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Economic Currents

Keep up to date with the latest UHERO news.

Publication: Do electric vehicle incentives matter? Evidence from the 50 U.S. states

Posted June 7, 2018 | Categories: Blog

UHERO congratulates Sherilyn Wee, Makena Coffman, and Sumner La Croix on the publication of, "Do electric vehicle incentives matter? Evidence from the 50 U.S. states," in Research Policy. This research measures the effectiveness of state-level policies on the adoption of electric vehicles in the United States. Read more about this in The Role of Policy and Peers in EV Adoption.

Is the Hawaii Convention Center Profitable?

Posted June 4, 2018 | Categories: Blog

In his testimony before the House Committee on Tourism on February 13, 2018, Hawaii Tourism Authority (HTA) CEO George Szegeti said “In CY2017 the convention center turned a net operating profit of $1.1 million, marking its second consecutive year of profitability.” This is surprising news, indeed. Convention centers in the U.S. are not designed to make a profit. So what explains the Hawaii Convention Center’s (HCC) remarkable and atypical success? It depends on what one means by “profit.”

The Convention Center Advisor (CCA) notes that for convention centers profit is a fungible concept. Sometimes it is “expressed as you may see it in a public corporation’s annual report. Sometimes it is expressed where revenues include unearned income (such as a government contribution, normally a hotel tax).” CCA argues that the appropriate way to measure a convention center’s performance is EBITDA, defined as earnings before interest, taxes, depreciation, and amortization. This would leave out unearned revenues, including any hotel tax subsidy. What is left is a measure which shows whether earned revenues can cover operating expenses. If not, how much subsidy would be required to make up the difference.

Let’s look at the FY 2017 annual financial statement for the Hawaii Convention Center as published in the 2017 HTA Annual Report to the Hawaii State Legislature.

Hawaii Convention Center (HCC)
Fiscal Year (FY) 2017 Actuals ($000)
     TAT Deposits – Convention Center Enterprise Special Fund $26,500
     Convention Center Operations 10,288
     Transfer from Tourism Special Fund for Convention Center Sales and Marketing 5,069
     Investment Pool Interest/Miscellaneous Receipts 68
HCC Expenditures  
     Convention Center Operations $10,721
     Convention Center Sales and Marketing 5,069
     Convention Center Repair and Maintenance 5,100
     Governance (Includes Conventional Center Insurance) 583

     Total Expenditures Prior to Payments on Obligation to State Department of Budget and Finance

     Payments on Obligation to State Department of Budget and Finance $20,000

Source: Hawaii Tourism Authority, 2017 Annual Report to the Hawaii State Legislature

A quick glance at HCC’s financial statement for FY2017 shows that total revenues ($41.925 million) barely exceeded total expenditures ($41.473 million). It’s a different story once unearned revenues are excluded.

More detailed examination finds earned revenues from convention center operations totaled $10.288 million while total operating expenditures totaled $21.473 million, or a deficit of $11.185 million. (HCC separates sales and marketing and repair and maintenance expenditures from “convention center facility operations” expenditures. But they are all part of total operating expenses.) Earned revenues comprised only about 25% of HCC’s total (earned plus unearned) revenues. Seventy-five percent of HCC’s total revenues came from transient accommodation tax revenues appropriated by the Legislature.

The financial statement also shows that HTA paid $20 million to the State Department of Budget and Finance (B&F) for convention center debt service. It was actually obligated to pay $26.4 million to B&F, or $6.4 million more than it actually paid. HTA was supposed to pay $26.4 million annually in debt service to 2027. HTA’s unilateral decision to reduce debt service payments to B&F resulted “in a $6,000,000 general fund loss per year.”

In an interview with the Honolulu Star Advertiser (12/24/2017), Marc Togashi, HTA vice president of finance, attributed the reduced debt service payments to “Complications relating to the state’s purchase of the Turtle Bay conservation easement” that “reduced HTA’s statutory funding by $6.5 million annually” and left HTA “without sufficient funds to pay the full $26.4 million obligation while also ensuring the Hawaii Convention Center had adequate funds to operate.” Thus, state subsidy is essential to the continued operation of the convention center.

