It’s well-known that it is going to cost hundreds of billions of dollars to build a smarter energy grid to achieve the goals of state and federal legislators to reduce our carbon footprint. What’s less understood is who’s going to pay for it, and how a state’s regulators can influence the cost we ultimately pay.
Utilities will be responsible for planning, developing, constructing and maintaining this massive expansion of energy infrastructure. These companies have constructed and operated the existing grid for over a century, so they know how to integrate new technologies and other improvements, and they are the most likely to complete projects in a timely, least-cost manner.
The costs associated with the energy transformation often put utilities between a rock and a hard place with the legislators who set policy, and regulators who are responsible for overseeing the cost of energy grid investments, which are usually state utilities commissions. This paradox potentially threatens the ability of utilities to reliably transform the energy grid to meet mandates to reduce carbon and promote new clean energy resources, while keeping costs as low as possible.
These investments will have to occur in a manner that satisfies legislators, the public and regulators — which, if we are being honest, is a no-win situation. Have you ever seen a legislator respond to public outcry over high energy costs by raising his or her hand to say “yup — it was my fault.” Nope — they blame anyone but themselves because to do otherwise is to risk re-election.
That’s especially the case in places like New England where utilities don’t own the generation equipment, which means the rates you pay are determined by the fluctuations of energy markets and the policy legislators set, which regulators enforce.
One thing that gets overlooked by most people is how consumers are impacted by the stock performance and credit ratings of utilities. The financial health of these energy companies is affected by the allowable rate of return by regulators, the overall state regulatory environment, and the cost of borrowing money. All of these issues will influence how successful utilities are at transforming the energy grid over the next two decades.
Utilities are highly regulated monopolies run for the past century under what’s known as the regulatory compact. In exchange for serving all customers (known as “an obligation to serve”) in its service territory, the utility agrees to full oversight of its operations by regulators who determine the rate of return on utility energy infrastructure investments.
The problem many utilities face is that with increasing energy costs over the past five years, regulators are reluctant to keep raising those rates. Some regulators are choosing to ratchet down the regulated returns despite the current high interest rate environment. This increases a utility’s costs of capital, which leads to a lower credit rating that translates to even higher borrowing costs.
That hurts consumers two ways: by increasing developments costs and/or chilling investment in necessary energy grid upgrades, which puts families and businesses at greater risks of blackouts.
While most New England states share similar environmental and renewable energy goals, there is a stark contrast in how some state regulators approach these realities — some with acceptance and some with denial. Massachusetts’ regulators have openly admitted that energy companies are going to need to access capital to make the investments to meet the Bay State’s goals. Some Connecticut regulators, on the other hand, have chosen to be more hostile to utilities — causing their credit ratings to be downgraded, which will eventually show up on our bills in the form of even higher prices — which are already among the nation’s highest.
It is well known that bonds issued by utilities that operate in accommodating regulatory environments are generally better rated by S&P, Fitch, and Moody’s. This reflects the risks associated with operating in a state such as Massachusetts versus those like Connecticut. Stock valuations reflect this dynamic as well: utilities operating under lighter regulatory regimes often have higher cash flow and earnings multiples than utilities under stricter regulation.
All this feeds into their cost of capital, which reflects how expensive it is to raise the money needed to build new transmission and distribution systems.
It is time for everyone to acknowledge that if we are going to build smarter energy infrastructure, then customer costs will have to increase to make it happen. This means that utility commissioners are going to have to address what rate of return is “just and reasonable” in the context of the requirements necessary to operate a modern, smarter grid that reduces our carbon footprint. The alternative is that the infrastructure that clean energy resources require will not get built.
Which future we get, and the price we pay, is in their hands.
Marc Brown is Northeast Executive Director of the Consumer Energy Alliance.