Different approaches to estimating transition costs in the electric- utility industry

Abstract

The term ``transition costs`` describes the potential revenue shortfall (or welfare loss) a utility (or other actor) may experience through government-initiated deregulation of electricity generation. The potential for transition costs arises whenever a regulated industry is subject to competitive market forces as a result of explicit government action. Federal and state proposals to deregulate electricity generation sparked a national debate on transition costs in the electric-utility industry. Industry-wide transition cost estimates range from about $20 billion to $500 billion. Such disparate estimates raise important questions on estimation methods for decision makers. This report examines different approaches to estimating transition costs. The study has three objectives. First, we discuss the concept of transition cost. Second, we identify the major cost categories included in transition cost estimates and summarize the current debate on which specific costs are appropriately included in these estimates. Finally, we identify general and specific estimation approaches and assess their strengths and weaknesses. We relied primarily on the evidentiary records established at the Federal Energy Regulatory Commission and the California Public Utilities Commission to identify major cost categories and specific estimation approaches. We also contacted regulatory commission staffs in ten states to ascertain estimation activities in each of these states. We refined a classification framework to describe and assess general estimation options. We subsequently developed and applied criteria to describe and assess specific estimation approaches proposed by federal regulators, state regulators, utilities, independent power companies, and consultants.