HCC was not profitable shortly after it opened for business in 1998. It was not profitable in FY2017. The following performance data on earned revenues and operating costs further show the convention center incurred operating deficits every year between FY2012 and FY2017:

Fiscal Year Earned Revenues Operating Costs Deficit
2017 $10.288 million $21.473 million $11.185 million
2016 12.123 17.670 5.547
2015 6.521 18.883 12.362
2014 8.276 17.138 8.862
2013 9.264 16.313 7.049
2012 9.225 19.310 10.085

In determining the profitability of an investment, economists include both operating and capital costs. If convention center capital costs (=interest + depreciation) were included, the annual deficits would be much higher than those displayed above.

The fact that the Hawaii Convention Center loses money like other convention centers in the U.S. doesn’t mean that it was built following a hasty decision. As I wrote in my 2008 book (Developing a Dream Destination… p. 126), HCC was not “born out of a sudden fit of ‘irrational exuberance.’ The State went into it after years of deliberation.” It was not motivated purely by civic pride. Hawaii’s economy was in the doldrums during the 1990s. Leisure travel was slowing down, and the State wanted to promote convention tourism to complement leisure travel.

The State’s initial goal for the convention center was to attract large convention groups to the Islands to diversify Hawaii’s economy and spur economic growth. At the planning stage, potential convention bookings and attendance, thus economic benefits, were greatly exaggerated. Its final environmental impact statement (dated July 1995) envisioned the convention center to reach its operating capacity by 2004-2006; by then it was projected to host 60 events per year with an average attendance of 6,200 to 7,500 delegates. Instead, in 2004, the convention center booked 39 events with an average delegate count of 3,300. In 2005, HCC booked 46 events with an average delegate count of 3,829; the corresponding numbers for 2006 were 37 events and 2,626 delegates. HTA’s 2016 annual report to the Legislature showed that it had 20 definite bookings for the year with an expected delegate count of 56,540 for an average attendance figure of 2,827. The initial goal has not been achieved.

In the beginning HTA would not allow local events to be held at the convention center to placate anxious hoteliers fearful that their own meetings and convention businesses would have to compete with a subsidized facility. Public outrage and weak convention bookings forced HTA to change its mind. To make efficient use of the convention center, today many local events are held at HCC.

Did HCC spur convention tourism in Hawaii? Before the convention center was officially opened in 1998, the number of convention visitors averaged 259,078 per year from 1990-1997; from 1998 to 2017, the number of convention visitors averaged 267,954 per year. Counting all meetings, convention and incentive (MCI) visitors, the average MCI visitor number per year was 445,706 before 1998 and 461,675 after HCC was opened. While there are many factors that explain the ups and downs of the convention business—and it is an extremely volatile business—these numbers paint a sobering picture of the impact of HCC on convention tourism in Hawaii.

With disappointment growing, HTA changed the convention center management company from SMG Hawaii to AEG Facilities starting January 1, 2014. The challenge ahead is steep. With leisure tourism booming in Hawaii driving hotel room rates up to the highest levels in the nation, it will be difficult to convince convention planners to hold their meetings in Honolulu. And competition from other convention centers is fierce. According to Heywood Sanders, a leading expert on U.S. convention centers, in 2000 there was 52.1 million square feet of convention space in the U.S.; by 2016 that number had risen to 71.2 million square feet. There is simply too much convention center space around the country. Yet, the Washington State Convention Center in Seattle is about to embark on a $1.6 billion expansion project that would double its current space. New convention centers or expansion of existing ones are in the works in Oklahoma City, Albany (New York), Los Angeles Convention Center, Laredo (Texas) and by Caesars Entertainment in Las Vegas.

The 2018 Hawaii State Legislature finally changed the way HCC is funded. HB2010 HD1 SD2 CD1 relieves HTA’s obligation to repay the remaining debt on the convention center, saving HTA $26.4 million annually to 2027. It reduces the amount of TAT revenues allocated to the convention center enterprise special fund each year from $26.5 million to $16.5 million. In sum, the Hawaii Convention Center remains a subsidized facility and will no doubt remain so over its economic life.

