Policy Issues on Electric Utility Industry Structure and Regulation with a focus on Smart                                 ...
Policy Issues on Electric Utility Industry Structure and Regulation with a focus on                                   Smar...
these relationships helps shape behavior in ways that lead to preferred outcomes         (performance)2.         SG3 prese...
structure of utilities planning for SG and how utilities and their regulatory bodies work      through these issues. The f...
companies. In addition, there is significant concern about sustaining privacy safeguards        as well as cyber security ...
approach, Grant Seiffert, President of the Telecom Industry Association, argues that if           communications suppliers...
Trained as a Ph.D. level economist, I‟m familiar with the tools commonly employed by        neo-classical micro-economists...
One methodological approach used by practitioners of IE is borrowed from the field of         Industrial Organization.12  ...
functions organized into structures, and policies that define management principles and        decision making.”14 Simon D...
That framework has proven to have a great deal to offer the policy maker. Yet, it really         isn‟t a framework that co...
electricity grids into an interactive (customers/operators) service network referred to as         a Smart Grid.”19       ...
It is my hypothesis that both price competition and reductions in production costs are           more likely to occur with...
plant versus buying the output from one using a power purchase agreement (PPA) is         succinctly summarized in Order 1...
contracting safeguards. Among her observations is that the “…optimal governance          choices may depend in part on [th...
Rate of return (ROR) regulation31 is credited with influencing the BvB Decision towards           building, as was noted i...
co-op in Indiana and a telecommunications company. She writes “Central Indiana         Power [CIP], a small co-operative i...
accelerated depreciation schedules for certain forms of NUG-owned renewable energy,         and the California state produ...
the cost of making customer information available to a party other than the utility and       the customer? What policy, t...
The USDOE has been investigating the issue of customer privacy and have recognized                                        ...
specified in the authorization;44             Considering the potential value of these data, if we wish to advance SG, cus...
and capable of addressing SG investments, albeit with some tweaks to investment        analysis. While some changes may be...
a lack of understanding about the ability of the existing regulatory structure to addressSG. Isn‟t it possible to tweak th...
return for greater stability. Of course, that‟s what happens when various riskmanagement strategies are used, such as, for...
One reviewer of this paper commented that he thinks an even larger issue is thechallenge of a regulated utility working cl...
(PBR).47 PBR represents an alternative to staffing commissions with the skill sets        required by SG and continuing to...
paper does not reach any definitive conclusions on these three issues, other issues areraised that can affect the decision...
BibliographyBlatt, Marchelo. “Next-Generation Utility Telecommunication Solutions for the Smart Grid,”<http://www.elp.com/...
Wiki. New Institutional Economics. <http://en.wikipedia.org/wiki/New_institutional_economics.>___________http://www.britan...
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Psu policy issues on electric utility industry structure and regulation with a focus on smart grid

  1. 1. Policy Issues on Electric Utility Industry Structure and Regulation with a focus on Smart Grid (SG) Adoption © By Robert J. Procter, Ph.D.1 Presented at The 2nd International Conference on Government Performance Management and Leadership Innovations toward Sustainable Solutions October 1st-2nd, 2011 Portland State University Portland, OR, USA1 Dr. Procter is a Sr. Economist with the Oregon Public Utility Commission. Currently, he is the staff lead on smart grid.The views expressed here are solely those of the author. All rights reserved.
  2. 2. Policy Issues on Electric Utility Industry Structure and Regulation with a focus on Smart Grid (SG) Adoption By Robert J. Procter, Ph.D.I. Introduction The title of this conference “The 2nd International Conference on Government Performance Management and Leadership Innovations toward Sustainable Solutions,” has posed some interesting challenges to me. Since I‟m an economist rather than a practitioner of Performance Management, I wasn‟t quite sure how to frame issues in the SG literature in a way that would raise policy issues for those of you who are Performance Management practitioners. Please excuse any errors in my understanding of your discipline. Performance includes behavior and results. My understanding of Performance Management is that it focuses on evaluating and identifying effective organizational structures. The objective is to help identify structures that will result in more effective choice (behavior). In this paper I want to raise some structural issues that I believe affects SG adoption and performance. It‟s interesting to note that while economics is concerned with choice and performance, it rarely examines structure in ways that impact choices and behavior. Understanding 1
  3. 3. these relationships helps shape behavior in ways that lead to preferred outcomes (performance)2. SG3 presents some significant challenges and opportunities to the stakeholders - citizens, third-party private sector firms, utility customers, utilities themselves, legislators, and regulators – that will ultimately shape SG as part of sustainable development. One issue that interests me is how technology choice (behavior) and SG adoption may be influenced by organizational structure. For example, at a recent workshop I held at the Oregon Public Utility Commission (OPUC) on SG planning, one utility representative expressed his view that the internal process changes required to successfully adopt and implement SG exceed the technological challenges. My instinct from working for twenty years at a wholesale utility leads me to a similar conclusion. That is, while a good deal of attention is placed on technological change, significantly less attention is given to