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How serious is this mess?

Toronto Star - September 18, 2003
Opinion by Ron Bartholomew and Tom Campbell

After a decade of mismanaging the electricity sector, Ontario finds itself scrambling to buy power amid rising costs and without a strategic plan to resolve the issues. In the second of a three-part series, the writers warn that Ontario is in danger of becoming "rust belt north."

Second of three parts For part one visit How Bad is this Mess? and part three Giving power to the people

The provincial government has blamed debt load, poor nuclear performance, bad weather, and low reserve margins for the failed experiment to restructure the electrical sector, privatize Ontario Hydro, and deregulate the marketplace.

Well, the debt will get paid off, nuclear performance (now that operations are adequately funded) is getting better, weather will change, and reserve margins will eventually grow.

So what's the problem?

Basically, the problem is that a deregulated electricity market was a bad idea — and may never work very well.

British media now report that their 14-year electricity deregulation experiment has turned sour. Only half of the expected government revenue has come from privatization. There's been huge windfall profits for early investors, higher foreign ownership, overwhelming reliance on natural gas and huge government subsidies — with very little benefit to the beleaguered ratepayer.

In the United States, early optimism for electricity deregulation has been dashed by the disastrous failures in California, which after 11 years is left with high electricity rates, two bankrupt utilities, and a record $37 billion state debt.

In Montana, Montana Power is no longer in the electricity business, rates are sky high, and many state industries have had to close down.

Both states have also learned that deregulation/privatization doesn't remove the downside risks from taxpayers.

Similar failures have occurred in other states, where it appears the rush to deregulation was based on corporate greed by boards and executives of some corporate players, aggressive promotion by financial institutions, unrealistic investor expectations, unwary state regulators and federal electricity authorities, and poorly informed politicians. Missing was the slightest concern for electricity consumers, and electric grid reliability.

In Alberta, dismayed customers watched their cost of electricity rise to a 13-fold peak — despite sitting on top of significant, reasonably priced oil, natural gas, and coal reserves.

The Alberta government had to step in with a $2.3 billion customer rebate and some price caps.

Here in Ontario, within a few weeks of market opening, things began to turn out badly.

Public outcry over high and fluctuating electricity rates caused the government to step in with a four-year cap on the commodity wholesale price for most residential customers and a four-year subsidy for some industrial users. As is the case in Alberta, taxpayers will likely end up subsidizing ratepayers.

These government interventions have proven to be politically unpopular.

The rebate and subsidy schemes effectively re-regulate the market and destroy most cost-motivated conservation incentives. And the ad hoc government actions send warning signals to potential supply-side investors that rules can change overnight. As in the U.S., there is no indication of any benefit to the ratepayer.

One major flaw with the open market is the naive assumption that eager investors will take care of system planning and fully assure future supply needs. This is a Catch 22 situation because investors traditionally don't like uncertainty and deregulation ensures ongoing uncertainty.

Obviously, the government has not provided a stable investment climate.

But even were it able to do so, prudent investors would be inclined to opt (irrespective of actual system needs) for a string of gas-fuelled generating facilities, with low capital cost and short construction schedules, more suited for peaking than for base-load operation. Also, there would be a tendency for the market to "under-build" the system. Part of the crisis Ontario now faces is lack of construction of base-load generation (nothing since Darlington began construction 26 years ago). In addition, 57 per cent of existing generating capacity reaches the end of its planned life in the next 13 years.

The fact that the open market does not strategically plan the long-term future is the single most damning fault of the deregulation concept. In fact, there hasn't been any serious long-term strategic planning of Ontario's electricity sector for more than 10 years.

If full deregulation of the electricity market were somehow made to work on both sides of the U.S./Canada border, the average Ontario price would increase significantly, rising to price parity with neighbouring U.S. states. Also, the reliability of transmission grids, not designed to accommodate market-driven electricity flows, would decrease.

Hence, Ontario faces a classic "lose-lose" situation: Were deregulation to fail, there would be certain unhappy economic and political fallout — and were deregulation to work, there would very likely be dire price and reliability consequences, with unhappy economic and political consequences to follow.

Finally, Ontario's flirtation with deregulation plays into the hands of large U.S. energy companies seeking unrestricted access to Canadian energy markets through the terms of NAFTA and/or new GATT initiatives underway. The theoretical NAFTA threat to Canada's traditional, competitive electricity price and reliability advantages becomes real in a deregulated market.

Electricity is a unique commodity not lending itself well to deregulation because of lack of economic storage capability, high capital requirements and very long planning and investment recovery horizons.

Also, unlike the deregulated communications sector, where wireless technology permits reasonably priced alternate and parallel commodity delivery routes, it is not economically practical to do the same for electricity. For these reasons, the experiments in deregulated electricity markets have been, and will likely continue to be, unqualified failures.

Hence, from every perspective (except the self-interest of some proponents) deregulation and associated privatization have proven to be serious failures to date — and have little hope of becoming successful in the future. If we continue down this path, Ontario is in grave danger of turning into "rust belt north."

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