilities to cede control of transmission assets to Regional and Independent System Operators in order to open the transmission grid to all participants.  Under the current regulations, RTOs and ISOs, being non-profit entities, have no incentive or ability to either acquire existing transmission assets or develop new ones.  Some observers believe that independent for-profit transmission companies will emerge, with regulatory and financial incentives that will permit a roll-up of transmission assets into stand-alone businesses. Should such a structure emerge, the right incentives for grid upgrade might exist, but this structure is only one of a number of solutions and only time will tell if it will emerge.  In the meantime, ISOs/RTOs are unlikely candidates to spend money on transmission upgrades.

Ultimately, or course, we will all pay through higher electric utility bills.  David J. Leeds of Greentech Media makes the case that utilities will drive investment in T&D upgrades.

“When you consider that the U.S. electric utility sector, with it’s annual revenues of roughly $300 billion, is 30 percent larger than the automobile industry and twice as large as the telecommunications industry, and then bring to mind the craze of dotcom investments and telecom M&A which occurred in the mid to late 1990s, a reasonable picture starts to emerge of what can be expected of in terms of Smart Grid investments and M&A in the next five to 10 years. Many of the senior level employees working for privately held companies in Smart Grid, have backgrounds working in either telecom or IT.”

From a macro perspective, I am sure this is true.  However, given the difficulty that utilities have in passing on costs to ratepayers, the build-out will almost certainly go slower than most observers would like.  The so-called “SmartGrid City” being built out by Xcel Energy in Boulder Colorado is a case in point.  Xcel has been allowed to pass on to ratepayers $45 million of the estimated $100 million cost of that project, and the good citizens of Boulder are not happy about it. No doubt this will be read as a cautionary tale for other utilities with plans to move forward on their own with T&D upgrades.

The Federal government will be able to stimulate some of the upgrades through grants and tax incentives, but its impact is both jurisdictionally and fiscally limited.  While the FERC regulates wholesale prices, it has no authority to mandate the construction of new transmission lines – these decisions are all made at the state level.  But the grid is a network of interconnected transmission lines which of necessity cross state and regional borders.  Without a central planning authority, development occurs in a piecemeal and halting fashion.

The American Recovery and Reinvestment Act of 2009 (ARRA) is providing about $4 billion in Smart Grid stimulus funding, but given the enormity of the required work, this is really a drop in the bucket.  Yes, we desperately need a national energy policy that would include construction and upgrade of regional transmission lines.  But given the legacy of the transmission grid and the desire of state and local governments to have control over energy costs, I have a hard time seeing how coordinated activity can occur.  Add on top of this the debacle of deregulation and you can begin to see the quagmire we are in.

State governments have big plans for bringing large amounts of renewable energy on-line.  The Texas CREZ (Competitive Renewable Energy Zone) is a $5B plan to move 18 GW of wind from west Texas and the panhandle to the major load centers in east Texas consisting of 2300 miles of new 345kV transmission.  Search “Intl_ROW_012710.pdf” for more information.   In California and the west, the Western Governor’s Association has developed the Western Renewable EnergyZones (WREZ) to bring wind, solar and geothermal into the western load centers. The WREZ initiative seeks to develop 30 GW of clean energy by 2015. This initiative calls for the construction of significant new interstate transmission lines.

The CREZ will be paid for by ratepayers, but the WREZ has no funding for its ambitious plans.

To highlight the problem, the WREZ initiative states:

“In order to plan and support the permitting and construction of new transmission lines, there must, at a minimum, be close coordination among resource planners, transmission providers, sub-regional and interconnection-wide transmission planners, transmission developers, federal land use agencies, renewable developers, state, provincial and federal regulators, and environmental organizations.”

With benefits to be derived by 11 US states, 2 Canadian provinces and some areas of Mexico, how do the costs get allocated?

The Brattle Group has done a study on the cost allocation and recovery approaches to transmission grid upgrades.  They explore a number of the methodologies being used and being developed.  They document the complexity of current cost allocation approaches.  While some single state approaches appear to be working, regional transmission upgrades, which are by far the most important to the national grid, are more difficult.  The final takeaway from the report:  “Despite years of effort, cost allocation remains the number one barrier for multi-state, multi-utility transmission projects.”

Obviously, “cost causer pays” is not going to get the job done.  We need a national energy policy with a strong transmission and distribution grid upgrade component.  The task is complicated by overlapping and sometimes competing federal and state objectives, but failing to act is simply not an option.  Both financial and policy incentives must be made clear for stakeholders so that the greenpower superhighway that many envision can become a reality.

David Niebauer is a corporate and transaction attorney, located in San Francisco, whose practice is focused on clean energy and environmental technologies.