structural changes, including, but not limited to, organizational changes, that support technology adoption. In this paper, I want to examine two issues for public policy research that will likely play a role in determining the cost and customer acceptance of SG. The cost and customer acceptance of SG are two measures of performance that will be affected by the2 Oliver E. Williamson is one notable economist who has focused on these issues. Practitioners of Institutional Economicsalso focus here. Oliver E. Williamson is Edgar F. Kaiser Professor Emeritus at the Haas School of Business. Related tosome of the issues raised in this paper, “His focus on the costs of transactions has led him to distinguish between repeatedcase-by-case bargaining on the one hand and relationship-specific contracts on the other. For example, the repeatedpurchasing of coal from a spot market to meet the daily or weekly needs of an electric utility would represent case by casebargaining. But over time, the utility is likely to form ongoing relationships with a specific supplier, and the economics of therelationship-specific dealings will be importantly different, he has argued.” See:http://en.wikipedia.org/wiki/Oliver_E._Williamson.3 There are many sources for an overview of SG. One need only Google Smart Grid and clicks on various citations. I thinkof it as integrating the existing power delivery system with digital communication, monitoring, and sensing devices. 2
  4. 4. structure of utilities planning for SG and how utilities and their regulatory bodies work through these issues. The first issue examines building versus contracting for communication services and the second issue is data sharing and customer privacy. This paper will examine what several practitioners have found concerning the connection between the structure of electric utility regulation and choice, and the potential impact that choice has on performance. A third issue that is raised, and that will only be touched on here, is the extent to which traditional utility regulation can adequately address regulatory issues raised by SG adoption. Section II provides an overview of the communications needs of SG. Section III presents a brief overview of the Structure-Conduct-Performance framework. Section IV examines the issue of build vs. buy, and some research suggestions are broached. Section V raises several issues surrounding customer privacy, and Section VI continues a discussion raised by other writers about how adaptable conventional utility regulation is to the SG challenge. Finally, section VII contains a summary.II. Communications is the Central Nervous System of Grid Modernization Power grid modernization, or what is more commonly called SG, represents a monumental shift in the amount of information produced and used by the power grid. This information will be collected by a communications infrastructure that supports digital monitoring devices. This communications infrastructure will require the electric utility to become more knowledgeable about communications technologies. This is true whether internal capabilities are enhanced or the utility contracts with communications 3
  5. 5. companies. In addition, there is significant concern about sustaining privacy safeguards as well as cyber security standards. Better communication is essential for power grid modernization. However, it‟s quite challenging to try and identify a dividing line between SG communications technologies and non-communications SG technologies. That difficulty underscores the degree to which SG technological investments are inextricably communications related. At the same time, given the structural differences in existing electric supply systems, and existing communications structures to support those systems, means there is no “one size fits all” choice. As such, most networks will require the layering of technology to flexibly accommodate different technologies and physical requirements. Additionally, it‟s been argued that layering communications (rather than having one system) enables a utility to pick an approach that can better match cost, performance, management, and security. This matching is necessary because SG requires the integration of diverse communications technologies within an overall structure. Don Bowman, Manager of Engineering at Wake Electric, notes that “The biggest unknown for utilities about the Smart grid is the communications network to make all of the technologies ‟talk,‟ and the setting to make it secure enough to keep the bad guys out of our country‟s electric system.”4 He further predicts that the electric utility industry will have to rely on the expertise of telecommunications specialists. Taking a similar4 Don Bowman, “Why we are building a Smart Grid and why electric and telephone utilities will work together,” See:http://www.tia2011.org/Frontpage-Blog-Layout/entry/why-we-are-building-a-smart-grid-and-why-electric-and-telephone-utilities-will-work-together.htm 4
  6. 6. approach, Grant Seiffert, President of the Telecom Industry Association, argues that if communications suppliers and electric network operators are going to respond to the changing landscape for electric utilities in a way that makes economic sense, the telecom and power-delivery industries must work together.5 III. The Structure-Conduct-Performance (SCP) Framework In the prior section, we introduced some structural elements of the communications infrastructure in support of SG. This communications layer plays such a significant role in SG that how it evolves will partly be determined by how these two distinct specialties – communications industry and the power industry – are able to work together. What are some of the issues surrounding organizational design that likely affects the performance of power grid modernization? While economic research does bleed over into the area of organizational design, for the most part, they are treated as very different topics. In the regulatory setting, one manifestation of this disciplinary segmentation is the OPUC‟s focus on whether an investment is economically justified, and much less focus on the utility‟s organizational structure. While the regulator may challenge the utility‟s compensation or the need for more or fewer hires in some part of its operation, by and large the regulator leaves the utility‟s internal organization (its internal structure) up to the utility.5 Grant Seiffert, Telecom Industry Association, “Utility Communications: The Next Great Broadband Revolution,” April 1,2011, 5
