Property Rights and the Crisis of the Electric Grid

The Electricity Entrepreneurs

The achievement of the electricity entrepreneurs is one of America’s greatest success stories. Sprung from the mind of Thomas Edison in 1878, electric light was first deployed along Pearl Street in downtown Manhattan in 1882, powered by America’s first commercial electric grid. Electric lighting initially cost much more than gas lighting (the dominant form of lighting at the time) and was available only to multi-millionaire JP Morgan and a handful of businesses in New York’s financial district. By 1932, however, the price of electricity had fallen to one-third its former level, and 70 percent of Americans had electricity.1 Within fifty years of Edison introducing the electric grid, gas light was all but forgotten, and electricity emerged as the power source for the masses. Electricity not only provided clean, odorless, and safe lighting compared to its predecessor; it also powered refrigerators, fans, heaters, irons, and ovens, and it quickly became the dominant source of motive power in factories.

In addition to inventing the first practical incandescent light bulb, Edison invented the Edison System—the electric utility—which connected a central generating plant, through an electric grid, to light bulbs and other electrical devices. Edison’s direct current technology, however, could transport electricity only short distances and was not conducive to economies of scale. George Westinghouse took Edison’s invention and extended its reach by incorporating into the grid alternating current, which could transport electricity much farther. In 1896, Westinghouse’s alternating current technology transmitted power from the Niagara Falls dam to Buffalo, New York—an unprecedented distance of twenty-six miles.2

These technological advances were followed by major innovations in business methods. Beginning in the 1890s, Samuel Insull, once Thomas Edison’s right-hand man, developed key methods for efficiently running an electric utility, methods that are used to this day. He discovered, for example, the seemingly perverse fact that he could make more money by charging less for electricity than his competitors charged. Insull came to realize that if he could keep larger generators fully used around the clock, he could amortize the fixed cost of buying those generators over a larger output and thus out-compete his rivals. Insull’s insight led him to introduce economies of scale involving ever larger generators, a method he called “massing production.” (Insull’s publicists later shortened this term to “mass production,” which Henry Ford picked up while working as chief engineer at the nearby electric utility, Detroit Edison.)3

Insull’s economies of scale enabled him to buy out his competitors. When he became chairman of Chicago’s Commonwealth Edison in 1892, forty-five utilities were operating in the city.4 Over the next two decades, Insull’s superior mass production efficiencies enabled him to buy all of them—while charging less for electricity than even his larger peers. For example, in 1910 the average tariff of Commonwealth Edison was 2.2 cents/kilowatt-hour, compared with 3.9 and 4.8 cents/kilowatt-hour in Berlin and London, respectively.5 Each of these cities was larger than Chicago and could have achieved greater economies of scale, but neither was run under the efficient principles discovered by Insull.

The Utilities Surrender Control

Unfortunately, these early innovations were accompanied by some measure of local government interference in utility operations. Edison was the first to experience it; before he could begin construction of the nation’s first commercial electric grid in Manhattan, he had to deal with city officials who controlled access to the streets. Edison could not simply purchase the right to lay his electric cables in trenches under the streets of New York, because no one owned the streets. Nor could he just start laying cables, because the streets were regarded as “public” property or “the commons,” which was controlled by the government. All he could do was try to persuade Tammany Hall city officials to give him permission to lay his cables.

Edison hosted a gathering of city luminaries at his home and laboratory in Menlo Park, New Jersey. The ostensive purpose of this fete was to demonstrate his electric grid, which Edison did by lighting 290 bulbs that he had tied together along the streets of Menlo Park. Although the lighting display was impressive, the unspoken purpose of the evening was for Edison to gain permission to proceed with his plans. Toward the achievement of this goal, he provided expensive wine and steaks, which he had brought in from Delmonico’s in Manhattan.6 Wine and steaks, however, were not enough, and it took Edison several months to negotiate bribes sufficient to persuade the New York City officials to grant him permission to cut the Manhattan streets and begin laying electric cable.7

In many cities, if not most, some form of bribery was required to persuade city officials to grant permission to build and operate an electric grid. Because electric utility systems could not be built without using the city streets, city officials were well positioned to coerce money and other terms from utilities. In Chicago, such extortion became an art form, perfected by members of the city council known as the “Grey Wolves.”8

The specialty of the Grey Wolves was extracting money for the issuance of a franchise for exclusive use of a portion of the right-of-way for a specific period of time. The franchises were never issued for long enough to let utilities recoup their investments in the expensive capital equipment required to get their businesses underway, much less long enough for them to turn a profit. Consequently, companies that needed to use the city streets to operate—including the gas utilities, streetcar operators, and the new electric utilities—suffered repeated episodes of franchise extortion. Throughout this period, utility managements were accused of corruption, but they could not operate their businesses without securing use of the rights-of-way, which was usually impossible without bribing the city officials who controlled them.

