18 August 2018

The PUB, Exemptions, and Muskrat Falls #nlpoli #cdnpoli

Here’s some background on the issue of Muskrat Falls and Public Utilities Board exemptions. 

At the end you should know what an exemption is all about, how the exemptions – there are more than one – came about – and what that means for now and in the future as far as electricity rates go.  We’ll deal with mitigation in another brief post next week.

The information here is based on material in the public record plus additional research and information accumulated over 30 years working on public policy issues in the province. That includes the 15 years of SRBP, much of which wound up being about the Lower Churchill project.

Let’s start with what an exemption is.

In 1994, every facility for the production and distribution of electricity in Newfoundland and Labrador fell under the power of the Public Utilities board for at least one of two purposes. 
The most obvious one is that the Board could set rates for electricity used in the province.  If a company wanted to build a power line or a new generating plant for use inside the province, the company had to apply for permission to the PUB.  The reason is simple enough:  the cost of the plant would have to come from rates and the PUB had the power -until December 2012 – to set electricity rates according to the policy set out in Section 3 of the Act.  The proponent of the project had to show the need for the project.  The Board would hold a public hearing and could approve or reject the proposal.

The other reason was to ensure local supply under Part II of the EPCA, 1994.  The House of Assembly approved a new section to the EPCA in 1994 as part of a major overhaul of the old legislation.  The new section allowed an operator in the province – NL Hydro or Newfoundland Power - to apply to the board for more electricity in the event the province needed more electricity and new facilities couldn’t be built fast enough to meet it.  That covered every facility, including Churchill Falls even though all but a small part of its production goes outside the province.

The Exemptions

In 1998, NL Hydro started talking to Hydro Quebec about developing the Lower Churchill at Gull Island.  Most of the electricity was to go outside the province but some would have flowed to the island via a transmission line built to Soldier’s Pond. At the same time, Hydro was looking for new sources of power on the island to meet anticipated demand.  It decided to go to the private sector to get the extra power and eventually signed a series of agreements to buy electricity from a partnership between Abitibi and Fortis on the Exploits and between Abitibi and an Italian company called ENEL at a place called Star Lake.

In a 1999 amendment to the EPCA, 1994,  government got the power to exempt a project “from the application of all or a portion of this Act where the public utility is engaged in activities that in the opinion of the Lieutenant-Governor in Council as a matter of public convenience or general policy are in the best interest of the province, to the extent of its engagement in those activities.” (s. 5.2)

The government exercised the power in a string of exemptions that covered the Exploits and Granite Canal projects as well as anything and everything on the Churchill River.  The Conservatives issued one in 2004 that covered facilities in Stephenville then owned by Abitibi that is still on the books. The exemptions are total – completely outside the Act – and they last as long as the cabinet order making the exemption stays on the books.  Any cabinet since 1999/2000 could have changed any order it wanted to change.

The Lower Churchill Project since November 2010

Nalcor and its predecessors always viewed the Lower Churchill project as a project for export sales.  The domestic use of electricity from the project was secondary.  More often than not, the Muskrat Falls output was considered as a possible source for domestic electricity supply but only if it was needed.  In fact, until 2010, Muskrat Falls was an add-on, at best.  Attention focused on Gull Island since it generated the most electricity and was always considered the more cost-effective part of the Lower Churchill development.

By 2009-2010, however, Nalcor was in a bind.  They had no markets for Gull Island, hence they could not finance it. At the same time there was an unrelenting political demand coupled with a corporate obsession within Nalcor of building the Lower Churchill.  Out of that marriage of forces came the scheme to build Muskrat Falls.  Supposedly it would be a substitute for Holyrood even though even Muskrat Falls far outstripped the annual use of Holyrood and its cost.  In the initial announcement, Muskrat Falls was touted as merely the first stage of the complete Lower Churchill with its implicit emphasis on export sales.  Government and Nalcor officials noted, when asked about the lack of export sales, that they did not need any export sales as domestic sales would cover all costs.

The “domestic supply” excuse allowed Nalcor to justify compelling domestic ratepayers to cover the full cost of construction, plus profit, and the exemption order from 2000 would ensure the public utilities board could not legally review the project, delay construction, and, in all likelihood, reject the project as unnecessary. The joint review panel had already concluded (January 2010) that Nalcor had not shown the Lower Churchill was necessary either for domestic or export use.   

The exemption order from 2000 made sense for a project that was intended primarily for export.  Any domestic use of power would likely have been handled the same way that NL Hydro had handled the series of purchases from Star Lake, Abitibi, and Kruger. 

But Muskrat Falls was a completely different project compared to Star Lake or Exploits for a completely different purpose than domestic supply. Most of its electricity would be sold on export markets at market prices far below the cost of production and made feasible only because domestic users would foot the bill for construction.