  7. 7. Trained as a Ph.D. level economist, I‟m familiar with the tools commonly employed by neo-classical micro-economists. While working on my doctorate at Michigan State University (MSU), I crossed paths with a group of researchers who were interested in broader questions than the questions that appear to occupy the majority of the economics profession. That group of researches and teachers were interested in questions about how structure affects decisions (choices) by individuals, groups, and organizations, and how those choices support the outcomes – goals – of those individuals, groups, and organizations. Performance of an organization, which can also be thought of in terms of the performance of a market, is then a result of choices made by the various stakeholders in response to a set of incentives and disincentives that are defined by the structure of that organization or market. A. Allan Schmid first introduced me to the SCP framework.6 Allan was a key mentor of mine along my journey in Institutional Economics in the John R. Commons7 mold of Land Economics8 as part of the Agrarian Movement.9 Institutional Economics10 (IE) is not to be confused with New Institutional Economics (NIE).11 The former explicitly borrows from other social sciences to broaden the approach to economic issues of behavior, resource allocation, power, and distribution beyond that provided by neo- classical economics while the latter is firmly rooted in Neo-classical economics theory.6 Professor emeritus, MSU. See: https://www.msu.edu/user/schmid/schmid2.htm.7 See: http://www.wisconsinhistory.org/topics/commons/.8 For an overview of Land Economics, See: “Land Economics in the United States.” By Lloyd Rodwin in The TownPlanning Review, Vol. 21, No. 2 (Jul., 1950), pp. 161-179.9 The Agrarian Movement in the United States was part of the Populist Movement. A short overview is provided at:http://www.britannica.com/EBchecked/topic/470477/Populist-Movement.10 For a quick overview of Institutional Economics, See: http://en.wikipedia.org/wiki/Institutional_economics. A more in-depth overview is provided by John R. Commons at: http://socserv.mcmaster.ca/~econ/ugcm/3ll3/commons/institutional.txt.11 A quick overview is provided at: http://en.wikipedia.org/wiki/New_institutional_economics. For a more thoroughoverview, see: http://www.coase.org/nieglossary.htm. 6
  8. 8. One methodological approach used by practitioners of IE is borrowed from the field of Industrial Organization.12 Turning to the SCP framework, Structure refers to such elements as statutes, procedures, rules, performance standards, as well as less formal structures, such as, guidelines, customs, standard operating procedures, and the like that influence electric grid organization, operation, and decisions by the stakeholder.13 Conduct refers to the decisions that these various stakeholders make that are guided in part by the structural elements. Performance refers to outcomes. Performance measures include, but are not limited to, cost per kilo-watt-hour, number and length of outages, voltage levels and stability, plant emissions, supply options electric customers face, amount of financial risk and which actors bear which risks, incremental cost, and average system costs. There appears to be a good deal of overlap between IE and Performance Management. I understand that in Performance Management, performance includes both conduct and outcomes. In contrast, IE separates behavior (conduct) and performance. Before progressing further, let me define the term “governance structure.” In any size organization, but surely in one the size of a utility, part of effective program design is effective governance of the program. One definition of governance is: “…a combination of individuals filling executive and management roles, program oversight12 For a concise overview of the study of Industrial Organization, See: itpress.mit.edu/books/chapters/0262032864chap1.pdf.13 By stakeholders, I refer to consumers, stockholders, directors, regulators, and other groups with a stake in this issue,including but not limited to, environmentalists, consumer advocates, lenders, trade associations, state and federal legislators,and state and federal regulatory bodies. 7
  9. 9. functions organized into structures, and policies that define management principles and decision making.”14 Simon Deakin15, Robert Monks Professor of Corporate Governance, defines corporate governance thusly, “Corporate governance is about how companies are directed and controlled.”16 He goes on to argue “Good governance is an essential ingredient in corporate success and sustainable economic growth.”17 Corporate governance is one component of Structure in the SCP framework. While the governance structures of an organization (or a specific program such as SG) will affect the performance measures of interest to the regulator, they do not appear to receive much attention in the regulatory process. While practitioners of neo-classical microeconomics focus a great deal of what choices individual consumers and businesses make and how markets perform, I‟m confident saying that its categorization of consumers, businesses, and markets are highly rarified. That approach is so rarified that the micro-economist really doesn‟t know what really motivates the consumer or the business owner. Assumptions about utility maximization by the consumer and profit maximization by the business leads to a set of conclusions about what choices are rational for each to make and then reaches conclusions about how markets (organizations) will perform based on what individual choice is considered „rational‟ given the assumption of utility maximization by consumers and profit maximization by businesses.14 Michael Hanford, Chief Methodologist, SUMMIT Ascendant Methodologies, “Defining program governance andstructure,” IBM, develop Works, See: http://www.ibm.com/developerworks/rational/library/apr05/hanford/.15 According to Wiki, Dr. Dearkin is Professor of Law at the Faculty of Law, Cambridge University and a Fellow ofPeterhouse, Cambridge. He is a program director in the Cambridge Centre for Business Research (CBR), and an associateFaculty member of the Judge Business School.16 “Corporate governance defined, “See: http://corpgov.net/library/definitions.html.17 Ibid. 8