Entrepreneurs’ responses to this problem of securing rights-of-way varied. Charles Yerkes, who developed the streetcar system in Chicago, could not operate his business without having access to the streets. In the 1890s, Yerkes was faced with the prospect of having to invest millions of dollars for long-lived infrastructure when the city’s aldermen would not offer franchises for longer than a few years. With such a short and tenuous hold on the rights-of-way, Yerkes could not expect to finance or profitably operate the streetcars, so he proposed to the city council that the city offer him a long-term, fifty-year franchise. In accordance with the usual demands of the Grey Wolves, Yerkes offered them bribes to facilitate passage of the law that would give him his franchise. However, after the newspapers found out about the deal and lambasted it, the Grey Wolves, seeking to save face, withdrew their franchise offer.9 Without the long-term franchise he needed, Yerkes sold out in frustration and moved to England, where he secured the necessary right-of-way under more favorable terms and proceeded to develop the London Underground subway system.10

Having observed the city’s refusal to grant Yerkes a longer and more secure franchise, Samuel Insull stepped forward with a new idea; he proposed regulation of the electric utility industry at the state level. Instead of challenging the government’s control of the rights-of-way and the corruption it entailed, Insull accepted the government’s involvement and sought a seemingly superior and less arbitrary form of it.

Beginning in 1898 with his presidential address to the National Electric Light Association, a forerunner of today’s Edison Electric Institute, Insull vigorously stumped for the formation of state utility regulatory boards.11 His colleagues initially resisted the idea, but Insull was persistent—and his timing fortuitous. Only eleven years earlier, in 1887, the federal government had established the Interstate Commerce Commission (ICC), which was the first national regulatory body. The ICC had been created to regulate the railroads, and it served as the model by which the state regulatory boards would regulate the electric utilities.

The ICC comprised five full-time regulators, chosen for their impartiality. These regulators set maximum allowable rates that were “reasonable and just,” and if customers disputed these rates, the matter was resolved by a process of hearings and litigation.12 These same elements were copied, often down to the number of regulators, in legislation authorizing the state utility boards. Thus, regulation of electric utility prices and profit levels came into being.

After Massachusetts, New York, and Wisconsin formed the first state electric utility boards in 1907, the other states followed suit, and the boards rapidly grew not only in number, but also in scope.13 By the end of the 1920s, the system was all but universal.14 The boards’ extensive powers included the setting of electric rates and maximum allowable profit levels, and, in order to calculate the latter, the boards dictated the investments on which the utilities would be permitted to earn their profits. Thus, the boards gradually assumed power over all of the utilities’ major capital investments. What were once strictly business decisions regarding what types of power plants would be built, where they would be built, and where electric lines would be laid, were now political decisions. The focus on the allowed investment base on which to calculate rates gave this form of utility regulation its name: ratebase regulation.

In exchange for giving up their operating freedom, the electric utilities did get some relief from the problem of short-term, city-issued franchises. The new ratebase rules acknowledged that it was untenable to expect utilities to invest millions of dollars in assets with economically useful lives spanning decades if at the end of any five-, ten-, or twenty-year franchise a local government could simply take it over or extort bribes for its renewal. So most state utility boards enshrined another key idea: state-enforced monopoly. New laws made it illegal for anyone to compete with established utilities that gained the legally protected exclusive right to operate within a specific territory. These legalized monopolies later became known as “natural monopolies,”15 but nothing about them was natural: If the ability to compete without interference is the natural state of a capitalist economy, laws that make it illegal to compete are decidedly unnatural.

In sum, the state regulatory boards assumed control over all significant aspects of the utilities’ operations. They set the rates, determined the profit levels, approved all the major capital investment decisions, determined where the utilities could operate, and kept new utilities from competing with those already established. State control over the electric utility industry was complete.

