New-age economy can't grow when it relies on an outdated power grid

New-age economy can't grow when it relies on an outdated power grid
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When you think of America’s infrastructure, what comes to mind? The highway system? The Erie Canal? The new Tappan Zee Bridge? As the discussion around infrastructure heats up, projects like these come up most often.

Less visible is another important piece of the infrastructure puzzle that is in critical need of investment and essential to our lives and economy: the electric grid.

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For a case study in how valuable a healthy electric grid can be, look no further than Florida’s responses to hurricanes Wilma and Irma. When Category 3 Hurricane Wilma hit Florida in 2005, over 75 percent of Florida Power and Light’s (FPL) then-4.3 million customers lost power, and the average customer power outage lasted over five days.

 

In response to the devastation, the state encouraged FPL to invest nearly $3 billion over the next decade to strengthen the electric grid and improve response times in the wake of natural disasters.

As a result, when Category 5 Hurricane Irma hit in 2017 and 90 percent of FPL’s now-five million customers lost power, the average customer power outage lasted only two days. By reducing average outage times by three days across a service territory that generates an estimated $1 billion in GDP per day, Florida’s $3 billion grid modernization plan has already paid for itself.

As Florida shows, the economic argument for a grid overhaul is growing. In most of the U.S., the electric transmission infrastructure was built in the 1960s and 70s and hasn’t been updated since. Without reliable power grids, states will struggle to build supportive business environments.

Areas without cost-effective, reliable power will quickly lose out on private investment and suffer in productivity. A modernized electric grid even has implications for national security, as utilities have increasingly come under threat of foreign cyberattacks.

Perhaps most importantly, a 21st-century economy cannot grow when relying on 20th-century infrastructure. As coal-powered plants continue to become less economically viable, utilities across the nation must revamp their transmission networks to allow customers to benefit from cheaper fuel sources, such as natural gas, solar and wind.

Today’s shifting energy landscape and the development of new technologies like rooftop solar panels have created economic opportunities that will not only improve energy efficiency, but change the way we power our nation.

Readying our electric grid for this new future will be a tremendous undertaking and will require both state governments and utilities to work together to bring the grid into the 21st century. 

The main obstacle to such an undertaking is a lack of political will from those with the power to approve the kind of sweeping grid modernization the country needs.

Typically, a public utility can only earn returns from capital expenditures after negotiating with its state regulator over how much profit the utility can earn and how much its customers’ rates will rise.

These formal, adjudicated negotiations (called “rate cases”) serve to protect customers from unfair rate-setting practices, but the uncertainty of the negotiations can end up discouraging investment.

If a regulator restricts a utility’s rate of profit by too much, grid modernization can become prohibitively expensive. New York and New Jersey residents dealt with the consequences of such policy in 2012, when Hurricane Sandy devastated an underprepared electric grid and left parts of the region without power for weeks

In many states, however, local governments and their utilities are pioneering a new template for mutual cooperation. To encourage improvements to the grid, regulators in places like California, Florida, Indiana and Minnesota have begun working with utilities to create a framework that would streamline the investment process.

Rather than approving expenditures through rate cases, regulators have chosen to greenlight utilities spending, along with the attendant rate increases, before the rate case.

For regions in need of infrastructure investment, arrangements like these incentivize improvements to the grid by allowing utilities to benefit immediately from the infrastructure spending. This has led to improved credit ratings and lower financing costs from which the customer ultimately benefits.

Given these developments, now is the time for more states to create programs that encourage utilities companies to invest for the future and make substantial changes to their infrastructure.

Power prices are the lowest they’ve been in decades, meaning utilities can marshal the capital they otherwise would have been spending on generation costs and dedicate it to infrastructure renewal. Interest rates, while rising, remain low and favorable for borrowing and investment.

In addition, much of our infrastructure is on the verge of failing and needs to be rebuilt. The safety considerations alone make a compelling argument for immediate investment in renewing the electric grid. 

In January, the White House unveiled a new federal plan designed to spur $1.5 trillion of investment in infrastructure. This investment is long overdue, and if Congress can pass an infrastructure bill, it could revitalize the nation’s aging roads, bridges and highways. But infrastructure is more than just roads and bridges.

We cannot continue to ignore the grid that serves as the backbone for our energy system. Elected officials, investors and customers alike should support much-needed investments in the electric grid that will both safeguard our energy resources and reduce costs for energy consumption. 

Jay Rhame is a co-portfolio manager of the Reaves Utilities ETF (Ticker: UTES), the first and only actively managed utilities ETF. He has more than 10 years of experience as a utilities analyst.

Disclaimer: Reaves Utilities ETF has a holding in NextEra Energy, Florida Power and Light's parent company.