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FSR

Asset ownership

Written by Thomas-Olivier Léautier

This FSR topic of the month explores governments’ intervention in four aspects of the power industry. The first two posts have pointed out the absence of strong justification for governments’ intervention in the generation side of the power industry, and the damages these interventions create. The third post lamented the absence of a strong push from European government to move towards efficient pricing of transmission services. This final post explores a more complex topic, the role of government in selecting owners of electricity assets.

Asset ownership was very simple after 1945. In most countries, power utilities were state-owned. In the US, the majority of utilities were owned by private and domestic investors, and heavily regulated. The restructuring of the industry in the 1990s transformed this equilibrium: European corporations purchased US power assets (e.g., National Grid Company successive purchases in the Northeast of the US), and symmetrically, US utilities invested in European assets (e.g., Entergy purchase of London Electricity). Within Europe, cross-border acquisitions were numerous (e.g., EDF acquisition of EnBW, Enel acquisition of Endesa). More recently, Chinese investors have rolled up European transmission and distribution assets. This raises the issue of the appropriate level of foreign ownership in a domestic power industry.

Contrary to the topics covered in the previous posts, no simple answer exists for this question. On the one hand, if a foreign firm is better able to run a business than the domestic ones, why should domestic consumers be deprived of the benefits of increased efficiency? In the late 19th century, global electrification was led by international companies, which had mastered this emerging technology, not necessarily by domestic ones. A contrario, examples abound of domestic industries, which, being shielded from international competition by protective regulation, progressively become inefficient. Following this view, the role of the government is to regulate the industry, i.e., to guarantee that foreign and domestic operators respect all relevant laws, and treat customers fairly.

This policy was adopted in Great Britain following industry restructuring in 1990. Today, four of the six large vertically integrated electricity producers and retailers are foreign-owned: EDF Energy is owned by the French utility EDF, E.ON UK by the German utility E.ON, npower by the German utility RWE, and ScottishPower by the Spanish utility Iberdrola. Neither the British government nor the British public appears unduly alarmed by this situation. In many respect, this is a success story: foreign investors were attracted to Great Britain by the clarity, stability, and perceived fairness of its regulatory institutions, and committed capital to deliver power to British customers.

On the other hand, foreign ownership raises a series of issues. First and foremost is national security. Even though Karla and Smiley[1] are by now retired, governments would be foolishly naïve to ignore industrial espionage and its accompanying “cloak and dagger” world. Power assets are vital to national security, and highly vulnerable: a prolonged power outage (caused for example by a computer virus) would have devastating impact on any country. Governments are therefore legitimate in ensuring that power assets be operated at the highest security standard. This may lead to restrictions on foreign ownership.

Second is technological leadership. Unprecedented technological innovations are currently reshaping the power industry. Can a country whose power industry is largely foreign-owned remain at the frontier of innovation? While there is no guarantee, experience shows that even foreign-owned companies are … somehow domestic, i.e., they employ local contractors, and forge research partnerships with local firms and local universities.

Finally is political acceptance. In many countries, globalization and foreign ownership are today viewed with suspicion, if not hostility. The public mistrust of the six largest utilities in Great Britain is mostly due to raising energy prices and dismal quality of service, but also probably partly to their being foreign. This concern is exacerbated by citizens’ low confidence in their government ability to effectively protect them against unfair practices. Better and stronger regulation is the obvious answer, but hard to achieve.

 

These four posts have explored various government interventions into electricity markets. A common theme emerges: for political reasons, national governments feel compelled to intervene and “optimize” electricity markets, so as to correct perceived failures or promote specific policies. The risk for the industry – and for the population at large – is that these interventions create a thick web of rules and regulations, which will slow down innovation. The power industry is on the cusp of a massive technological renewal. It would be a shame if government meddling, however well-intentioned, were to slow it down.

[1] Published in 1979, John le Carré’s novel Smiley’s people, puts an end to the confrontation between British spymaster George Smiley and its nemesis Soviet spymaster known as Karla. While both retired afterwards, it is unlikely either of them found peace.