A competitive electricity future for New Brunswick

Tom Adams
Energy Probe
May 26, 1998

Table of Contents

Recommendations

Introduction

Chapter 1 Competition: The Customer’s Best Protection

Chapter 2 Coping with NB Power’s Nuclear Problems

Chapter 3 Public Process

NB Power’s Threatened Defamation Suit
Unfettered Operation of the Press

Response to the Discussion Paper’s Questions

1) Obligation to Serve
2) Cross Subsidies
3) Stranded Costs
4) Forms of Competition
5) Reliability of the Electricity System
6) Conservation and Environmental Considerations
7) Level Playing Field
8) Regulatory and Legislative Issues

Recommendations

1. The Taskforce should recommend that the provincial government not provide any further loan guarantees for NB Power and should treat existing obligations as preferred to new liabilities, as if the existing obligations were a first mortgage and new obligations were a second mortgage.

2.The Taskforce should recommend that the government of New Brunswick promote as much competition in the energy sector between fuels and between producers and marketers of energy products as possible. The role of government is to establish and police the rules that will guide the competitive market.

3.The experience in other jurisdictions which have made the transition to electricity competition should be examined thoroughly to help guide the process in New Brunswick.

4.Energy Probe encourages the Taskforce to recommend that the results of the technical and economic study of Point Lepreau now underway by consultants be released publicly, that a separate nuclear company be set up for Point Lepreau, and that the province begin the process of preparing for a non-nuclear future.

Introduction

This submission to the Taskforce on Electricity addresses the future direction of the New Brunswick’s power system. Energy Probe’s remarks reflect on the government’s discussion paper in the context of NB Power’s most recently published business plan for the period 1997-2002, NB Power testimony a year ago on this business plan in front of the Standing Committee on Crown Corporations, various public statements of the utility, and NB Power’s most recently issued accounts, which are for fiscal 1997. This report also addresses the need for a strong and open public process to address NB Power’s actions, choices, and priorities.

This study was prepared for Energy Probe and follows my two previous studies on NB Power, prepared for the Atlantic Institute for Market Studies. The two previous studies were, “New Brunswick’s Power Failure: Choosing a Competitive Alternative”, presented to the New Brunswick Legislative Assembly Standing Committee on Crown Corporations, 9 October 1996 and “Energizing New Brunswick Power: A Brighter Future for Consumers and Taxpayers”, February 5, 1997. They are attached as appendices A and B respectively.

The purpose of this study, as it was with my previous two studies, is to encourage wide discussion of important public policy matters related to New Brunswick’s energy industry, to help expand public understanding of some underlying technical and economic issues, and to continue to propose positive solutions to the NB Power’s problems based on privatization, competition, a reduced rate of environmental injury, and enhanced regulation. No other industrial sector is likely to exert as profound an influence on the economic prospects and environment integrity of the province as its electricity sector.

This study discusses Energy Probe’s concerns with the integrity of the public process surrounding discussions of electricity policy in New Brunswick. This concern arises as a result of the utility’s now resolved defamation suit against the Atlantic Institute for Market Studies, Energy Probe and myself related to my published analysis. Energy Probe is also concerned about actions the utility has taken against journalists reporting on it.

The central problems facing New Brunswick’s electricity future are NB Power’s financial liabilities and its nuclear problems including nuclear waste disposal and decommissioning costs, production problems, safety problems, and rising costs. With the exception of nuclear waste disposal and decommissioning problems, these problems are recognized in the government’s discussion paper.

Some suggest a “devil makes us do it” justification for adopting competitive reforms, arguing that New Brunswick must keep up with competitive reforms elsewhere. Energy Probe disagrees. Even if there were not powerful forces of electricity system change driving competing, and in some cases neighboring, jurisdictions to open their power markets, the reasons for New Brunswick to embrace this approach would be just as valid. An open, competitive, and private power system will discipline power producers to serve consumer interests, protect taxpayers from further liabilities, and break up the conflict of interest, resulting from government owning a business it should be regulating, that now forecloses effective regulation of the electricity business.

The overall perspective that Energy Probe encourages the Taskforce to adopt is to focus on the interests of consumers, taxpayers, and the natural environment. Too often in energy policy discussions the focus is on the interests of producers. Although the government’s discussion paper has many strengths, a weaknesses is that it frequently adopts a narrow producer-oriented outlook.

In discussing the impetus for change in Canada’s electricity sector, the discussion paper adopts a producer-based perspective, stating that “To a great extent, changes in Canada are due to a desire to maintain or gain further access to U. S. markets through marketing licences and thereby expand the economic benefits that Canadian utilities have received from selling into the U.S.” Even if more liberalized electricity trading across New Brunswick’s borders and the onset of full-blown competition reduces NB Power’s market share and revenues, open borders should be promoted. Competition will have the dual benefits of reducing cost for energy consumers and imposing discipline on NB Power. One of the major drivers for change in Ontario is the desire of consumers to gain access to competitively price power available in neighboring jurisdictions.

