OPPORTUNITIES AND RISKS IN ELECTRIC COMPETITION: A VIEW FROM THE DEPARTMENT OF DEFENSE
Office of the Assistant Secretary of Defense for Economic Security
The Department of Defense (DoD) has responded to the electric utility deregulation process by trying to achieve consensus on what the Department expects and wants from the process. Historically, often the Defense agencies' relations with public utilities have naturally been adversarial. The agencies' objective in rate negotiations has been equity: rates that reflected the true cost of service. Sometimes they were successful and sometimes not, depending on whether the state public utility commissions were predisposed to subsidize one rate class or another.
Today's changing circumstances demand a new relationship with power suppliers, including the following:
The ability to take advantage of competition for supply and the economic benefits that result from it.
The ability to reduce utility costs, increase energy use efficiency, and improve the power infrastructure (which has been neglected since the Second World War).
Access to the value-added services of public utility companies and of nonutility suppliers of power and associated services, such as demand-side management, utility system operations and maintenance, high-voltage maintenance, and environmental programs, at no cost or the most favorable rate.
Customer assistance in obtaining the lowest cost rate and service availability, such as time-of-use rates.
My office has been working with the Edison Electric Institute (an industry group representing electric utilities) and others to develop a partnership to minimize financial risk for both parties and accomplish all mutually beneficial projects.
An acceptable model contracting process for the upcoming period of transition is one of the projects we are working on with the utility industry. But every situation is unique, so there must be room for local innovation. Each military base is different from every other base. Bases are like small cities, containing thousands of buildings with a wide range of uses, some dating from as early as the War of 1812. These bases have complicated power distribution systems, which are deteriorating. The Department's goals are an appropriate level of competition, objectivity, savings validation, and resource optimization. Its dream, which may be unobtainable, is energy-source-neutral, life-cycle-cost-effective decisions on the use of taxpayers' funds in a businesslike way.
One general obstacle to achieving those goals, and that dream, is an institutional culture of risk-aversion. No one, at any level in the federal government, has the incentive to take risks or try something different. Those who take risks and fail suffer; those who succeed are generally ignored. The National Performance Review and the initiatives coming from it are helping to change that culture, but the change is slow.
Report to Congress
The Department of Defense submitted a report to Congress on March 27, 1996, on ways to buy electricity at the lowest cost, identify regulatory or legal impediments to achieving lowest cost, and identify changes in legislation that would be needed to achieve cost savings. The report, ''Procurement of Electricity from the Most Economical Source," was prepared in response to a provision in a 1995 House bill (section 357 of H.R. 1530), which did not become law, but would have required the Department to buy electricity from the most cost-effective source.
The report pointed out that Congress had passed a law in 1988 (section 8093 of the 1988 Department of Defense Appropriations Act [Public Law 100-202]) that forbids competition, by requiring Defense facilities to buy electricity according to state regulatory requirements (that is, from local utility companies). Under that law it is impossible to generate competition for electricity purchases as we do for all other commodities.
Beyond rate negotiations with utility companies, there is no mechanism for buying electricity from more cost-effective sources.
The report identified corrective measures that could be taken. Repeal of the 1988 law is one obvious option. By itself, however, repeal would have a limited effect, because Defense Department facilities are retail, not wholesale, customers, and only wholesale customers are eligible for competition under the Energy Policy Act of 1992. Utilities have little incentive to provide Defense installations access to the transmission grid to buy electricity from generators that sell at lower prices.
One way to overcome that barrier, the report suggests, would be to define Defense facilities as "eligible customers" under section 211 of the Federal Power Act. The Federal Energy Regulatory Commission (FERC) is authorized to determine whether those facilities could take wholesale power. It would be possible to place military installations in the same class as municipalities, other utility companies, and cooperatives. That decision would allow DoD to enter the market for wholesale power.
These measures, the report estimates, would together save $30 to $70 million annually at the 40 bases that have electricity bills of more than $5 million per year. That estimate does not include any stranded costs that would have to be repaid. Nor does it include transmission charges, access fees, or any costs for social programs that have been supported by utility costs. So the savings in reality are probably less than that estimate. On the other hand, the savings could be higher, because the estimate did not include many smaller bases that could be given access to this market if Congress desired.
The report also suggested that the only way to determine the benefit to the Department of Defense and the taxpayers is by testing competitive purchases on a small scale first. The report added that the Administration, as represented by the Office of Management and Budget and the Office of the President, is opposed to mandatory retail wheeling and is concerned for possible undesired societal consequences.
Focusing on the Basics
For the Department of Defense, mission support is the most basic objective, and the highest priority by far. However we procure electricity in the future, we must ensure that mission support is not harmed. Immediately below mission support are the quality of life and productivity
of defense personnel. If the facilities save large amounts of money on energy, but the quality of energy support or continuity of service deteriorate, it could degrade productivity. The losses in that case would be far greater than any energy savings.
The Department must also focus on achieving the lowest life-cycle costs, not the lowest immediate costs. Short-term optimization over the past 50 years is the reason that the infrastructure of military bases is so deteriorated. This effort to save on energy costs should not be allowed to take that course.
The Department also needs flexibility for the future. It is difficult to predict what will happen in the next 5 or 10 years. The Department must not lock itself into programs that prevent it from taking advantage of changes in technology or changes in political or business philosophy.
It is critical also to be alert to unintended consequences. The Department of Defense is focusing on its interest as a customer, but there are other broader national interests that the government of the United States must take into consideration.
Development of policy in this area continues. An interagency study group is being orchestrated by the Office of Management and Budget. The Department of Defense is working with the Edison Electric Institute in many different ways to smooth the path toward a market-oriented future. The Department is also working with others that want to provide services and products that utility companies have traditionally provided. In general, it is trying to maximize the net benefits to society as competition begins to pervade the electricity industry.