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, USA

1 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.

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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

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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 the

2 Oliver E. Williamson is one notable economist who has focused on these issues. Practitioners of Institutional Economics

also focus here. Oliver E. Williamson is Edgar F. Kaiser Professor Emeritus at the Haas School of Business. Related to

some of the issues raised in this paper, “His focus on the costs of transactions has led him to distinguish between repeated

case-by-case bargaining on the one hand and relationship-specific contracts on the other. For example, the repeated

purchasing of coal from a spot market to meet the daily or weekly needs of an electric utility would represent case by case

bargaining. But over time, the utility is likely to form ongoing relationships with a specific supplier, and the economics of the

relationship-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 think

of it as integrating the existing power delivery system with digital communication, monitoring, and sensing devices.

3

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

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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 similar

4 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

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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,

6

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 Town

Planning 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 thorough

overview, see: http://www.coase.org/nieglossary.htm.

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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 oversight

12

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.

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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 and

structure,” 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 of

Peterhouse, Cambridge. He is a program director in the Cambridge Centre for Business Research (CBR), and an associate

Faculty member of the Judge Business School. 16

“Corporate governance defined, “See: http://corpgov.net/library/definitions.html. 17

Ibid.

9

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 current

18

I do recognize that these practitioners will argue that the neo-classical framework is very robust and can address these

issues quite well. The problem is that that analysis starts with assumptions about profit maximization. Whereas, IE is more

interested 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 choice

rather than simply assuming what individuals and organizations are motivated by – what drives their choices - and using

these assumptions to reach inferences about performance.

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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.21

19

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.html 20

I am using the term interoperability to refer to the ability for two different devices or systems to pass information between

them. 21

These cost savings are referred to as economies of scale.

11

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 generating

22

Blatt. 23

The phrase „behind the meter‟ refers to equipment on the customer side of the meter.

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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 utility's 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 with

24

“An investigation regarding performance based ratemaking mechanisms to address potential build-vs.-buy bias,” ORDER

NO. 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 of

Business, Duke University, January 31, 2011.

13

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

effect on the degree to which PPAs were used rather than owned generation. 30

27

Ibid, p.3. 28

Ibid, p. 21. 29

Ibid. 30

Ibid.

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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 electric

31

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.

15

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 and

33

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/.

16

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 cover

34

Mark Bolinger, Ryan Wiser, and William Golove, “Revisiting the “Buy versus Build” Decision for Publicly Owned

Utilities 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 on

cost 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 payment

history, 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.

17

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.39

37

H. Russell Frisby, Jr. & Jonathan P. Trotta, “THE SMART GRID: THE COMPLEXITIES AND IMPORTANCE OF DATA

PRIVACY AND SECURITY,” Institute for Communications Law Studies at The Columbus School of Law (The Catholic

University of America) in Washington, DC., p. 298. 38

Ibid, p. 329.

18

The USDOE has been investigating the issue of customer privacy and have recognized

that assuring consumer privacy plays a pivotal role in advancing the adoption of SG. 40

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 purposes

39

Ibid. 40

U.S. Department of Energy, “Data Access and Privacy Report,” October 5, 2010. They also note a DOE report entitled

Informing Federal Smart Grid Policy: Communications Requirements of Smart Grid Technologies. They describe this report

as “…examining how the communications needs of utilities and the electrical grid are likely to evolve as Smart Grid

technologies become more widely used.” See generally Department. of Energy (DOE), Communications Requirements of

Smart Grid Technologies Oct. 5, 2010 [hereinafter Communications Requirements Report], available at

http://www.gc.energy.gov/documents/Smart_Grid_Communications_Requirements_Report_10-05-2010.pdf. 41

Ibid, p. 3. 42

Ibid, p. 15. 43

Ibid.

19

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 sound

44

Ibid.

20

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 showing

45

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, Five

Challenges in Aligning the Smart Grid and Utility Regulation” January 2011.