Another example of a producer-based perspective in the discussion paper is the statement “Until NB Power’s debt levels are reduced, it is very likely that it would be at a disadvantage to other participants in a competitive environment if the guarantee was removed.” As any firm would, NB Power will seek to maintain access to the provincial loan guarantee. However, the interest of taxpayers lie in ensuring that they are not exposed to future liabilities.

The Taskforce would best serve the long term interests of New Brunswickers by ensuring a level playing field for all energy producers, free from all subsidies and government guarantees. Until privatization, the government should not provide any further loan guarantees and should treat existing obligations as preferred to new liabilities as if the existing obligations were a first mortgage and new obligations were a second mortgage. The Ontario government appears to have decided to limit further loan guarantees. The Ontario energy minister recently announced that the province will not permit Ontario Hydro to expand its debt.(1)

Recommendation:

1. The Taskforce should recommend that the provincial government not provide any further loan guarantees for NB Power and should treat existing obligations as preferred to new liabilities, as if the existing obligations were a first mortgage and new obligations were a second mortgage.

Chapter 1
Competition: The Customer’s Best Protection

The ability of businesses, institutions, and residential customers in New Brunswick to benefit from an open electricity market should be a key policy priority. Electricity markets in Quebec and the U.S. Northeast are opening up, a process that is creating both risks and potential benefits for New Brunswick.

An oversight in NB Power’s 1997-2002 business plan is the absence of any discussion of models for electricity competition in use elsewhere. A wealth of competitive electricity transition experience exists in countries such as Australia, the U.K., and New Zealand. Instructive experience also exists in trading block regions such as Mercosur and the Nordic states. Subnational regions such as Alberta, the New England states, and the Pennsylvania-New Jersey-Maryland integrated dispatch area also have valuable lessons to share.

Experience in a wide range of jurisdictions and circumstances suggests that competition between energy commodities and between suppliers of particular commodities is the most effective force available to minimize energy costs and protect customers so far invented. Regulation is an unavoidable necessity to protect customers using natural monopoly services such as gas and electricity distribution systems. However, regulation pales in comparison to competition as a means of controlling energy costs over the long term and making producers accountable to their customers.

NB Power’s most recent business plan demonstrates that the utility is not yet prepared to recognize the consequences of true competition in electricity generation and marketing. The business plan states that “Over the next five years, NB Power intends to maintain its position as the prime supplier of electricity to businesses and residents of New Brunswick.” The plan further states that it is NB Power’s intention to “maintain and improve market share”. This statement clearly implies that the utility’s management is not considering customers gaining the right to select alternative suppliers at any time before the year 2002.

One interpretation of the statement in the business plan that NB Power intends to “maintain and improve market share” is that NB Power is intending to extend its influence beyond the electricity market to the gas business and thereby expand its share of the provincial energy market. In its testimony to the Committee, NB Power was more direct stating “We may even get into marketing gas.” (Hansard May 28, 1997 p. 29) Mr. Hankinson said, “We could become natural gas marketers.” (Hansard May 29, 1997 p. 50)

The arrival of natural gas in New Brunswick, particularly if a competitive electricity market is in place to facilitate the development of gas-fired power options, represents an excellent near term opportunity to reduce the province’s reliance on high emission and high cost coal, oil, and bitumen-fired power. In addition, over the medium term, natural gas can significantly ease the transition to a non-nuclear future for the province.

As discussed in my previous studies, there are substantial dangers to the public should NB Power be permitted to influence the development of natural gas in New Brunswick. The electricity and natural gas industries are natural competitors, often seeking sales in the same end-use markets. In New Brunswick, gas will have both price and environmental advantages over electricity. An electric utility’s natural inclination is to fight to protect market share in lucrative markets like water heating. On the other hand, the success of gas in New Brunswick will be enhanced if this fuel takes a large portion of the water heating market. The bests interests of consumers lie in vigorous competition to sort out this tension between gas and electricity interests. In Ontario, falling natural gas prices to consumers during the 1990s, due in large measure to the effects of natural gas deregulation, was one of the main factors driving Ontario Hydro to freeze its rates starting in 1994. If the development of the natural gas system in New Brunswick is curtailed for the benefit of NB Power, consumers and the environment will suffer.

NB Power’s demonstrated inability to invest and operate efficiently, discussed at length in my previous two studies, does not augur well for any foray it might make into the natural gas field. NB Power would be bankrupt if it were not for the protection afforded by its monopoly status and the provincial loan guarantees. It would not be prudent for the province to allow NB Power to expand into a new business with which the utility has no experience.