  10. 10. That framework has proven to have a great deal to offer the policy maker. Yet, it really isn‟t a framework that concerns itself with the study of what motivates people to make the choices they make. In turn, that approach is cannot say much about the linkage between different utility and regulatory structures, and how they lead to different degrees of SG adoption.18 IV. Structural Issues that may Influence the Utility’s Choice Between Buying (Leasing) versus Building (Owning) Communications Infrastructure Section II provided a very high-level overview of the significance of the communications structure for SG. We saw that the communications structure links together the various SG information gathering technologies with the utility‟s business and operations systems. In this section I want to suggest several issues for further investigation. Marcelo Blatt describes the connection between changing the broad structure within which electric utility stakeholders make their decisions and some of the drivers propelling that structural change. For example, he has argued that, “The challenges of rising global energy demands, climate change, and aging infrastructure are driving the need to deliver sustainable, secure, and competitive energy. As such, policymakers across the globe are implementing initiatives to increase the efficiency, safety, and reliability of electricity transmission and distribution systems by transforming current18 I do recognize that these practitioners will argue that the neo-classical framework is very robust and can address theseissues quite well. The problem is that that analysis starts with assumptions about profit maximization. Whereas, IE is moreinterested in identifying connections between specific parts of the structure of an organization and how choice is affected.The IE approach explicitly examines how some element, say, performance standards, actually appear to lead affect choicerather than simply assuming what individuals and organizations are motivated by – what drives their choices - and usingthese assumptions to reach inferences about performance. 9
  11. 11. electricity grids into an interactive (customers/operators) service network referred to as a Smart Grid.”19 Blatt asserts that most utilities have implemented very large proprietary communications networks to support both fixed and mobile voice and data communications for their operational (support for grid monitoring, Supervisory control and data Acquisition (SCADA) remote management of substations, etc.) as well as corporate (internal telecommunications, Information Technology (IT) and business applications) functions. Yet, if the utility builds its communications system on proprietary protocols, the issue of the ease and cost of interoperability20 between systems within one utility, let alone communications between utilities, may become a greater management challenge. Custom built proprietary communications system tends to create interoperability challenges. The utility must buy various monitoring and automation hardware and software each with its own communications protocol. The more non-standard the utilities‟ protocols, the more likely it will have interface challenges. When utilities, responding to their internal incentives, adopt proprietary communications networks, the proliferation of communications systems likely will result in higher costs for all. Higher costs occur when there‟s both less opportunity to lower the production costs of communications equipment, and less incentive for active price competition between equipment vendors.2119 Marchelo Blatt, “Next-Generation Utility Telecommunication Solutions for the Smart Grid,” See:http://www.elp.com/index/display/article-display/367600/articles/utility-products/volume-6/issue-8/features/feature-story/next-generation-utility-telecommunication-solutions-for-the-smart-grid.html20 I am using the term interoperability to refer to the ability for two different devices or systems to pass information betweenthem.21 These cost savings are referred to as economies of scale. 10
  12. 12. It is my hypothesis that both price competition and reductions in production costs are more likely to occur with greater standardization. For example, the performance of the roughly 100 U.S. nuclear plants partly reflects a lack of standardization. There is a vast literature on this problem. Blatt also suggests that higher electric costs occur from a fragmented communications structure within the utility. A fragmented internal communications system can lead to data not available when needed; insufficient bandwidth; and the communication system isn‟t two-way or doesn‟t support the timely delivery of information.22 One real life example of interoperability occurred recently in one of my SG workshops. In that workshop, one utility cautioned that it has limited capability to accommodate customer hardware in its smart meters due to the limited number of ports on those meters. Absent standardization of communications protocols for behind the meter23 equipment, customers run the risk of buying equipment that the utility‟s communication protocols cannot support. Or, depending on actions by the utility regulators, this type of constraint may possibly impede the evolution of markets with true price competition in customer level equipment. Neo-Classical View of Decision to Lease (Bought) versus Utility-Owned (Built) Using commercial networks versus electric utility proprietary communication networks touch on a long-standing issue in the literature of regulated utilities referred to as the buy versus build decision. For example, at the OPUC the decision to build a generating22 Blatt.23 The phrase „behind the meter‟ refers to equipment on the customer side of the meter. 11