21

a lack of understanding about the ability of the existing regulatory structure to address

SG. 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 be

addressed by the existing ROR regulatory structure as can uncertainty. Better

accounting of negative environmental externalities, especially CO2, in SG planning and

economic evaluation also appears do-able within the existing regulatory framework.

Tools employed in economic analysis have sufficient flexibility to account for

decentralized supply and demand, greater uncertainty, shorter time horizon, and a

different treatment of negative externalities. To be sure, different data will be used, and

changes to existing analytical tools will be needed.

However, I‟m disinclined to say that the current structure of ROR regulation can

adequately address SG. The overwhelming focus of ROR regulation is on what utility

costs and investments are unreasonable and ought to be shifted to shareholders and

away from ratepayers. Detailed reviews of costs, rate levels, and rate stability have

been three of its primary concerns.

I wonder how rate levels and rate stability may be affected by using the traditional ROR

regulation to evaluate utility SG-related spending. From my experience, the various

stakeholders strongly prefer stable electric prices. Customers prefer stable prices as

that allows for better budgeting. Utilities prefer stable prices as that reduces the risk of

not recovering their costs. Customers may even be willing to pay a higher price in

22

return for greater stability. Of course, that‟s what happens when various risk

management strategies are used, such as, forward market price curves to hedge price

risk. It strikes me that the issues identified by the authors of the Rethinking Regulation

paper at least raise the specter of greater rate variability in an SG-dominated future

even without a shift to time-varying rates. It would be worth investigating the

relationship between varying regulatory structures and the degree of rate variability

across 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 perpetual

development and re-investment by utilities on a much faster pace than has been the

case to date. One speaker at a recent SG-related conference noted that perpetual

development represents a very different way of doing business.

What is clearer to me is that regulatory commissions and their staffs will be hard

pressed to have the right mix of expertise to do a good job of evaluating SG

investments and proposals. There are several reasons for my concern. First, as I

mentioned earlier, SG represents an integration of two cultures – the faster paced

telecommunications culture with the slower paced regulated utility culture. This will

place requirements on regulators to „gear up‟ in similar ways. For example,

Commission staffs may face challenges evaluating the adequacy of electric utility

communication plans since to date communications hasn‟t been as critical a focus of

electric utility regulation. It‟s very likely that Commission staffs are much less capable of

evaluating security planning then they are in evaluating a utility‟s financial planning, cost

of capital, spending reports, and assumptions of market power costs.

23

One reviewer of this paper commented that he thinks an even larger issue is the

challenge of a regulated utility working closely with unregulated suppliers. Another

issue he identified as challenging is overseeing the utility‟s communications investments

to 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 generation

and that Commissions can manage the staffing issue with appropriate budgets.

One key issue is the scope of Commission oversight as defined in state statutes. For

example, here in Oregon the OPUC has limited ability to consider broader social issues

when evaluating utility planning, costs of service and so forth. This means that the

ability 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 has

given its utility Commission.

If we are concerned about the performance of the regulatory process, it appears

essential 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 with

the goal being to organize regulatory staffs and commissions to better reflect the skill

set require by SG adoption.

One very different path to take is that offered by Performance-Based Regulation

24

(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 the

47

PBR is not a new concept. It basically focuses on substituting performance measures for the conventional, regulatory

approach to reviewing utility decision-making. Roughly speaking, PBR substitutes what is to be achieved in place of how to

go about achieving it.

25

paper does not reach any definitive conclusions on these three issues, other issues are

raised that can affect the decision to lease versus buy a communication system. A

number of principles are identified that are proposed as important to sustaining privacy

standards as part of supporting SG. At this point, this author isn‟t aware of research

that examines the role that various privacy laws and guidelines play in technology

adoption. Lastly, there is fertile ground to be plowed investigating the importance of

different regulatory regimes on technological innovation, especially with a focus on SG.

26

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