Based on NB Power’s publicly available statements, it is clear that the utility misunderstands the competitive challenge represented by the arrival of natural gas. The utility has built a provision into its revenue forecast of $10 million in the year 2000, $20 million in 2001, and $30 million in the year 2002 to recognize the potential impact of competition on revenues. Such a provision is prudent. However, the de minimis size of the provision is additional evidence that the utility is not taking competition seriously. By comparison, Consumers Gas, the gas distribution company serving more than half of the Ontario gas market, is anticipating that over the period 1994 through 1998 the volume of gas delivered to customers for self-generation purposes will increase by about 2.7 times, all of this during a period when Ontario Hydro is actively trying to prevent self-generation. (EBRO 497 I/T8/S2) By contrast, NB Power anticipates that after five years of natural gas being available, load loss to gas will only be 1% to 1.5% of sales at the end of that period and concludes that gas availability is “not a major factor” (Hansard May 29 p. 49-50). Ontario Hydro’s sales volume has dropped since 1989 largely due to gas-fired self generation and fuel switching from electricity to gas, as well as energy conservation stimulated by electricity rate increases.

An explanation for NB Power’s assumption of a de minimis effect from direct natural gas competition is its narrow producer perspective on the energy market. NB Power’s business plan notes, “The development of either natural gas pipeline will allow gas-fired generation to be established to produce electricity for local consumption or for export. The structure of transmission tariffs and proposed gas pipeline tariffs will determine the viability of supply to the US market…. NB Power has signed a precedent agreement for gas transportation and is engaged in the overall evaluation of potential power plant projects which could be fired with natural gas.” This comment suggests that NB Power does not understand the nature of the competitive challenge from gas. Gas as a fuel choice for power generation is important but will not impact electricity’s energy market share or the revenues of the utility. Interfuel competition should be expected to cut both electricity’s market share and electricity revenues. Gas-fired power generation on customer premises and fuel switching off electricity to gas for particular heating end uses, particularly space heating, water heating, and industrial process heating, will all cut into the utility’s core markets. Ongoing technology development will increase these competitive pressures.

Some awareness of the implications of electricity competition for the utility is starting to appear, as suggested by the following passage from the business plan. However the statements suggest some misunderstanding of the mechanisms for delivering competition and its benefits:

NB Power is well-positioned in the transmission network, with access to Quebec, Nova Scotia, Prince Edward Island and Maine. However, NB Power also faces the following challenges:

* Traditional operating reserve benefits obtained through interconnections could be at risk.
* Large capacity interconnections will provide competitors with direct access to customers.
* NB Power has a large fixed component in its costs.
* Cross-subsidization still exists. This is for entire customer classes and for particular customer groupings within a class.

The reliability benefits of interconnections could be enhanced through the development of efficient markets. A properly constituted and operated independent system operator, as recommended in my paper “New Brunswick’s Power Failure” and as implemented around the world where electricity competition is being promoted, is the primary mechanism to solve the problem identified in the first bullet (“New Brunswick’s Power Failure”, pp. 36-37 and recommendation #13).

The second bullet refers to one of the major benefits of competition for customers. There is no good reason why all customers, both large and small, cannot participate in a competitive electricity market. Ontario’s natural gas market is deregulated and competitive for customers of all sizes, including homeowners. All classes of natural gas customers in Ontario have benefitted.

The third bullet refers to one of the major justifications for introducing competition–to prevent inefficient capital spending from occurring in the future. Competition makes energy producers accountable to customers by allowing customers to opt for alternative suppliers in the event that they can find more attractive arrangements elsewhere. Until competition is introduced, the mechanisms available to promote efficiency and accountability within NB Power-primarily government oversight and potentially regulation-are ineffective or absent.

The fourth bullet is important and should influence rate making decisions in preparation for competition. Rates should be designed on the basis of user pays. Cross-subsidies are inefficient and should be eliminated over a reasonable time horizon to minimize rate shock for those currently benefitting from cross-subsidies. While cross-subsidies are being eliminated, rates should be redesigned to provide customers with more effective options to reduce their costs. For example, the seasonal differential in cost of serving customers at the time of peak usage vs. the cost of serving customers when the demand for power is low should be reflected in price so that customers can manage their power consumption behaviour to minimize their costs.

Energy Probe has concerns with the “wheeling” model of competition put forward by NB Power, particularly in its presentation to the Standing Committee on Crown Corporations (Hansard May 29, 1997 pp. 10-20 ). “Wheeling” is a flawed method of implementing competition because of problems such simple bilateral trading creates for transmission management and load balancing. “Wheeling” can be made for work for a limited number of wholesale transactions but reliance on “wheeling” makes retail customer choice virtually impossible. In an extreme case, uncoordinated use of the transmission system is potentially dangerous since it could lead to a technological collapse of the transmission system. A pool-based alternative using an independent system operation should be pursued instead. As explained in my report “New Brunswick’s Power Failure”, an uncoordinated profusion of simple bilateral “retail wheeling” arrangements between individual producers and consumers is an ill advised approach (pp. 36-37).

It is difficult to understand why NB Power would propose a retail competition model that is unworkable and threatens reliability while overlooking successful models that are functioning to the advantage of customers in other jurisdictions.