  13. 13. plant versus buying the output from one using a power purchase agreement (PPA) is succinctly summarized in Order 11-001 (Order). The argument in that Order is that utilities have a bias towards building and owning a generating plant rather than entering into a PPA.24 This bias is described thusly: “First, owned resources offer a utility an opportunity to earn a return, while PPAs do not. If a utility is faced with the choice of building a generating plant or entering into a PPA - and there is no difference in cost between the two options - the utility will likely choose to build the plant because of the opportunity to earn a return on its investment. Second, rating agencies may consider PPAs as long-term commitments that have debt-like obligations. As a result, the rating agencies may impute debt equivalency amounts to a utilitys balance sheet, which could negatively impact the credit ratings of a company.”25 Broadening the Neo-Classical View – Additional Factors Affecting Governance Structure and the Choice between Building versus Buying (BvB Decision) Earlier in this paper, I presented a definition of governance structure. In a paper by Kira R. Fabrizio,26 she discusses how the choice to build vs. buy is affected by several aspects of governance structure, such as, internal and external transactions costs and institutional designs. Her paper examined the effect of various institutional (structural) arrangements on the build versus buy decision. She examines (Independent System Operator (ISO) membership versus no ISO membership and states with/without interconnection policies), the utility‟s contracting experience, and success with24 “An investigation regarding performance based ratemaking mechanisms to address potential build-vs.-buy bias,” ORDERNO. 11-001, Entered 01/03/2011.25 Ibid, p. 2.26 Kira R. Fabrizio, “Institutions, Capabilities, and Contracts: Make or Buy in the Electric Utility Industry,” Fuqua School ofBusiness, Duke University, January 31, 2011. 12
  14. 14. contracting safeguards. Among her observations is that the “…optimal governance choices may depend in part on [the capabilities of the] firm…the institutions that shape the marketplace, and the resulting differences in transaction costs.” Her analysis shows that two structural differences across firms matters: institutional environments, which impact transaction costs and a firm‟s contracting capabilities, which shape the potential benefits of contracting.”27 Her work is one example of the type of work of interest to Williamson and the practitioners if both IE and NIE. Her work identifies other structural issues ripe for policy analysis apart from those suggested by the Neo-classical framework that influence the BvB decision. These other policy issues are associated with a broadening of the regulatory framework and they can have a noticeable impact on the choice to build versus contract out a service. Among her finding are: 1. Adding institutional safeguards (ISO membership and state interconnection policies) decreased the amount of power from owned-generation and increased the amount from PPAs;28 2. Utility with greater prior successful contracting experience relied more on PPAs and less on owned-generation;29 3. If the utility is an ISO member, prior contracting experience has a much smaller 30 effect on the degree to which PPAs were used rather than owned generation.27 Ibid, p.3.28 Ibid, p. 21.29 Ibid.30 Ibid. 13
  15. 15. Rate of return (ROR) regulation31 is credited with influencing the BvB Decision towards building, as was noted in the Order. Since the utilities in the Frabrizio paper are all private utilities, they all face ROR regulation. Therefore, her study identifies several organizational (structural) considerations that affect the utility‟s BvB decision. Turning specifically to communications related technologies, Kenneth S. Ledeen, Chairman and CEO, Nevo Technologies, Inc., has written on the BvB decision focusing on IT applications. He lays out a set of criteria to guide this choice. The first criterion is whether the need is at the business‟s core or not. He defines core activities as “…those that contribute directly to the organization‟s differentiation and value creation.”32 For core areas, IT must conform to the business‟s processes. He proposes the table above as a guide. In all but the case of a mission critical core function, he recommends some level of coordination with a third-party rather than the utility owning the system outright. A call for the electric utility and IT companies to join forces is also the focus of a paper by Katherine Tweed (Tweed). Tweed brings attention to the merger between an electric31 A concise overview of ROR regulator is provided at: www.itu.int/ITU-D/finance/work-cost-tariffs/events/.../gambia-5.pdf.32 Kenneth S. Ledeen, “Build v. Buy A Decision Paradigm For Information Technology Applications,” p. 1. 14
  16. 16. co-op in Indiana and a telecommunications company. She writes “Central Indiana Power [CIP], a small co-operative in the suburbs of Indianapolis, has merged with a local telecom, Hancock, to offer electricity, phone, broadband, and home security services through one company now called NineStar Connect.”33 She writes that staff and management at CIP saw advantages in the merger as it will help CIP move towards a smart grid, including voluntary demand response and dynamic pricing. She notes that while CIP has “…radio-controlled demand response for decades…the utility doesn‟t … know how many switches are hooked up…” The article notes that the two divisions have already married together their call centers. While this type of structural change via a merger is not inconsistent with ROR regulation or the conclusions about the utility‟s innate incentive to building over buying articulated in the Order, it does involve crafting a governance structure that combines two very different cultures. I imagine that the regulators in Indiana were required to find tangible benefits to customers of CIP as one condition for merger approval. A report by Lawrence Berkeley Laboratory (LBL) lists advantages to both building and buying choices for renewable resources by publicly owned utilities (as opposed to investor-owned utilities). They suggest there are possible economic advantages to ownership including: the tax-free status of publicly owned utilities and the availability of low-cost debt, and, the renewable energy production incentive (REPI) available only to publicly owned utilities. Possible economic advantages to entering into a PPA with a [Non-Utility Generator] (NUG) include the availability of federal tax credits and33 Katherine Tweet, “The Merger of Telecom and Utilities: Is It the Future?Electric and telecom co-ops take an Australian idea and get hitched in Indiana. Is it a good fit?” April 15, 2011. See:http://www.greentechmedia.com/articles/read/the-merger-of-telecom-and-utility-services-is-it-the-future/. 15