Insull and the utility industry may have bypassed the confiscatory thuggery of local governments, but by cutting this “deal” they surrendered control over their industry to government, initiated the transformation of the electric utility industry into its modern regulated form, and froze into place Insull’s business model. Although Insull’s model was efficient in its time and place, its legalized entrenchment locked out competition from new technologies and business practices in succeeding decades, resulting in a most unnatural stagnation.

Unfortunately, the electrical entrepreneurs did not understand the actual source of their problems: the government’s violation of their property rights, including their moral right to the rights-of-way beneath and above the city streets. The electrical entrepreneurs needed space for conduits to run electrical wires underneath the city streets or space overhead to run wires on poles. In seeking to use such space, the electrical entrepreneurs were unaware that when property is first appropriated by someone from the commons and put to productive use, it morally becomes his property by virtue of the fact that his actions made it valuable. This principle was recognized in the 19th century in America’s Homestead Act, which gave legal recognition to the moral right of pioneers to the fallow land they made valuable with their farming. Similarly, the utilities and other users of the rights-of-way were making valuable the space beneath and above the city streets that they used to run their electric cables, gas lines, and streetcar routes. Recognizing their moral right and arguing for their legal right to the rights-of-way might have solved the utilities’ problems at the outset. But the electrical entrepreneurs, like everyone else at the time, accepted the notion that the rights-of-way should be a commons controlled by political officials, and they signed on to Insull’s deal with the devil, embarking on a path that led to ever-greater political control of their industry.16

The Great Depression

Despite having handed over control of their industry to the state, the electric utilities continued to prosper (albeit in mitigated fashion) by virtue of the tremendous natural efficiency of the central station model that Edison, Westinghouse, and Insull had devised. During the 1920s, the percentage of Americans with electric light doubled to two-thirds, and the percentage of factories using electricity to power their motors grew from half to more than three-fourths.17 The Great Depression, however, significantly interrupted the industry’s rise and presented further opportunities for government interference.

Along with a 42-percent decline in the number of banks in the United States, a 60-percent decline in manufacturing businesses, a 29-percent decline in gross domestic product, and a rise in unemployment to 25-percent of the population, several large utility conglomerates went bankrupt during the Great Depression of the 1930s.18 Among these casualties was the utility trust founded by Samuel Insull, Middle West Utilities. The collapse of Middle West led to the passage of the Public Utilities Holding Company Act of 1935, the first large-scale federal legislation controlling the activities of the utilities. The Act prohibited certain interstate mergers of utilities. It also prohibited non-utilities from owning complete utility systems. The non-utilities could own individual power plants, but they could produce electricity only for themselves; they were not permitted to sell their excess power. The main economic consequence of the Act, however, was the elimination of many possible economies of scale that would otherwise naturally accompany large-scale utility operations spanning multiple states.

Also with the 1930s came a large increase in outright government ownership of utilities. From the early days of this burgeoning industry, cities had started and operated utility systems in competition with privately owned grids. Beginning in the 1930s, however, new state and federal government-owned electric systems, combined with various takeovers of private systems by local governments, amounted to a massive increase in the government’s utility holdings. Whereas in 1932 only 4.9 percent of all electricity was distributed by government-owned systems, by 1945 this percentage tripled to 15.3 percent.19

Short-circuiting the Grid:

The Postwar History of the Utility Industry

After World War II, private utilities regained their footing and expanded dramatically. The economies of scale afforded by central station generation drove ever-larger generating stations, resulting in continually declining costs per kilowatt-hour, rapidly expanding use of electricity, and increasing profits. In just twenty years, between 1945 and 1965, electric output in the United States quadrupled; the capacity of the average power plants quintupled; the amount of fuel required to produce a single kilowatt-hour of electricity declined by one-third; electric usage per household quadrupled; and the price of electricity in real terms fell by half.20

But the rapid expansion following World War II masked a growing problem inherent in a system of ratebase regulation. Although the government would give a utility an exclusive monopoly franchise to provide electricity in a particular service territory, the utility could not, by law, compete for customers outside of its service territory. Consequently, many electric utility systems became disconnected electric islands. Some degree of interconnection existed, but it was a far cry from what was possible and from what Insull had envisioned when he conceived of multiregional “super power systems.”21

Interconnected super grids would enable a utility to provide power far more reliably than if the grids were disconnected. For instance, if a power plant suddenly failed in Maryland, an interconnected plant in Pennsylvania with excess power could readily transmit it to Maryland electrical customers. And because an interconnected grid enables plants to serve as backups for each other, fewer plants are needed overall to supply electricity reliably, making an interconnected grid cheaper to operate.

