Emissions Trading, Electricity Industry Restructuring and Investment in Pollution Abatement



To the extent that regulation in the electricity market significantly affects the
capital and variable compliance cost coefficients, plants with identical compliance
choice frontiers will make different compliance choices in different electricity market
environments.

Compliance Choices in Unrestructured Markets

In unrestructured electricity markets, the cost coefficients used by regulated firms
could have been significantly influenced by PUC regulations governing capital and
variable cost recovery. There are a variety of ways in which regulated utilities can
seek to recover their fixed and variable environmental compliance costs. Rate base
adjustments have been requested in order to recover the costs of capital required to
make investments in NOx control technology, to recover compliance related increases
in operating expenses, and to reasonably compensate shareholders for exposure to risk
by allowing them to earn a return on equity. Companies have also sought approval for
various kinds of rate adjustment "trackers" to allow them to recover costs associated
with purchasing NOx permits and construction work in progress.14

A review of the industry press indicates that regulators have authorized rate
increases and various cost recovery trackers to allow utilities to recover investments
in NOx control technologies in the seven states that are regulated under the SIP
Call and that have not enacted electricity industry restructuring (Business Wire,
Charleston Gazette, Megawatt Daily, PR Newswire, Southeast Power Report, Platts
Utility and Environment Report 1999, Platts Utility and Environment Report 2000,
Platts Utility and Environment Report 2002, Platts Utility and Environment Report
2003). Anecdotal evidence suggests that regulated utilities have been permitted to
earn a positive rate of return on their investments in abatement equipment and have
typically been permitted to recover a significant portion of variable compliance costs.

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