  17. 17. accelerated depreciation schedules for certain forms of NUG-owned renewable energy, and the California state production incentives available to NUGs but not utilities.”34 This LBL report does raise a concern about utility experience in building wind and geothermal projects suggesting that the lack of experience especially with geothermal might tend to cause the choice of build vs. buy to tilt towards a decision to buy. It appears reasonable to conclude that if the increased amount and complexity of communications needs to support SG are sufficiently similar to utility‟s experience with wind and geothermal, then we can use the LBL study to guide our thinking on issues important to building vs. buying that communications infrastructure.35 V. Customer Participation and Privacy A second challenge is how best to structure the electric markets to help facilitate customer participation, especially in the residential segment, while also ensuring customer privacy. One especially critical issue is how to manage access to customer electric consumption data while maintaining customer privacy.36 Will it remain the province of utilities or will it be opened up, perhaps using the Internet, to help facilitate competition in customer-level energy services? What structures will help facilitate conduct consistent with competition and customer privacy? What role do we want customer education to play and who should perform that function? Who should cover34 Mark Bolinger, Ryan Wiser, and William Golove, “Revisiting the “Buy versus Build” Decision for Publicly OwnedUtilities in California Considering Wind and Geothermal Resources,” October 2001, p. 5.35 However, they also suggest that while turnkey construction contracts and fixed-price operations and maintenance (O&M)arrangements are as available to utilities as they are to non-utility generation (NUGs), utilities have historically focused oncost minimization rather than cost certainty, and have generally been slow to make use of such contracts.36 Customer data include account identifier information, such as, name, address, account number, billing and paymenthistory, and so forth. Meter data includes any and all data measured and recorded by the meter used for customer billing,whether that is just one meter or multiple meters. Third groups of data are those produced by energy management systems(EMS) on the customer side of the meter. 16
  18. 18. the cost of making customer information available to a party other than the utility and the customer? What policy, targets, and timeframes may help focus the various actors to make the necessary customer education investments? A recent paper by Frisby and Trotta includes a quote from a United States Department of Energy (USDOE) Data Access RFI, which succinctly captures the SG privacy concern, “The Smart Grid will generate and permit worldwide access to an unprecedented amount of confidential, personally-identifiable customer energy usage data (“CEUD”), which could enable significant invasions of consumer privacy.” 37 Frisby & Trotta argue that regulators and policymakers must address the following three questions: 1. Who should have access to Smart Grid data? 2. How should the data be accessed? 3. How should the privacy of the data be protected?38 They propose five basic principles to guide answering these three questions, 1. CEUD is entitled to privacy protection. 2. Consumers must have access to and control over the disclosure of their CEUD. 3. Consumers are entitled to timely information about their energy use and its costs. 4. Utilities and third party service providers must protect CEUD from unauthorized and improper disclosure and use. 5. Some form of this data should be available to third party service providers. 3937 H. Russell Frisby, Jr. & Jonathan P. Trotta, “THE SMART GRID: THE COMPLEXITIES AND IMPORTANCE OF DATAPRIVACY AND SECURITY,” Institute for Communications Law Studies at The Columbus School of Law (The CatholicUniversity of America) in Washington, DC., p. 298.38 Ibid, p. 329. 17
  19. 19. The USDOE has been investigating the issue of customer privacy and have recognized 40 that assuring consumer privacy plays a pivotal role in advancing the adoption of SG. Among the key findings of their report on privacy are the following: a. Both residential and commercial consumers should be able to access their own energy consumption data and decide whether to grant access to third parties;”41 b. A customer‟s CEUD should never be disclosed to a third-party unless the consumer has given their affirmative consent to such disclosure, through an opt-in process that reflects and records the consumer‟s informed consent;42 c. Jurisdictions designing such opt-in authorization processes should require a valid authorization that i. Specifies the purposes for which the third-party is authorized to use CEUD, ii. Defines the term during which the authorization will remain valid, and iii. Identifies the means through which consumers can withdraw such authorizations; 43 d. Third party service providers authorized to receive CEUD should be required to protect (and be held legally liable) the privacy and the security (including integrity and confidentiality) of CEUD that they receive and to use it only for the purposes39 Ibid.40 U.S. Department of Energy, “Data Access and Privacy Report,” October 5, 2010. They also note a DOE report entitledInforming Federal Smart Grid Policy: Communications Requirements of Smart Grid Technologies. They describe this reportas “…examining how the communications needs of utilities and the electrical grid are likely to evolve as Smart Gridtechnologies become more widely used.” See generally Department. of Energy (DOE), Communications Requirements ofSmart Grid Technologies Oct. 5, 2010 [hereinafter Communications Requirements Report], available athttp://www.gc.energy.gov/documents/Smart_Grid_Communications_Requirements_Report_10-05-2010.pdf.41 Ibid, p. 3.42 Ibid, p. 15.43 Ibid. 18