But the “super power systems” that Insull envisioned were undercut by the regulatory system that he advocated. And the regulatory system he helped to launch not only balkanized the electric grids during the 1930s, 1940s, and 1950s; it also led to grid bottlenecks.

Although grids in a few regions were densely interconnected (such as the Pennsylvania, New Jersey, Maryland Power Pool, a network of utility grids established in 1927),22 most grids were woefully disconnected from each other, resulting in blackouts and pockets of abnormally high prices when power could not be imported in sufficient quantity due to lack of transmission capacity. For the most part, these grid disconnects remain in place today. Here are some examples:

• Connecticut is unable to import enough power from surrounding regions because of insufficient transmission capacity; consequently, the state has frequent power outages and the third-highest electric rates in the continental United States.
• Florida operates as an electrical island, with few interconnections to Georgia and the rest of the country, resulting in higher prices than the other southern states.23
• New York City, the nation’s largest metropolitan region, is poorly interconnected with New Jersey and upstate New York, and its consequent inability to import enough low-cost power from these regions results in the city’s electric rates being more than double the national average.24
• Northern and Southern California suffer from a major bottleneck along the tenuous “Path 15” transmission corridor, which connects the two halves of the state; this bottleneck contributed to California’s rolling blackouts in 2000–01.
• Texas, in order to avoid federal interstate commerce regulations, intentionally keeps its utilities almost entirely disconnected from the rest of the country and, therefore, cannot benefit from the reliability and economy of scale that would result from grid integration.

The poorly interconnected grid is also responsible for most of the major blackouts that have occurred in the United States since World War II. The 1965 Northeast Blackout, the 1977 New York City blackout, the Western blackout in 1996, and the great Northeastern blackout of 2003 all involved transmission line failures (see table).25

Major Blackouts after 194526

In addition to a creaky grid, monopoly ratebase regulation has had another pernicious effect: It has deadened the connection between the policies of utility companies and their customers’ needs, creating distorted incentives to build plants for electricity generation. After World War II and until the 1980s, utilities tended to overinvest in generating capacity. Under the system of ratebase regulation, utilities received more or less automatic and guaranteed returns on whatever amounts they invested—so they invested more, by overbuilding. The more they invested, the more revenue they were allowed to collect—and the greater their profits. As a result, the utilities built too many overly large, expensive power plants and too few smaller, less expensive plants where they were needed.

The problem of overbuilding peaked in the 1980s. In the 1970s, although the growth in electricity demand slowed because of economic recession and spikes in oil prices that pushed electricity prices higher, the perverse incentives of ratebase regulation were so strong that utilities continued to build large plants throughout the 1970s and well into the 1980s. By 1982, as a result of this overbuilding, the reserve margin, which is the percentage of unused capacity in the U.S. electric grid, had reached an all-time high of 41 percent. This meant that, as measured on the peak day of electrical usage, more than two-fifths of the generating capacity sat idle.27

The slow response of utility executives to the dramatic downward shift in the rate of growth of electricity demand in the 1970s was the result of ratebase regulation. In an unregulated industry, the risk of loss would require executives to respond as quickly as possible to downturns in demand for their products, and a company that ignored a drop in demand and continued to build factories at its former pace would go bankrupt. Under ratebase regulation, however, the utilities faced no such outcome because they could cover the costs of the new plants, even when the plants were not fully used, simply by raising their rates. And because the utilities had been granted a legal monopoly, their customers had no choice but to pay the rates and finance such irresponsible building.

Although ratebase regulation deadened the signaling effect of market information for utilities, it could not do so completely. Some large customers, such as refineries, aluminum smelters, and universities, bypassed the utility monopolies’ prices by building their own power plants. Once they did this, they also began to agitate for the right to sell the excess power they made to other utility and non-utility customers. The obstacle that prevented them from doing so was the utilities’ monopoly control of the long-distance transmission lines, which were the only means of transporting the electricity.