A market design objective for New Brunswick is to ensure that owners of existing facilities with full incremental costs below the value of power will have incentives to continue to operate. The system should work such that, in general, facilities are “under-utilized” when their incremental costs (ignoring sunk capital costs) exceed market value. In this situation, although some generating capacity may “under-utilized”, the public interest in cost minimization is best served. From the perspective of planning an orderly transition to new a market environment, including providing employees with information relevant to their future, it is important to figure out what facilities are at risk of economic closure. As discussed in my previous studies, the Grand Lake coal-fired station is an example of a facility that could be beneficially closed immediately. Point Lepreau is also candidate for early closure in the medium term.

NB Power is developing partnerships with interests experienced in gas-fired power production for prospective developments at Coleson Cove, Courtney Bay, and Belledune. It is not clear that these locations and the proposed facilities there represent the highest value opportunities for gas-fired power development in the province. Rather than relying on NB Power to guide development, the interests of consumers and producers mediated through an efficient market should guide decisions on the scope, timing, and location of future electricity ventures. For markets to function best in redeveloping existing facilities, those facilities should be privatized.

Recommendations:

2.The Taskforce should recommend that the government of New Brunswick promote as much competition in the energy sector between fuels and between producers and marketers of energy products as possible. The role of government is to establish and police the rules that will guide the competitive market.

3. The experience in other jurisdictions which have made the transition to electricity competition should be examined thoroughly to help guide the process in New Brunswick.

Chapter 2
Coping with NB Power’s Nuclear Problems

The high costs and operating difficulties at Point Lepreau are the root cause of many of NB Power’s problems.

NB Power deserves recognition for noting in its most recent business plan that Point Lepreau is the utility’s primary “business challenge”. Although the business plan forecasts production averaging an extremely aggressive and probably unachievable 85% capacity factor for the plan period, it is important to remember that the previous plan assumed a 95% capacity factor.(2) For the first time, NB Power’s plans include financial risk analysis for nuclear production shortfalls.

Ontario Hydro’s reactors have suffered a pronounced decline with age, a pattern being repeated by Point Lepreau. The long term prospects for the reactor appear to be lower production than in the past or in the utility’s plans.

NB Power is assuming that Point Lepreau will operate well for an expected service life of 31 years. The weight of evidence gained from experience around the world suggests that early closure, at some time in the 20th to 25th year of service is likely.

To be prudent and to more accurately reflect its costs, NB Power should accelerate the depreciation of the reactor. One of NB Power’s recent accounting changes has been to effectively slow down the rate of nuclear depreciation. This is the result of the utility’s decision to stop separately depreciating pressure tubes and to report as income over time funds previously accumulated in recognition of depreciation for reactor pressure tubes.

In order to deal with the problems represented by Point Lepreau, a separate nuclear company should be set up. The creation of a separate nuclear company required to keep and report its own accounts would assist the public in tracking nuclear costs. As discussed in “New Brunswick’s Power Failure”, the management options to deal with the cost, production and safety problems at Point Lepreau are completely different than they are for the non-nuclear portion of NB Power. Facing the prospect of continued unfavourable cost and production pressures, it would prudent for the province to begin preparing for Point Lepreau’s replacement.

Recommendation:

4. Energy Probe encourages the Taskforce to recommend that the results of the technical and economic study of Point Lepreau now underway by consultants be released publicly, that a separate nuclear company be set up for Point Lepreau, and that the province begin the process of preparing for a non-nuclear future.

Chapter 3
Public Process

An open, informed public discussion about NB Power and its activities is necessary to help the province deal with its energy issues. Unfortunately, NB Power has taken some actions to impede this public discussion.

NB Power’s Threatened Defamation Suit

On March 10, 1997, counsel for NB Power wrote to Energy Probe, myself, and the directors of AIMS indicating the utility’s intention to proceed with a defamation suit against us. The letter complained about a number of statements made in the February report “Energizing New Brunswick Power” and the associated press release.

My reply, on behalf of Energy Probe and myself, is attached as Appendix C. The reply defended each of my statements which were impugned as factually correct and neither withdrew nor apologized for any statement Energy Probe has been associated with. Subsequent developments surrounding NB Power, particularly the publication of the AECB 1996 staff report on Point Lepreau, has continued to confirm the factual basis of the impugned statements.

NB Power’s counsel appeared to take particular exception to my procedural recommendation that at future Legislative Assembly reviews of NB Power presenters be required to testify under oath. There are several reasons I made this recommendation. The Legislative Assembly’s Standing Committee on Crown Corporations is NB Power’s de facto regulator. It is normal, as a matter of procedure and policy, for regulatory bodies to receive sworn testimony. As indicated in “Energizing New Brunswick Power”, NB Power’s previous presentations to the Committee were deficient in a number of respects. My concerns relate particularly to the utility’s statements about its reserve margin, and its finances. My conclusion was and is that the legislature and the public are entitled to better information than NB Power has provided. The recent Select Committee of the Ontario Legislature inquiring into Ontario Hydro’s nuclear problems had the power to examine witnesses under oath.

NB Power’s May 23, 1997 notice to the court to withdraw its liable action against us was a welcome decision to allow discussions about the status and future of New Brunswick’s power system take place in the open public arena, not in the courts.

