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Cash Flow
With Deregulation, Size Matters

By Albert Crenshaw
Washington Post Staff Writer
Sunday, October 17, 1999; Page H02

Two winters ago, as Niagara Mohawk Power Corp. struggled to restore electricity in the wake of an ice storm that devastated upstate New York, it faced some tough problems.

One of the toughest was how to get the lights back on for customers on Grindstone Island, a large stony outcropping in the middle of the St. Lawrence River. NiMo, as Niagara Mohawk is known, ultimately arranged for helicopters to ferry new poles to the island and sent crews out by boat, and eventually the power flowed again.

The number of NiMo customers on Grindstone: six. The charge to them: zero.

Instead, as a regulated utility, NiMo put those expenses into its overhead and is hoping to recover them as it does other costs — from its customers, or in this case perhaps from government disaster assistance.

"Historically you find some customers cost more to service than others; therefore that cost is being subsidized by the majority of customers," said NiMo's Kerry Burns. "That's just the way the regulators have structured the system."

That, in fact, has been the prevailing philosophy of regulated industries for most of this century, and particularly since the Depression. Certain segments of the population, this reasoning goes, either because they are expensive to serve or because they lack bargaining power in the marketplace, need government protection lest they be gouged for essential services or denied them altogether.

That philosophy remains clearly expressed in the Postal Service, which charges everyone the same fee to mail a letter, whether it is going across the street or to the backwoods of Alaska. It also extends into other areas, such as Social Security, in which benefits are skewed toward lower-paid workers.

But regulation has had unhappy side effects.

One of the most notorious of these has been the tendency of regulated industries to drift into a "cost-plus" approach toward their business. Especially in regulated monopolies, companies understand that (a) rates will be set so they can realize a profit, and (b) competitors are barred from getting into their business. Thus, there is much less incentive to hold down costs than there would be in a competitive environment.

Some industries have also been accused of "capturing" their regulators, a situation in which companies have so much input that the rules become more protective of the companies than their customers.

And even when this doesn't happen, regulation can retard innovation. When companies install new systems, they prefer to leave them in use until they wear out, rather than replace them simply because something new and better has become available. This gives them a good return on their investment, but it also compels consumers to wait years for new technology. Industries are often able to argue to regulators that leaving older technology in place longer keeps rates down.

For much of the booming period that followed World War II, the system worked fairly well. Air fares and long-distance telephone charges may have been high, but flying was still a novelty to many Americans and long-distance calls were for emergencies.

But by the 1970s, with inflation soaring, there was increasing discontent with anything that seemed to boost prices. Air travelers could see unregulated intrastate carriers offering drastically lower fares, and officials of an obscure little telephone company called MCI were touting the lower prices and nifty new services they could offer if only they could persuade the courts to break up the AT&T monopoly.

Today, industries such as airlines, trucks and long-distance phone service are largely deregulated, and gas and electric utilities are starting down the same road. As a result, you can fly to Raleigh for $39, Hartford for $49 or Atlanta for $59 if you catch the sale, and with the right plan you can call California for 5 cents a minute.

But not everyone is a winner.

Air fares to some points — Rochester, N.Y., for example — are no bargain, and a number of small cities have little or no scheduled service.

And some consumers end up paying stiff charges for services they have little use for.

For example, before deregulation, long-distance calls might have been expensive, but there was no charge if you didn't make any. Now, a widow in a small Virginia town with $7.59-a-month economy local phone service must also pay another $3.50 — or 46 percent more — as a "network access fee" for the right to make long-distance calls. The fee applies even if she makes no long-distance calls.

And in today's world she finds another $1.64 tacked on for such things as 911 service (provided by the carrier only if the customers pay for it), "local number portability" and other items. With taxes, her $7.59 bill balloons to $15.32, much of it for services she may neither use nor want.

If experience is any guide, utility deregulation will likely follow the same track. Power users with market clout — primarily businesses and other large-volume users — can expect savings as former suppliers and new entrants compete for their business. Homeowners and other small users are likely to be less appealing to suppliers, though residents of affluent areas with, for example, heavy use of air conditioning may benefit.

Consumers should watch as the market evolves, and see if they really are better off. Remember, deregulation was ultimately a political decision, just as regulation was in the first place, and if the better service and lower prices that deregulation advocates promise fail to materialize, you know where the ballot box is.

© 1999 The Washington Post Company

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