Pseudo-Deregulation

The independent generators’ agitation to sell their excess power resulted in a series of laws and regulations that, beginning in 1978, forced the utilities to transport electricity produced by third-party competitors.28 The goal of these rules was to transform the transmission grid that had been created by and was rightfully owned by the utilities into an enormous common carrier through which any generator could transmit its electricity. Although intended to counteract the problems caused by an earlier violation of property rights—the legalized monopoly status that utilities gained under ratebase regulation—the forced opening of the grid was itself a violation of property rights. The utilities had paid for and produced the transmission lines. The secondary fact—that the government had granted them a legal monopoly—does not alter the essential fact that the lines belonged to the utilities by virtue of their thought, their time, their money, their effort. The government’s new mandate was the equivalent of forcing FedEx to transport packages for DHL. Unsurprisingly, this new violation of property rights, which was absurdly labeled a “deregulation,” had further negative consequences.

To begin with, alongside this so-called “deregulation,” the utilities remained tightly regulated in the traditionally recognized manner. All of the transmission wires and the majority of generating plants continued to operate under ratebase regulation; state utility boards continued to set retail rates in nearly all jurisdictions. According to 2006 data, approximately 83 percent of the utility infrastructure consists of regulated local and long-distance grids and regulated generation, while about 17 percent consists of “unregulated” third-party generation.29

Further, the supposedly unregulated third-party generators have become subject to increasing controls on the prices they charge. After wholesale prices were decontrolled in 1996, various caps and rules were imposed on the prices these third-party generators can charge. In 1996, in most regions, a generator was free to set its own rates for the power sold from its plant. However, after a series of electricity price spikes in 1998, 1999, and 2000, the government imposed legal price maximums in all regions.

The unstable mix of controls and partial decontrols inspired by pseudo-deregulation culminated in the California Power Crisis of 2000–01. A state “deregulation” law passed in 1996 froze California utilities’ retail rates, the rates charged to utility customers, while leaving decontrolled the prices charged by generators in the wholesale market (those prices had been decontrolled by the federal government in 1996). The goal of the California government was to decouple most of the generating capacity from the regulated utility monopolies and to create a common carrier transmission grid between the two groups, controlled by a state operated agency. This meant forcing the utilities to sell the bulk of their power plants to independent generating companies, forming a wholesale market of power suppliers. The utilities were then to purchase the power they needed from the wholesalers and receive that power on the state controlled transmission grid.30

However, because electricity cannot be stored, the wholesale price can fluctuate greatly with changes in supply. If, for example, extremely low-cost hydroelectric generation becomes unavailable due to very low reservoir levels, then much more expensive gas or coal-fired generation must be substituted. California is particularly vulnerable to the problem of low reservoirs. Because it gets a relatively large proportion of its electricity (nearly one-fifth) from hydroelectric power, changes in the water level of its reservoirs have a disproportionate effect on the price and supply of electricity in the state.31

In the spring and summer of 2000, California’s reservoirs were very low due to a disappointing snowfall the prior winter. Aggravating the problem of low hydroelectric capacity, the summer of 2000 was hotter than normal, which stoked electricity demand for air conditioning. The combination of expensive supply and greater-than-normal demand caused wholesale prices to rise significantly, eventually reaching a point at which the California utilities, whose retail rates were fixed, paid more for electricity in the wholesale market than they could legally recoup from their customers in the retail market.

As the California utilities bled cash to buy electricity at higher wholesale rates and sell it at lower retail rates, their creditworthiness deteriorated and pushed wholesale prices still higher as generators began demanding a price premium to compensate them for the risk that the utilities might go bankrupt and not pay their bills. Eventually this happened. The largest electric utility in the state, Pacific Gas & Electric, filed for bankruptcy, and the other large utility, Southern California Edison, approached insolvency. Only San Diego Gas & Electric weathered the storm because, unlike the other two utilities, it could raise its retail rates to pass along the higher cost of wholesale power. San Diego Gas & Electric had complied with a provision of the “deregulation” law that allowed utilities to charge “market-determined” retail rates if they had sold most of their generating plants. The other utilities had not yet done so.32

As the two larger California utilities approached bankruptcy, regulators could have averted the immediate financial crisis by allowing retail rates to rise, as they had with San Diego’s utility, thus allowing the utilities to make money instead of losing it on each kilowatt-hour they sold. Instead, in a misguided effort to lower the price that the utilities paid for electricity, regulators imposed a cap on wholesale electric rates, which they progressively lowered from $750/megawatt-hour in May 2000 to $250/megawatt-hour in August 2000. Imposing wholesale price caps did not make power available to the utilities at lower prices. Instead, it created a shortage of power available at the legal price.