Unfettered Operation of the Press

NB Power’s behaviour towards some members of the press who reported on the lawsuit raises an acute concern with Energy Probe.

On May 15, 1997, I spoke to Dr. Stephen Salaff seeking any new information he might have learned about the lawsuit, which at the time was still pending. Dr. Salaff and his co-author, David McArthur are very well respected freelance journalists writing for small circulation energy and environmental journals and newletters.

Dr. Salaff recounted the following sequence of events: He had pursued NB Power to obtain an update on the law suit and the safety condition at Lepreau. He had directed his inquiries first through NB Power’s communications consultant David Hawkins, and then through Marcella Leblanc, NB Power’s director of public affairs. Dr. Salaff started these inquiries on Thursday May 8. Ms. Leblanc had promised him a reply on the lawsuit by May 14, his publication deadline. No reply on the lawsuit was forthcoming by the deadline, although the utility did provide information on the condition of Point Lepreau. Dr. Salaff called on May 15 to indicate that he was still interested in the answer. His call was received Jeffrey Carleton in the public affairs department who indicated that Ms. Leblanc was in meetings all day on the new business plan and that the utility could not comment on anything to do with the suit because everyone was working on the plan. Dr. Salaff indicated that the utility was large enough to find someone to answer his question. Mr. Carleton then asked who Dr. Salaff was working for. Upon being told that Dr. Salaff was writing for Northeast Power Report (NPR) and Electricity Daily, Mr. Carleton said that Dr. Salaff was being abusive. Mr. Carleton then phoned both NPR and Electricity Daily to complain, and while his complaint did not receive support from Robert Maritz, editor of Electricity Daily, NPR’s editor, Ron Dionne, did support Carleton. Subsequently, Mr. Dionne called Dr. Salaff to say that he believed Mr. Carleton’s assertion that Dr. Salaff was abusive and that NPR would no longer do business with him. Mr. Carleton later confirmed to me that he complained to Mr. Dionne about Dr. Salaff.

On May 15, 1997, I called Mr. Dionne to ask him about NB Power’s communication with him. He confirmed that he had spoken with NB Power and that Dr. Salaff would no longer work for NPR but refused to provide an explanation. Since last May, Dr. Salaff and Mr. McArthur have attempted to acquire new freelance assignments from NPR without success.

Energy Probe considers that the press plays an essential role in an open public discussion about NB Power and the province’s electricity future. Interference in the functioning of the press by any party is inappropriate.

Response to the Discussion Paper’s Questions

This section of the report briefly addresses each of the questions raised in the discussion paper and follows its numbering system.

1) Obligation to Serve

The entire electricity market is unlikely for the foreseeable future to become “fully competitive” since distribution and transmission entities will have complete or substantial monopoly power and should therefore be regulated. Regulated transmission and distribution entities should bear an obligation to deliver power from the competitive market. Generation entities should not have an obligation to serve, other than any contractual arrangements that they establish. Imposing an obligation to serve carries the quid pro quo of consumers having an obligation to pay the costs of the generator. Just as producers ought to have the freedom of entry to or exit from the electricity market, consumers should be empowered to make commercial supply arrangements with producers of their choice.

The protection of a monopoly franchise allows some of the business risk associated with spending on generating facility to be externalized onto ratepayers. Similarly, the protection of loan guarantees allows business risk to be externalized onto taxpayers. The dangers of an “obligation to serve” for power producers is illustrated by NB Power’s massive excess generation capacity and undue cost. A detailed technical discussion of these problems is provided in “New Brunswick’s Power Failure” pp. 14-17 and recommendation #6 and “Energizing NB Power” pp. 4-7.

As the experience in all other fully competitive electricity jurisdictions indicates, market prices provide a powerful incentive to producers to ensure that sufficient facilities are available to meet future requirements. A well designed and efficient market will ensure that supply and demand interact constructively. Efficient commodity prices for electricity will signal the need for new supply.

An efficient spot market for electricity ensures that freedom of exit for producers poses no reliability issue at the consumer level. In a functioning competitive market, if a supplier defaults or ceases operation, contractual obligations notwithstanding, its customers are left with the spot market to ensure continuity of supply.

Questions:

b) Do you believe the market place will ensure a safe, continuous, reliable and adequate supply of electricity?

Alberta’s power market illustrates a successful Canadian example of how reliability is achieved. The Alberta experience is discussed in “New Brunswick’s Power Failure” pp. 31-33.

c) What do you think should be the responsibilities or obligations of electricity suppliers competing to supply electricity to New Brunswick customers? How do you enforce such responsibilities or obligations?

A regulatory agency, strengthened as set out in “New Brunswick’s Power Failure” p. 35, should oversee all monopoly functions. A regulatory agency could also undertake licensing of market suppliers to ensure compliance with the rules governing the system. All suppliers should be required to abide by a consistent and stringent set of environmental rules.

d) Should there be a default supplier to ensure that all customers are served?

