Ken Silverstein EnergyBiz Insider Editor-in-Chief

Investors have long been weary of putting capital towards transmission infrastructure, largely because the returns don't justify the risks. Simply, it takes too long to go through the permitting process and the allowable rates of return don't reflect that. By establishing incentive-based rates and using its backstop permitting authority, the FERC says it will enhance reliability and cut the cost of delivering power because there would be less congestion.

Transmission investment has declined in real terms -- adjusted for inflation -- from 1975 to 1998. While there have been increases since 1998, FERC says that the level is still less than what was invested in 1975. Over the same time period, however, the demand for electricity has doubled. That's resulted in a significant decrease in transmission capacity, requiring new lines get built.

"Under-investment is a national problem," says Joe Kelliher, chairman of the FERC. "The commission proposes a national solution that encourages investment in all regions of the country."

The incentives apply to traditional utilities and to transcos, or those that operate transmission lines but do not own any generation. Specifically, the commission would authorize a higher rate of return on these regulated assets as well as recovery of accumulated deferred income taxes. It would also allow companies to recover transmission-related construction costs and provide higher rates of return for utilities that join regional transmission organizations that are independent and schedule all power deliveries for participating utilities.

Winning Permits

While everyone recognizes the need, new transmission is not getting built at the pace that is necessary. The difficulties in winning permits coupled with lack of capital flowing to such projects mean that less expensive generation may sit idle because of inadequate or congested transmission lines.

ISO New England, for example, says that about $900 million is needed for upgrades to maintain reliability and efficiency. Southwest Connecticut in particular has one of the most severely constrained transmission systems in New England. At the same time, Arizona-based UniSource Energy Services, for example, has been trying to build a high-voltage line in the populated Tucson area but has been blocked by regulators and citizen activists.

More than 30 transmission projects have been planned or proposed by electric companies in the Northeast. Similarly, the Midwest ISO currently has several transmission projects in the works. But, according to FERC, they won't be enough to relieve the expected congestion.

"With transmission making up only about five percent of customer bills, even some traditional players don't think the potential rewards outweigh the risks involved in siting, maintaining, and operating the transmission system," says Robert Bellemare, CEO of UtiliPoint International. He points to the American Electric Power's 765 kilovolt line in West Virginia and Virginia, which might end up being a 15-year process.

Despite the potential obstacles, four governors of Western states have given their support to the building of 1,300 miles of power lines at a cost of $2 billion. If the projects are constructed and begin delivering electricity by 2011, lines would stretch from Wyoming and into Utah, Nevada and Southern California. The governors say that the new lines are essential: They note that the demand for power has risen by 60 percent in the last 20 years but that the region's transmission system has only grown by 20 percent.

Some states, however, may struggle to provide enough power in 2006. In California, if reserve levels ever fall below the 7 percent, then the energy commission there says that it might ask for voluntary reductions or would suggest rolling blackouts.

Open and Inclusive

Needless-to-say, the 2005 energy law aims to push things along. The Department of Energy now has the authority to identify "national interest electric corridors" while the FERC can site the projects that fail to win state approval, essentially giving the permit holder the right of eminent domain. Meantime, the law not only would include the North American Electric Reliability Council in the development of standards but allow it to enforce them as well -- all under the authority of a so-called Electric Reliability Organization. Such standards have been optional to this point.

The idea is that the permitting process would take no more than one year. And, if the process gets stymied in the court system, the interested parties could petition the president of the United States for approval. At least that's the theory. But, as FERC well knows, it has similar rights when it comes to permitting natural gas pipelines. And, oftentimes, the process is still mired in court fights and regulatory battles that are time consuming. In any event, FERC emphasizes that the permitting process will always remain open and inclusive.

The ultimate goal is to build a transmission infrastructure in line with the digital economy. Any intrusion, for example, could be isolated while the rest of the grid kept functioning. To get there, though, it will be costly.

"An idealistic end point would be $100 billion investment over 10 years," says Wade Malcolm, with Palo Alto-based EPRI, a utility research group.

And that's where incentive-based rates come into play. Through the FERC, Congress wants to implement the incentives to expand the transmission infrastructure and thereby increase reliability. Policy makers also want to provide a predictable regulatory environment and ensure rates remain stable. The proposal is new and will certainly invite some criticism. But, it's a productive start when it comes to addressing the country's energy concerns.

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