In the surrounding states of Oregon, Nevada, and Arizona, wholesale prices were not capped. As the market price of electricity in California exceeded the legal maximum, the power generators began shipping power to the surrounding states to take advantage of market prices. The result was rolling blackouts in California.33

It is an elementary corollary of the law of supply and demand that price controls cause shortages. Controls on the price of bread led to bread shortages that helped cause the riots that led to the French Revolution. Controls on the price of oil caused long gas lines in the 1970s. And in California, controls on the price of electricity have led to rolling blackouts. By capping wholesale electricity prices, the government effectively made it illegal for generators to make a profit in California, so the generators sought profit elsewhere.

Another consequence of price controls is the inevitable corruption that ensues in the business world when businessmen are prohibited from setting prices in accordance with the demands of the marketplace. In the 1970s, oil companies struggling to operate under price controls sought to circumvent them via elaborate bookkeeping schemes; these companies were denounced, prosecuted, and fined billions of dollars. In similar fashion, during the California Power Crisis, generators and traders sought to circumvent the price caps by such means as setting up phony out-of-state “round-trip” trades. In these trades, the power never left California, but it was marked as having been sold in Oregon in order to take advantage of the unregulated rates there. Ironically, by breaking the law in this manner, traders such as those at Enron kept power in California—power that would otherwise have left the state—and thereby reduced the frequency and intensity of its rolling blackouts. This is not to say that what Enron did was right; rather, it is to show that what the government did was wrong. The government’s price caps were an attempt to violate the law of supply and demand, a law of nature. Such an effort can have only negative consequences.

In microcosm, the California Power Crisis illustrates key problems inherent in America’s current electric grid. Price controls on electricity were the proximate cause of the crisis. The fundamental cause of the California debacle was

governmental regulation of the power industry in general—regulation that began in the industry’s earliest days with government control of the utilities’ rights-of-way.

The Path Forward Is On Private Property

The crises, blackouts, and price disparities associated with the electric utility industry have led to a vigorous debate about the root cause of the industry’s problems and how to solve them. On one side are the advocates of regulation who blame the problems of the industry on the “deregulation” of the past few decades, and who long for a return to the “good old days” of 100 percent ratebase regulation. On the other side are the advocates of the kind of “deregulation” that involves the forced opening of the grid, who now argue that the grid must be “freed up” even more than it was before.

Both sides are wrong. The only way out of this intractable dilemma is to begin recognizing and protecting property rights in the electric utility industry. This approach to the problem would lead to genuine deregulation of public utilities; to the removal of all manner of state control over prices, profit levels, and usage of the transmission lines; to an electric utility industry that is both moral and practical—moral in that it would respect the rights of producers to the use and disposal of the product of their effort, and practical in that it would obey the law of supply and demand, thereby making possible the integration of market prices and production requirements.

Importantly, this approach requires recognition of the fact that utilities morally own the rights-of-way that they made valuable. The space through which they run their lines, in conduits underneath the city streets and in overhead lines attached to poles, morally belongs to the utilities. This moral fact must be legally recognized. The failure to acknowledge such ownership in the industry’s earliest days is what led to all the subsequent rights violations and consequent catastrophes. To undo this tragic mistake, we must recognize the propriety of utilities establishing claims to the commons, just as the homesteaders did, and of buying access to rights-of-way from private owners, just as they would buy buildings or machinery or any other goods necessary to their operations. In addition to respecting the rights of producers, this would respect the rights of utility customers by getting rid of forced monopolies thus enabling them to choose their power source.

The recognition of property rights in the electric utility industry would enable utilities to compete with each other all the way to the power plug in a customer’s wall. All parts of the grid, from the generating plant to the transmission and distribution wires, would become open to the entrepreneurial energies of creative businessmen, scientists, and financiers. This would result in the rebirth of the entrepreneurial spirit of the industry’s early days, when Thomas Edison invented his central station generation, when George Westinghouse made it better by incorporating alternating current technology, and when Samuel Insull radically improved the economic efficiency of utilities by inventing new business methods that achieved undreamed-of economies of scale.