Debt forgiveness does not mean that the capital cost of the convention center can now be ignored in determining the profitability of the facility. Nonetheless, it would still be an admirable feat if HCC is only able to cover its annual operating costs with its own (earned) revenues. That has not been achieved thus far. That's o.k. as long as residents want to have a world-class convention center and are willing to subsidize it.


(I thank Paul Brewbaker and Frank Haas for their excellent comments on an earlier draft. All omissions and errors are mine.)

- James Mak
UHERO Research Fellow and Emeritus Professor of Economics


A Pocket Full of PIMs

In the arcane parlance of utility regulation, PIMs are “Performance Incentive Mechanisms.”

This is where we’re headed because, slightly against my expectation, Governor Ige recently signed SB 2939, a bill unanimously passed by the legislature that requires that the Public Utilities Commission:

“…establish performance incentives and penalty mechanisms that directly tie an electric utility revenues to that utility’s achievement on performance metrics and break the direct link between allowed revenues and investment levels.”

A nice summary can be found here. In the world of utility regulation, this act might be the equivalent of what Joe Biden called a “Big F[reaking] Deal” for health care. No other state has moved to change the investor-owned utility business model so radically, particularly to “break the direct link between allowed revenues and investment levels.” Like Obamacare, it’s still a compromise with the existing system, one that maintains our investor-owned utility but aims to change its incentives and business model in a profound way.

Just to be clear, PIMs are not new. They have been a part of utility regulation for a long time. But along the lines of what a colleague said the other day, existing PIMs are a bit like children splashing water against the hull of the Titanic in a futile effort to change its course. The core of the utility’s business model, in Hawai‘i and everywhere else, is revenue connected to an excessive rate of return on its own capital expenditure. This act promises to remove that, and make performance metrics the new profit engine.

Will it work?

Well, it depends. Like most things, the devil is in the details. It’s going to be important to get the performance metrics right, and to attach the right level of reward and penalty associated with each one.

In the old textbook model of utility regulation, the main performance metric is cost, and this is easily incentivized with a price cap, one that is just high enough for the utility to earn a fair return, and perhaps gradually lowered over time if the properly incentivized utility finds lower-cost ways of producing and delivering the goods. Sometimes the incentive to keep costs low needs to be buttressed with quality metrics, like customer service and reliability. This old Palgrave chapter by David Newberry has a nice review of the standard thinking.

But this standard thinking, or even Newberry’s longer treatment, probably won’t work with electric utility of the future currently envisioned in Hawai‘i and other places embracing renewables. What’s new is the growth of distributed resources. This isn’t just rooftop solar. It’s batteries, hot water heaters, air conditioners, electric cars and all manner of electricity uses that have potential flexibility in their timing, and can therefore be employed in a way that makes management of intermittent renewables less costly. This changes standard regulatory frameworks because the utility is unlikely to own most of these flexible distributed resources, yet the way they are used and integrated into the system is key to keeping costs low. And since these resources can compete with the utility’s own investments, it creates a palpable conflict with existing assets owned by HECO, those seeking to sell renewable energy storage services, and with customers.

In other words, the integrated system’s costs no longer equal the utility’s costs.

This new law directs the Public Utilities Commission to reconcile conflicts by using performance metrics to better align interests and find the least cost path toward a renewable energy future.

All of which begs the question: What are the best metrics?

So far, the proposed metrics target plethora of narrow issues, hence the title of this post. These fall well short of an encompassing framework that could redefine the utility’s business model. But I think it’s possible to build such a metric. Economics provides some guidance, with reasonably comprehensive monetary metrics of the net social value of our electricity system, including distributed resources. We could even add costs of pollution externalities to such a metric.

Some may quibble with some of the assumptions, and that's an important conversation to have and revisit regularly. But if a reasonable consensus can be achieved about both the assumptions and the model, the PUC could tie the utility’s allowed revenue to a measure of this net social value. Or, more precisely, the difference between a reasonable, agreed-upon target for this metric and the outcome actually achieved. The target would be tied to clearly identifiable input costs, like fuel prices, the cost of renewable energy, battery storage costs, and even costs of capital, so that performance would hinge on how well the various resources are integrated and managed, if the utility can negotiate good deals for certain inputs, or avoid unnecessary expenditures through smart management. Utility ownership of assets would have nothing to do with it -- the utility would simply make more money if it facilitated more social value.

