Imagine you go to the grocery store and when you put your items on the counter, the checkout clerk asks you your annual income. I can only guess about the number of swearwords you would use in your response—I would bet it would be between zero and four—but I can almost guarantee the gist of your response: “That’s none of your damn business.”
It really isn’t the checkout clerk’s or the store’s business. Fortunately, no one in California’s grocery stores is asking that question. At least not yet. So why am I even discussing this? Because Californians will soon be subject to an income test to determine how much they will pay for their electric utilities. In April of this year, three major utilities—Pacific Gas & Electric, Southern California Edison, and San Diego Gas & Electric—proposed to California’s Public Utility Commission (PUC) that they be allowed to charge customers a rate based partly on income. When I first read about this months ago, I blamed the utilities. I shouldn’t have. It turns out that they are trying to comply with a law that California’s legislature passed. The law requires the PUC to base rates in part on a household’s income. From each according to his ability, to each according to his need. Marxism lite, anyone?
The Proposal
Customers would still pay for usage, of course, and the proposed rate per kilowatt hour would be reduced. On top of that would be fixed charges that have no connection to electricity use.
The proposed rate structure for the fixed charges is as follows:
- Households with annual incomes of $28,000 to $69,000 would pay between $20 and $34 per month.
- Households with annual incomes between $69,000 and $180,000 would pay between $51 and $73 per month.
- Households with annual incomes above $180,000 would pay between $85 and $128 per month.
The Argument for the New Scheme
How did we get to a situation in which California’s legislature thinks it’s legitimate to charge people based not on usage but on overhead? One articulate defender of this proposal is Severin Borenstein, an energy economist and an economics professor at UC-Berkeley’s Haas School of Business. In a lengthy blog post, “Rebalancing Rates for Electrification and Equity,” published May 1, he makes his case. I recommend reading his post, not because I agree with his bottom line, but because he clearly explains the thinking behind the idea and tries to justify the switch. This key paragraph gives his justification for a fixed charge:
Currently, volumetric electricity prices cover nearly all utility costs, including fixed costs like maintaining transmission and distribution lines, vegetation management around those lines, compensating past wildfire victims, and upgrading and hardening the grid for climate change, as well as subsidizing low-income customers, rooftop solar customers, EV charging stations, battery storage, and R&D on new technologies. Many of these costs are responses to state policies and climate change, not part of standard utility operations. These costs are nearly entirely unchanged when an existing customer pulls an additional kilowatt-hour from the system.
By “volumetric electric prices,” Borenstein means prices per kilowatt-hour.
In short, his argument for a fixed-charge component is that the extra costs he lists in the quoted paragraph have nothing to do with usage. Those fixed costs would exist whether a customer used a little or a lot. So, by that reasoning, it makes sense to share those costs in a way that has nothing to do with electricity usage.
Borenstein goes on to point out that the artificially high prices Californians now pay for a kilowatt-hour cause us to use less electricity and more natural gas for our homes and businesses and more gasoline for our cars. He argues that the price per kilowatt-hour should be brought down closer to its incremental cost so that we would use more electricity, including in electric cars.
There are three problems with his argument.
First, Borenstein takes all those costs as given and doesn’t challenge the idea that customers should be responsible for them. Some of them make sense. It’s a good idea to charge customers for maintaining transmission and distribution lines, vegetation management around those lines, and compensation for past wildfire victims. But why should we be charged to pay other people for installing rooftop solar, EV charging stations, and battery storage? The people who benefit from those are the ones who ought to pay. As an economist, Borenstein knows that we get generally good results when people who gain from something pay for it and generally bad results when people who don’t gain pay for it. I’m not claiming that there are no fixed costs independent of usage; there are. But the legitimate fixed costs that, by his reasoning, should result in a fixed charge to customers are a subset of the ones he names and, therefore, should result in a lower fixed charge than otherwise.
The second problem with his argument is that we electricity users are already burdening a somewhat fragile grid and so the increased electricity usage that would result from the proposed change in pricing would stress it further. If that’s so, then there’s an implicit cost from usage that should be factored into the volumetric pricing.
The third problem with his argument is that a customer’s value of the electricity infrastructure—transmission lines, etc.—probably is highly correlated with the amount of electricity used. So, charging high volumetric rates that include the costs of that infrastructure is a way to make those who value it more pay more.
Seeking a Scapegoat
What if despite these three objections, we decide that it makes sense to have a fixed charge? That still doesn’t get us to the California legislature’s and Borenstein’s conclusion that the charge should be based on income.
How does he justify it? He doesn’t try hard. He writes, “Dumping these shared costs on those least able to pay seems pretty unfair to me.” That misstates the issue. People like me are not advocating “dumping these shared costs on those least able to pay.” We’re advocating dumping them on everyone. Go back to the grocery store case. What if grocery stores priced the use of their carts? We can imagine that. If we go with my reasoning, supermarkets would charge everyone the same amount per cart. If we go with Borenstein’s approach, higher-income people would pay more for their carts.
The Loss of Privacy?
One interesting fact that Borenstein points out is that we don’t know how the regulators will determine income. He writes:
The most likely implementation of the IGFC [income-graduated fixed charges] will be to have a reliable third-party—a state agency or a university or other nonprofit—create a confidential database of household incomes and then share only the fixed charge category of each household with the utilities.
Notice that he thinks a state agency is reliable. I wonder if he’s familiar with the fact that millions of federal employees—I was one of them—had their personal information from their SF-86 forms hacked by the Chinese government. I remember having filled out the form a year or two earlier. It was so intrusive: it even asked me, on pain of perjury, if I was having an affair. The reality is that we have no assurance that a state agency, or a university or other nonprofit, for that matter, will be good at protecting our privacy.
Don’t Drive too Fast—Unless You’re Poor
California’s state government is not the first to legislate charges based on income. The governments of Finland, Switzerland, and the UK base speeding fines on income. According to John McKenna, writing in the World Economic Forum, “The Finns run a ‘day fine’ system that is calculated on the basis of an offender’s daily disposable income—generally their daily salary divided by two.” The greater the amount by which the driver exceeds the speed limit, the more day fines he is assessed. In one case, a former director of Nokia was ordered to pay a fine of $103,600. His offense? He drove his motorcycle at 75 kilometers per hour (47 mph) in a 50 km/h (31 mph) zone. Oh my God!
If this strategy were extended to every traffic violation and, a la the California legislature, to everything we buy, there would be little difference between having a high income and having a low income. Marxism heavy, anyone?
Beware the Manipulated Price
If you have found yourself wavering about whether to have government involved in setting prices, you might want to rethink. When government agencies set prices, they sometimes base them on factors that have nothing to do with usage. California’s electricity prices are Exhibit A. Oh, and don’t speed in Finland, Switzerland, or Great Britain.