A Vision of the Future

Full recognition of the property rights of utilities would radically alter the industry for the better. Today, extremely large central station generating plants that are generally far away from customers distribute power over a grid to millions of interconnected users. This is the model that Samuel Insull perfected in the 1920s, but it is a model unlikely to survive today in a genuinely competitive industry based on property rights.

The main consequence of recognizing property rights to rights-of-way beneath and above the streets is that competitive newcomers could reach customers that they are today legally prevented from reaching. Anyone with a generator, large or small, could potentially compete with the incumbent local utility by creating his own transmission lines. He could homestead the space he needed to run his lines using legal procedures established for that purpose. Or, he could buy space from existing owners. For example, an electrical company could buy a portion of the right-of-way belonging to the cable television or telephone company, and use the purchased right-of-way to run electric cables all the way to the customer’s premises. Subject only to reasonable rules that govern digging streets today, such as not blocking traffic and digging during reasonable hours, the utility entrepreneur would lay down his grid and compete. (Incidentally, this principle applies to all other users of the rights-of-way, and its recognition would facilitate competition among telephone, data, and cable companies, and would likely spawn endeavors that today cannot even be imagined.)

The emergence of entrepreneurs who can lay down their own grids as a matter of right would require the incumbent utility to compete on both price and reliability of output. No longer would the local utilities be assured, as they are under ratebase regulation, of a guaranteed return on their investments in power plants, distribution lines, and wasteful overhead. No longer would government-protected stagnation pass as acceptable service. No longer would customers have to pay artificially inflated prices for electricity or suffer repeated blackouts caused by the government’s attempts to violate economic laws.

One type of competition that could emerge is a large utility running power lines to customers in a neighboring region that is currently off-limits to it. Without monopoly franchise regulations holding it back, a New Jersey utility could run a cable under the Hudson River and supply power to large buildings in Manhattan. This would render the utilities in New York and New Jersey in competition with each other, which would result in lower prices. Further, the construction of more transmission lines—driven by the desire to compete and earn a profit rather than by regulatory fiat—would result in the grid becoming more reliable and less prone to blackouts.

Competition could also develop involving entirely new technologies and business structures for delivering electricity. For instance, in a seeming reversal of the triumph of Westinghouse’s alternating current over Edison’s direct current in the 1880s, and in defiance of the model that Samuel Insull perfected in the 1920s, small, neighborhood-based generators might compete head-to-head with the large central station plants of yore. The basis for their advantage would probably not be efficiencies in generation; the larger plants would still have greater economies of scale in production and thus be able to generate electricity at a lower cost. Instead of plant efficiencies, the newcomers’ advantage might lie in their ability to bypass the huge expense (about half of the assets of a typical utility) of the many miles of distribution cables that connect customers to the central power plant; they might be able to deliver electricity at a lower cost. A network of smaller power plants located closer to the customer and requiring only short transmission lines could improve reliability by reducing blackouts caused by failures along the miles of transmission lines needed by a traditional utility to deliver power to its customers.

My speculations as to the future are only obvious ones. In the wake of a liberated electric grid based on property rights and private ownership of the rights-of-way, the imaginations, ingenuities, and profit motives of scientists, engineers, and financiers would produce all manner of possibilities. Who will be the next Thomas Edison, George Westinghouse, Samuel Insull—and what marvelous goods will they deliver? Recognize property rights, America, and we will see.

About Raymond C. Niles

Raymond C. Niles is a senior fellow at the American Institute for Economic Research and assistant professor of economics & management at DePauw University. He holds a Ph.D. in Economics from George Mason University and an MBA in Finance & Economics from the Leonard N. Stern School of Business at New York University. Prior to embarking on his academic career, Niles worked for more than fifteen years on Wall Street as senior equity research analyst at Goldman Sachs, Schroders, and Citigroup, and as managing partner of a hedge fund investing in energy securities. In addition to numerous articles in scholarly and popular publications, Niles has contributed book chapters to The Morality of Finance, and the recently published book, Coronavirus and Economic Crisis, edited by Peter G. Earle, and published by the American Institute for Economic Research.

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