As set out in “New Brunswick’s Power Failure” pp. 36-38, an efficient spot market can provide this function. Norway currently very successfully uses the spot market as the default supplier. Many customers, including homeowners, use the spot market as their supplier of choice.

2) Cross Subsidies

Energy Probe considers that subsidies for disadvantaged groups are best delivered by government and, to maximize opportunities for the disadvantaged, best provided in cash rather than in kind. Energy pricing should be based on the principle of user pays.

NB Power alleges that cross-subsidies exist within its rates, however, in the current circumstances, without competitive benchmarks, such assessments are based on assumption-ridden cost of service studies. These studies have not been publicly reviewed in recent times to ensure that they reflect the rapidly changing circumstances in the energy market. NB Power’s assertions about cross subsidies should not be accepted at face value.

In the U.K., the introduction of competition initially led to rate increases for subsidized very large industrial consumers, but eventually the efficiency gains from competition overwhelmed the subsidy loss. As a result, large customers have seen their prices drop along with all other customer classes. See “New Brunswick’s Power Failure p. 29.

Response to Questions:

a) Do you believe the market should ultimately determine prices or should there continue to be subsidies provided to certain customers?

Regulators should set the prices for monopoly services and competitive markets should be allowed to price electricity commodities including kilowatt hours and many ancillary services like black start, regional voltage support, and automatic generation control.

b) If you favour continued subsidies, who should receive the subsidy and who should pay for the subsidy?

Subsidies to disadvantaged groups should be provided by government directly, not indirectly through the power system. The benefits of general rate subsidies designed to assist the disadvantaged confer benefit on many well to do parties.

3) Stranded Costs

NB Power’s stranded costs have arisen because of irresponsible decisions and wasteful practices. In an open electricity market, a large portion of NB Power’s liabilities could not be discharged. The bulk of these costs are not new but reflect past actions. However, despite NB Power’s gradual reductions in its capital spending excesses, its ongoing capital program appears to be adding to stranded cost. The current business plan is based on an assumption that capital spending will range between $70 and $85 million annually over the plan period yet no new capacity is being added. The previous plan had assumed annual capital spending of $100 million.

Any discussion of stranded cost minimization should reflect not only on liabilities minimization but also on asset protection. An important deficiency in the current business plan is the absence of any details on how the utility plans to maintaining the public’s assets under its control in good condition in light of reduced capital and operating spending. The trade-off between spending control and maintenance of asset quality is an inherently difficult management issue. The focus of asset management should be the long-term public interest. As noted, relative to the previous business plan, forecasted capital spending is down by up to $15 to $30 million per year. No explanation is provided as to where the cuts will be made or their implications. Based on published information, the public has no assurance that the utility is not “mining” or “harvesting” its assets.

New Brunswickers would be well served by avoiding the mistakes made by Ontario Hydro in failing to maintains is system in adequate condition. During its restructuring, Ontario Hydro has publicly admitted to starving its hydro-electric assets of maintenance over a period of decades. A public audit of NB Power, as previously recommended by the Standing Committee on Crown Corporations, should be charged with independently confirming the current maintenance condition of the system and assessing the planned maintenance programs.

Energy Probe’s assessment is that customers are not currently servicing fully the nuclear waste disposal and decommissioning portion of NB Power’s existing liabilities. One of the most important issues to deal with in developing a program to manage stranded cost is ensuring that nuclear waste disposal and decommissioning requirements are fully funded.

Questions:

a) In your view, do you believe that the introduction of competition will result in stranded costs for NB Power?

NB Power’s variable costs exceed Hydro Quebec’s industrial power prices and are close to the total cost of power from new gas-fired cogeneration facilities. Therefore, an open power market should be expected to “strand” most NB Power’s obligations.

b) How should the amount of costs be determined? What should be done to minimize or mitigate stranded costs?

The only way to objectively quantify stranded cost is to privatize NB Power’s assets and liabilities as advocated in my previous two studies. Without privatization, estimates of stranded cost are unverifiable. Until privatization, the government should not proffer any further loan guarantees and should treat existing obligations as preferred to new liabilities as if the existing obligations were a first mortgage and new obligations were a second mortgage.

c) How should stranded costs be recovered? In full? Over how long?

My report “New Brunswick’s Power Failure” discusses the options for stranded cost recovery at pp. 37-38 and recommends recovery from taxpayers as the most efficient method and recovery from ratepayers as a second best measure.

Since the government has guaranteed or directly assumed NB Power’s debt, the people of New Brunswick are required to pay the stranded debt cost. As a result, there is no responsible method to avoid recovering the full amount of stranded debt obligations. Similarly, there is no responsible way to avoid fully paying the stranded cost, what ever it might be, of nuclear waste disposal and decommissioning.

d) Should customers be allowed to escape or bypass stranded costs by exiting from the incumbent utility by either installing their own generation or switching to alternative suppliers?

Energy Probe believes that all customers, including self generators, should make an equitable contribution to stranded cost recovery. The purpose of restructuring is not to allow any parties avoid paying their fair share for stranded cost but to create a sustainable system that can avoid creating such problems in future.

