Vanessa Sumo

English

Research Papers in Economics

8 Region Focus • Summer 2006
POLICYUPDATE
Breaking Down Barriers
BY VANESSA SUMO
O
n Feb. 8, the curtain fell on the Public Utility
Holding Company Act of 1935 (PUHCA). The act
was passed at the height of the Great Depression 
in response to the collapse of several electric and gas 
holding companies. 
According to critics, these firms had been charging their
utility subsidiaries high fees for service contracts and redi-
recting money to finance risky ventures — costs that were
passed on to consumers. The size and complexity of many of
these holding companies, usually spanning several states,
helped to obscure some of their practices and made them
difficult to regulate.
PUHCA granted powers to the Securities and Exchange
Commission (SEC) to break up these massive interstate
holding companies by forcing them to simplify their 
structures. Utility holding companies were required to
shrink into single, integrated systems confined to particular 
geographic areas. This limited merger possibilities to utility
companies that were physically interconnected or could
operate under a single, coordinated system. For instance, it
would have been virtually impossible for a utility in Illinois
to justify a merger with one in California.
The act also greatly restricted the types of businesses in
which holding companies could engage. An oil company was
not permitted to own and control utilities unless it gave up
its oil business, for example. The only way to avoid the SEC
oversight eye was to become an exempt holding company,
with the utility’s operations limited to a single state or 
functioning predominantly as an operating utility.
The repeal of the PUHCA, which came as part of the
Energy Policy Act of 2005, broke down these old barriers 
and opened the door to a variety of transactions. Utility 
holding companies will now find it easier to merge or 
acquire utilities in geographically distant locations. This was
the case when Duke Energy of North Carolina acquired
Cinergy of Ohio in April. In addition, Constellation Energy
of Maryland and Florida Power and Light hope to complete
their merger by the end of the year.
Nonutilities are likewise more free to acquire and control
utility companies. Although the SEC permitted Berkshire
Hathaway to acquire MidAmerican Energy Holdings in
2000 on the basis that it would have only one utility 
company, Berkshire Hathaway can now venture into other
utilities, as it has done recently with its purchase of 
PacifiCorp in March.
Supporters of the repeal, including the SEC itself, 
the Federal Energy Regulatory Commission (FERC), and a
number of economists, felt that PUHCA no longer made
much sense in today’s environment. Before the repeal,
changes in energy policy had been introduced that carved
out some exemptions for independent generating compa-
nies and foreign ownership of U.S. utilities. Moreover, 
the SEC had begun permitting mergers between utility 
companies that were only loosely interconnected.
In effect, the deregulation process had already been set in
motion. The development in accounting standards and 
securities markets has also come a long way since 1935, 
making the concern of inadequate financial reporting 
that originally motivated the PUHCA largely unnecessary.
Today, audited financial statements must follow the rules set
by the Financial Accounting Standards Board, and securities
markets demand a tremendous degree of transparency from
companies wishing to raise money.
But those who opposed the repeal worry that there could
be a substantial weakening in regulation of utility holding
companies. Lynn Hargis, a lawyer with Public Citizen, a
nonprofit consumer advocacy organization, worries that
new players like investment banks would be more interested
in buying power plants and then flipping them than in 
providing quality service. “Our power plants are important
basic public services. But these have now been left to the
market, and the market has only one thing on its mind that
is to make profits,” Hargis says. 
Economist Paul Joskow at the Massachusetts Institute 
of Technology, on the other hand, is not too concerned. 
“In the current environment, when a hedge fund comes in
and seeks to acquire an operating company they will be
subject to significant scrutiny by the state,” Joskow says.
“And once investors become familiar with state regulation
they may decide that they don’t want to be in this busi-
ness.” Thus, he thinks the main acquirer of utilities will be
other utilities. “There are too many utilities, and some are
better than others. If the repeal allows companies with
more expertise to expand their capabilities, then that’s a
good thing.” 
Moreover, such mergers and acquisitions will still need 
to be approved by state regulators and a host of federal 
agencies. The repeal also hands over to FERC some of the
SEC’s previous responsibilities with respect to access to
books and records and for prescribing caps on prices
charged for non-power goods and services provided within
the utility holding company system.
So what about prices? Like Joskow, economist Richard
Gordon of Pennsylvania State University is relatively 
optimistic about PUHCA’s repeal. “Anything that increases
the flexibility of the industry will in the long run lower 
costs, and that’s going to be reflected in prices that 
consumers pay,” he says. RF
RF Summer 2006v27  7/24/06  12:52 PM  Page 8

Policy update: Breaking down barriers

http://www.richmondfed.org/publications/research/region_focus/2006/summer/pdf/policy_update.pdf

Policy update: Breaking down barriers

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