  20. 20. specified in the authorization;44 Considering the potential value of these data, if we wish to advance SG, customer‟s concerns about the security of these data falling into the wrong hands must be addressed. It is critically important that these concerns be addressed on the „front-end‟ when devising institutional structures. As the California PUC discovered, it will be especially challenging to address the rights and responsibilities of third-parties marketing, directly to customers, energy management systems that interact with the utility‟s system. Setting the scope the regulator‟s standards on customer information access creates dilemmas, especially when the equipment is purchased by the customer. California recently dealt with this issue when they issued a final privacy rule that exempted customer purchased devices from the privacy safeguards. Without a prohibition in statute, it appears that efforts to protect customer privacy can be potentially thwarted by including technology in customer-side energy management systems that transmit these data to a third party who may escape regulatory oversight. VI. Current Regulatory Structure and SG There appear to be two competing perspectives on whether or not SG requires a fundamental change in ROR regulation. One view is that SG technology investments pose no unique issues large enough to require that we re-examine our approach to regulation. Advocates of this view believe that the structure of ROR regulation is sound44 Ibid. 19
  21. 21. and capable of addressing SG investments, albeit with some tweaks to investment analysis. While some changes may be needed, the fundamental structure is basically sound.45 As you might suspect, the other view raises significant concerns about the capability of existing regulation to address SG.46 Advocates of this view argue, for example, that “…energy policy stakeholders can and should harness opportunities to better align utility regulation to be more compatible with Smart Grid technologies.” These particular writers argue that regulators will need greater flexibility and a broader scope of authority to adequately address SG. Their paper raises five issues: 1. time horizon, 2. externalities, 3. jurisdiction, 4. decentralization, and 5. uncertainties These issues are argued to present significant enough differences to require revising regulation. Without going into the specifics of the arguments for each of these five issues, I feel confident saying that other significant changes in the electric utility business over the previous 20-30 years have been addressed within the existing structure of regulation, so what is so different about SG? One should not simply dismiss this question as showing45 One place this view has been expressed is in a recent Order by the OPUC, Order 11-172.46 This view is expressed in a paper by Michael Jung, Ken Nichols, and Linda Rankin titled “Rethinking Regulation, FiveChallenges in Aligning the Smart Grid and Utility Regulation” January 2011. 20
  22. 22. a lack of understanding about the ability of the existing regulatory structure to addressSG. Isn‟t it possible to tweak the framework to resolve these issues?In my opinion, the potentially much shorter time horizon of SG investments can beaddressed by the existing ROR regulatory structure as can uncertainty. Betteraccounting of negative environmental externalities, especially CO2, in SG planning andeconomic evaluation also appears do-able within the existing regulatory framework.Tools employed in economic analysis have sufficient flexibility to account fordecentralized supply and demand, greater uncertainty, shorter time horizon, and adifferent treatment of negative externalities. To be sure, different data will be used, andchanges to existing analytical tools will be needed.However, I‟m disinclined to say that the current structure of ROR regulation canadequately address SG. The overwhelming focus of ROR regulation is on what utilitycosts and investments are unreasonable and ought to be shifted to shareholders andaway from ratepayers. Detailed reviews of costs, rate levels, and rate stability havebeen three of its primary concerns.I wonder how rate levels and rate stability may be affected by using the traditional RORregulation to evaluate utility SG-related spending. From my experience, the variousstakeholders strongly prefer stable electric prices. Customers prefer stable prices asthat allows for better budgeting. Utilities prefer stable prices as that reduces the risk ofnot recovering their costs. Customers may even be willing to pay a higher price in 21
  23. 23. return for greater stability. Of course, that‟s what happens when various riskmanagement strategies are used, such as, forward market price curves to hedge pricerisk. It strikes me that the issues identified by the authors of the Rethinking Regulationpaper at least raise the specter of greater rate variability in an SG-dominated futureeven without a shift to time-varying rates. It would be worth investigating therelationship between varying regulatory structures and the degree of rate variabilityacross time. If, as I suspect, the existing structure can accommodate SG investments,the question may be at what cost. SG does raise the challenge of perpetualdevelopment and re-investment by utilities on a much faster pace than has been thecase to date. One speaker at a recent SG-related conference noted that perpetualdevelopment represents a very different way of doing business.What is clearer to me is that regulatory commissions and their staffs will be hardpressed to have the right mix of expertise to do a good job of evaluating SGinvestments and proposals. There are several reasons for my concern. First, as Imentioned earlier, SG represents an integration of two cultures – the faster pacedtelecommunications culture with the slower paced regulated utility culture. This willplace requirements on regulators to „gear up‟ in similar ways. For example,Commission staffs may face challenges evaluating the adequacy of electric utilitycommunication plans since to date communications hasn‟t been as critical a focus ofelectric utility regulation. It‟s very likely that Commission staffs are much less capable ofevaluating security planning then they are in evaluating a utility‟s financial planning, costof capital, spending reports, and assumptions of market power costs. 22