4) Forms of Competition

Questions:

a) Which arrangement best meets the needs of New Brunswick?

My previous reports outline a comprehensive program to create a competitive power system in New Brunswick designed to maximize the benefits to consumers while capping the liabilities on taxpayers. The main features of this proposal are: disaggregate transmission, distribution, generation, and system dispatch functions; create strong regulatory mechanisms to oversee monopoly functions; encourage competition among generators; strengthen environmental regulation; and, privatize the former components of NB Power.

b) Should customer choice be provided? For certain customer classes only? For all customer classes?

Energy policy should not attempt to provide customers with choice in the sense of establishing alternative options but it should allow choice so that alternative options can develop in the market place. All customers should have the same rights to shop for power. Discrimination between the rights of customers are inherently subjective, vulnerable to manipulation, unfair, and injurious to efficiency. When Ontario deregulated its natural gas commodity market in 1985, all customers regardless of size gained the same right to shop and all customers have benefitted with reduced energy costs.

c) Which customer class(es) would derive the most benefits from competition and customer choice? Would any be disadvantaged?

With the exception of Peru, all examples around the world of transitions to fully competitive electricity markets have demonstrated a reduction in rates. In Peru, the transition to competition was accompanied by elimination of large-scale subsidies from government.

d) What should be the pace at which competition should be introduced? Should it be introduced in stages?

As advocated in both my previous studies, the transition to full competition should be as rapid as can be achieved consistent with maintenance of reliable service. The process of designing efficient new market mechanisms requires a number of years of effort by qualified experts.

e) Should New Brunswick be part of a larger competitive electricity market? E.g. Maritimes, Eastern Canada, Northeast US.

The best interests of consumers lies in maximizing their competitive purchasing options. The larger the market consumers can access, the better off they will be. In addition, increasing the size of the competing interconnected market should reduce the cost of maintaining reliability reserves.

5) Reliability of the Electricity System

Response to Questions:

a) Would having NB Power’s transmission and distribution activities operating under a “code of conduct” be sufficient for competition in New Brunswick?

Integrated monopolies are inconsistent with competition. Effective, competitive markets require competitive institutions. Real separation of ownership rather than paper separation guided by “codes of conduct” are required if competition is to flourish. New Brunwick’s electricity system should be disaggregated into its functional components and divested through privatization.

b) Should an ISO and PX be established in New Brunswick:

i) as separate entities? ii) or as one combined entity?

An integrated ISO/PX would facilitate a competitive market best. See “New Brunswick’s Power Failure” pp. 36-38.

c) Who should be represented on the boards of the ISO and the PX. To whom are the ISO and PX accountable? Who regulates them?

A variety of alternatives are used around the world. The Ontario Market Design committee has considered this question and opted for an “interested” board composed primarily of stakeholders. In Energy Probe’s view, if the ISO/PX is to have any regulatory functions, its board should be independent.

d) How should NB Power plan and operate its system in the interim?

NB Power should be closely overseen by an independent regulator in the interim before its breakup and the introduction of competition to ensure minimization of stranded cost, protection of assets, maintenance of reliability, and an efficient transition to competition. The regulator may also have to prevent anti-competitive activities in the interim period.

e) If conflicts arise in the interim, what mechanisms should be put in place to resolve them?

An independent regulatory agency should resolve potential conflicts in the interim period.

6) Conservation and Environmental Considerations

In Energy Probe’s view, some of the key environmental deficiencies of New Brunswick’s electricity system are the absence of secure and adequate funding for nuclear waste disposal, the environmental unacceptability of continuing to mine coal in New Brunswick, and the underutilized potential for cogeneration in New Brunswick. The government discussion paper does not deal with any of these concerns.

Nuclear waste disposal and decommissioning should be funded in an account external to and legal unavailable to the waste producer. NB Coal, a subsidiary of NB Power, should be closed and the environment in the coal mining areas restored as well as possible. For a further discussion of the environmental and economic need to close NB Coal, see “Energizing NB Power” pp. 7-9. Cogeneration, fueled by natural gas and other fuels, should be aggressively promoted, primarily through the creation of an open market where the benefits of cogeneration can best be realize.

Response to Questions:

a) In your view, should demand side management be maintained in a competitive environment? Should public policy be used to examine/promote the continuation and expansion of demand side management?

One of the benefits of competition in the supply of electricity is to help identify those energy conservation and demand side management (DSM) programs that are cost effective and those that are not. Previously, utilities with the obligation to serve often thought that DSM in general was a low cost option when compared to the development of new generation, yet in many cases found that apparently cost effective programs could not be operated without subsidies. The development of competition has revealed that DSM programs requiring subsidies are generally not cost-effective. In jurisdictions making the switch to competition, debt associated with DSM programs is now recognized as a stranded cost.

Even if the Taskforce were to take the view that subsidized DSM was desirable, that would not justify supporting the continuation of NB Power. NB Power’s demand reduction programs appear to have had little effect on demand.