The 2011 PUB Sideshow

As with all the reviews orchestrated by the provincial government for Muskrat Falls, the 2011 PUB hearings were designed as a political show.  They had no legal standing due to the exemption order. The provincial government asked the PUB to review the project based on Nalcor’s concocted comparison, using all of Nalcor’s assumptions and assertions as evidence. Had the Board done the job of examining all options for domestic supply - something which Nalcor never did - the board would have most likely found that Muskrat Falls was far from the lowest cost option to meet anticipated needs.  In fact, Muskrat Falls was arguably the most expensive way to go.

The 2011 PUB review was not about oversight, as some have claimed.  It came only after public agitation by critic.  The terms of reference for the PUB review clearly limit the scope of the review in such a way as to affirm Nalcor’s already concocted conclusion in favour of Muskrat Falls.    

In the end, the PUB determined that it could not answer the question posed to it.  But that too was a decision driven as much as anything else by the ongoing squabbling between the board and the provincial government over the project during the hearings.

The December 2012 Electricity Policy

While the public utilities board had no jurisdiction over the construction of the Muskrat Falls project, the EPCA, 1994 still gave it jurisdiction over rates.  And while Nalcor/NL Hydro had been able to incorporate smaller electricity projects into its rate schemes, Muskrat Falls could only be financed by destroying the entire system of rates and how they were set. 

The initial scheme called for a doubling of rates as they were in 2010.  What’s more, even in 2011, Nalcor and the provincial government understood that rate shock for consumers would be so bad from Muskrat Falls that they had to introduce a new way of setting rates.  Rather than pay off the bulk of the cost in the first years of operation, Nalcor officials tried to ease the shock by pushing off repayment of the costs for the dam to the back of the pay-off period.  Lenders didn’t mind since this put more interest in their pockets even as it drove the cost of the project up for consumers.

On top of that, the board still retained jurisdiction over NL Hydro for domestic rates.  As a result, the power purchase agreement between Nalcor subsidiaries NL Hydro and Muskrat Falls would fall under the board’s scrutiny.  There was a danger the board would reject the purchase.  The solution was to change the EPCA, 1994 and the public utilities Act through Bill 61 (2012) so that – in effect - cabinet would set electricity rates in the province.  This is a crucial aspect of the entire Muskrat falls scheme that proponents of the PUB option have thus far ignored.

The Federal Loan Guarantee

Cabinet cannot simply ignore the 2012 powers and let the PUB decide on rates.  Project financing, the commitment to lenders, and the federal loan guarantee are all built on the initial decision (circa 2010) to force domestic consumers to cover all costs plus a new tax on domestic consumers for the provincial government.

The issues involved are far more complex than advocates of this approach suggest.  The advocates of the PUB scheme leave out a great deal of crucial information when they talk about the PUB as if it was some easy solution to a problem that is frightening people across the province. 

In the federal loan guarantee signed on 29 November 2012,  the provincial government – called the NL Crown in the hastily written draft of the document – commits that, among other things, the provincial government will:

Ensure that, upon MF [Muskrat Falls] achieving in-service, the regulated rates for Newfoundland and Labrador Hydro (“NLH”) will allow it to collect sufficient revenue in each year to enable NLH to recover those amounts incurred for the purchase and delivery of energy from MF, including those costs incurred by NLH pursuant to any applicable power purchase agreement (“PPA”) [dated 29 November 2013] between NLH and the relevant Nalcor subsidiary or entity controlled by Nalcor that will provide for a recovery of costs over the term of the PPA signed and relate to:
a) initial and sustaining capital costs and related financing costs (on both debt and equity), including all debt service costs and a defined internal rate of return on equity over the term of the PPA;
b) operating and maintenance costs, including those costs associated with transmission service for delivery of MF power over the LTA (as described further in 5 below);
c) applicable taxes and fees;
d) payments pursuant to any applicable Impact & Benefit agreements;
e) payments pursuant to the water lease and water management agreements; and
f) extraordinary or emergency repairs.
The only way the provincial government can fulfill its commitment in the FLG is to maintain its power under the December 2012 legislative changes to the EPCA, 1994 and the Public Utilities Act to have cabinet set electricity rates.


It is possible to change the Muskrat Falls financing arrangements, but this will take:  

a realisation that this is where the problem lays, 
a willingness to discuss a complex re-working of the project, and, 
a viable plan that will not explode electricity rates in the province while ensuring that  the creditors get paid and the federal loan guarantee is not triggered.

None of the schemes currently discussed in public will meet those criteria.  As the talk of the PUB indicates, political manoeuvring and scoring cheap points is still uppermost in political minds.  On the media side, there is some effort at discussing the issue but there is nothing that fills in the massive gaps in basic information left by the politicians and project critics.

In other words, nothing has changed since Danny Williams announced the Lower Churchill go-it-alone-with-partners scheme in 2006.