January 2, 2007
MUNICIPAL VS. INVESTOR OWNED UTILITY ELECTRIC RATES
By: Kevin E. McCarthy, Principal Analyst
You asked whether the rates of Connecticut's municipal electric utilities are lower than those of its investor-owned utilities (Connecticut Light & Power and United Illuminating) and, if so, why.
The rates for Connecticut's six municipal electric utilities are substantially lower than those of its investor-owned utilities. A small part of the difference can be attributed to structural factors, such as the municipal utilities' exemption from certain taxes and the renewable portfolio standard (RPS), which requires investor-owned utilities to obtain part of their power from renewable resources. However, it appears that a larger factor behind the difference is the municipal utilities' greater flexibility in procuring power for their customers on the wholesale market. In addition, the rates paid by large customers of investor-owned utilities appear to include a premium charged by wholesalers to reflect the risk that many of these customers will choose to be served by competitive suppliers rather than the utilities. The municipal utilities and their wholesalers do not factor in this risk.
MUNICIPAL AND INVESTOR-OWNED UTILITY RATES
The average residential rate for Connecticut's municipal utilities ranges from 11.8 cents to 16.3 cents per kilowatt-hour (kwh). In contrast, the average rate for Connecticut Light & Power residential customers is 19.9 cents per kwh as of January 1, 2007. For United Illuminating, the average rate is 19.2 cents per kwh as of January 1, 2007. Its rate will increase to 22.3 cents per kwh in April and 23.1 cents per kwh in June (the June rate will be affected by new wholesale contracts for the second half of the year, which could decrease or increase the total rate).
POSSIBLE CAUSES FOR THE DIFFERENCES IN RATES
The municipal utilities' lower rates are partially attributable to structural factors, including their (1) ability to finance capital improvements, primarily to their distribution systems, by issuing tax exempt bonds; (2) exemptions from certain federal taxes; and (3) higher population densities in their service territories, resulting in more customers per mile of distribution line and lower distribution costs per customer. In addition, state law treats the two types of utilities differently. Municipal utilities (1) are required to spend less on conservation programs than investor-owned utilities, and (2) are not subject to the renewable portfolio standard (RPS) and the renewable energy charge that apply to investor-owned utilities.
The cumulative rate impact of these factors is modest. The cost of financing distribution systems is only part of distribution rates, which in turn are a relatively small component of overall rates for both investor-owned and municipal utilities. Similarly, federal taxes account for slightly more than 1% of the investor-owned utilities' operating revenues. Both investor-owned and municipal utilities are subject to the state gross receipts tax (the primary tax on utilities). Moreover, until the passage of PA 06-186 the gross receipts tax rate for municipal utilities was somewhat higher than the rate for investor-owned utilities. The difference in the conservation charge is currently 0.15 cents per kwh. The cost of complying with the RPS is approximately 0.25 cents per kwh and the cost of the renewable energy charge is 0.1 cent per kwh.
It appears that a larger factor behind the difference in rates is the municipal utilities' greater flexibility in procuring power for their customers. (The cost of purchased power is by far the largest component of rates for both investor-owned and municipal utilities.) The electric restructuring law (PA 98-28) effectively required the investor-owned utilities to sell off their power plants, and CGS § 16-244c requires the utilities to buy power for their small and medium size customers in a series of overlapping wholesale contracts.
In practice, the Connecticut Municipal Electric Energy Cooperative (CMEEC) also buys a portfolio of wholesale contracts for the state's municipal utilities. However, the municipal utilities benefit from (1) their much smaller size, which allows for a larger number of wholesalers to bid (only a small number of wholesalers have the capacity to bid on the investor-owned utilities demand); (2) CMEEC's ability to go on the wholesale market at any time, in contrast to a policy adopted by the Department of Public Utility Control (DPUC) that requires the investor-owned utilities to go on the market at specific times; and (3) CMEEC's ability to enter into long-term purchase contracts, which the investor-owned utilities may not enter under current DPUC policy.
An additional factor appears to be behind the recent increases in rates charged to large customers of investor-owned utilities, which substantially exceed the increases that small and medium size customers will pay. Under CGS § 16-244c, the utilities must provide “last resort” service to customers whose maximum demand is over 500 kilowatts and who do not choose a competitive supplier. Examples of such customers are factories, large office buildings, and colleges. Rates for Connecticut Light and Power's last resort customers went up 18.9% in January compared to 7.7% for its residential customers. United Illuminating's last resort customers saw a 78% increase in their rates.
The experience of other states with similar provisions in their electric restructuring laws is that many of these customers will “migrate” to competitive suppliers. In Connecticut, the wholesalers bear the risk of such migration, which increases their costs since they may end up purchasing or generating more power than they can resell. This may account for the particularly large rate increase for the large customers. In contrast, Connecticut's municipal utilities only face competition if they choose to open their service territories to other suppliers. To date, none has, and as a result the municipal utilities do not risk migration of their large customers to competitors.