  24. 24. One reviewer of this paper commented that he thinks an even larger issue is thechallenge of a regulated utility working closely with unregulated suppliers. Anotherissue he identified as challenging is overseeing the utility‟s communications investmentsto assure that the „right‟ ones are selected rather than just the lower-cost technology.He believes that regulated utilities flopped badly on this issue with nuclear generationand that Commissions can manage the staffing issue with appropriate budgets.One key issue is the scope of Commission oversight as defined in state statutes. Forexample, here in Oregon the OPUC has limited ability to consider broader social issueswhen evaluating utility planning, costs of service and so forth. This means that theability to account for external costs and external benefits, such as, CO2 costs and jobs,respectively, can be significantly constrained by what latitude the state legislature hasgiven its utility Commission.If we are concerned about the performance of the regulatory process, it appearsessential to consider issues such as those I raised in the previous paragraph.Performance Management may provide a set of tools to help evaluate these issues withthe goal being to organize regulatory staffs and commissions to better reflect the skillset require by SG adoption.One very different path to take is that offered by Performance-Based Regulation 23
  25. 25. (PBR).47 PBR represents an alternative to staffing commissions with the skill sets required by SG and continuing to micro-manage the utility‟s business. VII. Summary We‟ve seen that a number of thinkers have considered different factors that affect a utility‟s choice of building versus buying infrastructure beyond those customarily identified using the Neo-classical framework. While traditional regulatory economics sees a bias towards buying over building as a natural outcome of ROR regulation. Such writers as Frabrizio, Landeen, and LBL have identified other structural factors that can affect this choice. At this point, it isn‟t clear what impact a build versus a buy decision will have on the various measures of performance of interest to the various electric sector stakeholders. We also examined an SCP framework that appears to overlap some of the approaches used by practitioners of Performance Management. It may provide a method to connect structure (institutional structure) with conduct (choice) and outcomes (performance) that practitioners in the field of Performance Management may find useful. A series of research issues were identified in three areas: (1) leasing versus buying communications system for SG, (2) customer privacy, and (3) whether the existing regulatory structure can adequately address SG-related regulatory issues. While the47 PBR is not a new concept. It basically focuses on substituting performance measures for the conventional, regulatoryapproach to reviewing utility decision-making. Roughly speaking, PBR substitutes what is to be achieved in place of how togo about achieving it. 24
  26. 26. paper does not reach any definitive conclusions on these three issues, other issues areraised that can affect the decision to lease versus buy a communication system. Anumber of principles are identified that are proposed as important to sustaining privacystandards as part of supporting SG. At this point, this author isn‟t aware of researchthat examines the role that various privacy laws and guidelines play in technologyadoption. Lastly, there is fertile ground to be plowed investigating the importance ofdifferent regulatory regimes on technological innovation, especially with a focus on SG. 25
  27. 27. BibliographyBlatt, Marchelo. “Next-Generation Utility Telecommunication Solutions for the Smart Grid,”<http://www.elp.com/index/display/article-display/367600/articles/utility-products/volume-6/issue-8/features/feature-story/next-generation-utility-telecommunication-solutions-for-the-smart-grid.html>Bolinger, Mark, Ryan Wiser, and William Golove. “Revisiting the “Buy versus Build” Decision for Publicly Owned Utilitiesin California Considering Wind and Geothermal Resources,” October 2001.Bowman, Don. “Why we are building a Smart Grid and why electric and telephone utilities will work together,”http://www.tia2011.org/Frontpage-Blog-Layout/entry/why-we-are-building-a-smart-grid-and-why-electric-and-telephone-utilities-will-work-together.htm July 20110.Coase, Ronald. < http://www.coase.org/nieglossary.html>Commons, John R. http://socserv.mcmaster.ca/~econ/ugcm/3ll3/commons/institutional.txtFabrizio, Kira R. “Institutions, Capabilities, and Contracts: Make or Buy in the Electric Utility Industry,” Fuqua School ofBusiness, Duke University, January 31, 2011.Frisby, Jr, H. Russell. and Jonathan P. Trotta. “The Smart Grid: the Complexities and Importance of Data Privacy andSecurity,” Institute for Communications Law Studies at The Columbus School of Law (The Catholic University of America)in Washington, DC.Hanford, Michael, Chief Methodologist, SUMMIT Ascendant Methodologies, “Defining program governance andstructure,” IBM, develop Works, < http://www.ibm.com/developerworks/rational/library/apr05/hanford/>Jung, Michael, Ken Nichols, and Linda Rankin. “Rethinking Regulation, Five Challenges in Aligning the Smart Grid andUtility Regulation” January 2011.Ledeen, Kenneth S.“Build v. Buy A Decision Paradigm For Information Technology Applications,”Oregon Public Utilities Commission. “An investigation regarding performance based ratemaking mechanisms to addresspotential build-vs.-buy bias,” ORDER NO. 11-001, Entered 01/03/2011.Rodwin, Lloyd. The Town Planning Review, Vol. 21, No. 2 (Jul., 1950).Seiffert,Grant. “Utility Communications: The Next Great Broadband Revolution,” Telecom Industry Association, April 1,2011.Tweet, Katherine. “The Merger of Telecom and Utilities: Is It the Future? Electric and telecom co-ops take an Australianidea and get hitched in Indiana. Is it a good fit?” April 15, 2011. < http://www.greentechmedia.com/articles/read/the-merger-of-telecom-and-utility-services-is-it-the-future>U.S. Department of Energy, “Data Access and Privacy Report,” October 5, 2010.U.S. Department. of Energy “Communications Requirements of Smart Grid Technologies” Oct. 5, 2010< http://www.gc.energy.gov/documents/Smart_Grid_Communications_Requirements_Report_10-05-2010.pdf>Wisconsin History. < http://www.wisconsinhistory.org/topics/commons/>Wiki, Dr. Dearkin, Faculty of Law, Cambridge University <http://en.wikipedia.org/wiki/Simon_Deakin>Wiki. Institutional Economics <http://en.wikipedia.org/wiki/Institutional_economics>_____________, “Corporate governance defined, “< http://corpgov.net/library/definitions.html> 26
  28. 28. Wiki. New Institutional Economics. <http://en.wikipedia.org/wiki/New_institutional_economics.>___________http://www.britannica.com/EBchecked/topic/470477/Populist-Movement. 27

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