The provincial government and the regulator should aggressively encourage energy efficiency and discourage waste. Energy producers, like NB Power, have a conflict of interest in promoting conservation since it is inconsistent with maximizing energy sales. Any proposal to rely on energy producers to promote conservation is likely to fail.

b) Do you feel that demand side management programs are necessary in a competitive environment?

Demand side management programs can be accommodated in a competitive environment. Some energy conservation technologies, such as industrial cogeneration, are unlikely to flourish without competition. Experience with competitive markets around the world indicates that rational pricing reflecting the balance of supply and demand is a particularly effective signal to energy conservation at times of scarcity. In addition, the regulator of the transmission and distribution entities can promote demand side management. If subsidies are considered necessary and desirable to maintain DSM programs, the cost of those subsidies can be recovered from transmission users.

c) Should the system operator recognize environmental considerations in making dispatch decisions? Should customers be given appropriate information enabling them to choose to buy “green” power, even if it results in higher energy costs?

One of the guiding principles we recommend for creating an effective independent system operator is that it be a pure intermediary-never holding title to power-only creating the conditions for it to be traded efficiently. Since the independent system operator should not have an interest in power produced or traded, it should not be responsible for the environmental impacts of power production or social considerations related to consumer behaviour. Environmental responsibility should rest with polluters-those whose facilities emit noxious substances, create health risks, or diminish habitat.

System operators can help to facilitate markets for “green” power. Energy Probe’s position on green power is set out at http://www.nextcity.com/EnergyProbe/OntarioHydro/reports/scoping.htm and http://www.nextcity.com/EnergyProbe/OntarioHydro/reports/Macdsup.htm.

d) Should public policy require that a certain portion of power supplied be “green”?

Government should aggressively encourage energy conservation and renewable energy. A variety of mechanisms exist to achieve this. The program for a renewable power auction in the U.K. has proven very successful. Energy Probe’s preference is that the market not be skewed artificially to benefit particular technologies.

7) Level Playing Field

Response to Questions:

a) Do you believe that the Government should change the rules affecting NB Power such that they would be treated the same as private companies in relation to taxation, rate of return, dividends, and debt levels?

All participants in the power market should pay their costs, including taxes. However, since NB Power would be bankrupt if it were not for the protection afforded by its monopoly status and the provincial loan guarantees, there is no economic opportunity make it pay its fair share of taxes.

b) Should the Government change the capitalization of NB Power by using public funds to reduce its debt level thus, placing it on a sound financial footing similar to a private company?

Protection of the taxpayer requires that NB Power be prevented from incurring any new liabilities. Taxpayers are likely to pay a severe penalty if NB Power is allowed to continue operations, particularly if it is excused of any of its costs. Rather, NB Power should be wound up through a process of disaggregation and privatization of the parts.

c) Do you feel that the Electric Power Act should be changed to alter the rules under which NB Power must operate to better match that of a private organization?

See the previous answer.

d) Should NB Power be expected to participate in programs resulting from the social policies of the Provincial government? If so, should the government compensate NB Power for any extra costs it should incur or should these extra costs be included in the regulated tariffs charged to all customers?

The social policies of the provincial government should be carried out outside of the energy system of the province.

e) Would you be in favour of the Government selling all or part of NB Power? If only part, what part do you think should be sold?

Energy Probe advocates privatization of NB Power on grounds of environmental protection, taxpayer protection, and long term cost minimization within the energy system.

8) Regulatory and Legislative Issues

Response to Questions:

a) In your view, how should NB Power be regulated in the future?

Electricity transmission and distribution entities in New Brunswick should be regulated by an independent quasi-judicial body in an open public process. Power producers and marketers may also be subject to licensing administered through the regulator or the ISO/PX.

b) Should all competitors be subject to the same form of regulation?

The principle of regulatory equality for all should apply.

c) Who should regulate the transmission and distribution tariffs?

See above.

d) Who should regulate any ISO?

The ISO/PX should be regulated through an independent quasi-judicial regulatory body and also subject to all prevailing competition law.

e) What should be the role of the existing Public Utilities Board?

The existing Public Utilities Board should be strengthened and empowered to oversee NB Power in the interim and also given the responsibility to oversee and participate in the creation of a competitive market.

f) Who should be responsible for overseeing the introduction of competition?

Many models exist around the world. A particularly attractive model was the one used in the State of Victoria in Australia. There a government ministry, supported by recognized experts, supervised the creation of a competitive market. A detailed discussion of the Victoria model is available at http://www.nextcity.com/main/article/ep/97-12-05-EnergyAnalects.htm.

g) How should disputes be settled?

See above.

1. The Ottawa Citizen, May 9 199, “Ontario will block Hydro bid to increase debt: Utility has ‘borrowed to the limit,’ energy minister says”.

2. Capacity factor is the ratio of actual production divided by what production would have been had the facility operated at its rated capacity for the entire period. Ontario Hydro’s nuclear capacity factor in 1997 was 60.8% and the capacity factor of Point Lepreau was 61.8% (based on StatsCan 57-001-xpb).

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