This idea bears more than a little resemblance to a standard way the PUC has always managed rate cases every three years or so to set allowed revenues and rate schedules. When they do this, the utility, PUC and consumer advocate rely on optimization models that are used to estimate costs and set allowed revenue. The idea laid out above bears some similarity to this process, except that it would encompass costs and benefits that would in one way or another extend beyond the utility’s own costs. The new big piece is incorporation of the demand side–-customers' benefits from electricity use. That’s something myself, Mathias Fripp and Imelda, a UH Mānoa PhD student, recently figured out how to do in order to show how much variable pricing and demand response can lower the cost renewable energy.

In conventional utility regulation, the model is used as a cost baseline to set allowed revenue. Here it would set the target level of social value.

Allowed Revenue = a + b ( social value - target social value)

Besides the model assumptions, which would set the target social value, the PUC would need to set levels for a and b, which set baseline revenue for the utility and the degree to which the utility would be rewarded or punished for exceeding or falling short of the target.

All of this may seem abstract, and on some level, it is. I can’t argue with the idea that this is a “black box” model (except that that is publicly available, and there is always a black box model). It will take some work to make it clearer for a broader audience. We'll work on that. It’s still early….

Stepping back, the big picture idea here is to cut all engines on the Titanic and harness the coordinated efforts of its captain together with those of a hundred tugboats to push the ship in better direction for everyone. The metaphorical iceberg here is mass grid defection, which I fear could be more likely, and sooner, than many realize.

- Michael Roberts
UHERO Research Fellow and Professor of Economics


Publication: Vog: Using Volcanic Eruptions to Estimate the Health Costs of Particulates

Posted May 10, 2018 | Categories: Blog

UHERO congratulates Tim Halliday and John Lynham on their forthcoming publication of, "Vog: Using Volcanic Eruptions to Estimate the Health Costs of Particulates," in the Economic Journal. The study uses data on emissions from the Kilauea volcano to estimate the impact of pollutants on health care costs.

Should regulators fear bond-rating agencies?

It seems that our political and administrative leaders worry about the bond rating agencies. Their fear is understandable. The cost of capital looms large in all manner of infrastructure projects, and the cost of that capital depends on how risky investors perceive repayment to be.

The cost of capital also looms large for our investor-owned electric utility. HECO has a lot of capital to finance, some of it through corporate bond issues. It is also the sole “off-taker” for many independent power producers, so its financial health may affect the borrowing costs of these counterparties.

This worry was one predictably raised in response to a bill, now on Governor Ige’s desk, that would force the Public Utilities Commission to:

“…establish performance incentives and penalty mechanisms that directly tie an electric utility revenues to that utility’s achievement on performance metrics and break the direct link between allowed revenues and investment levels.

What does this mean?

It helps to know a bit about the convoluted underbelly of utility regulation. Here in Hawaii, and I believe every other state with investor-owned utilities, Public Utilities Commissions (PUCs) set an allowed revenue that utility companies can collect. That revenue comes from a formula that looks something like the following:

Fuel + Purchased Power + O&M + (Capital Investment) x (Allowed Rate of Return)

The utility has to justify these costs to the PUC, which it must approve. Most costs are basically a pure pass through to customers. The utility makes its profit, enough to provide dividends to shareholders, in basically two ways:

  1. 1. It can try to cut operation and maintenance costs and pocket the savings, although it may lose that allowed revenue in the next rate case.
  2. 2. The allowed rate of return on capital.

If the allowed rate of return exceeds what the utility must pay in dividends to shareholders and/or interest rate payments, then utilities have a perverse incentive to tilt everything it does toward maximizing its own capital investment. The only check on the prudency of its investments is the PUC, which must approve most such expenditures.

The good thing about this strange profit mechanism is that, because it basically guarantees that the utility will earn a return on its investments, it’s quite easy for utilities to sell stock and bonds to finance the investment. All of which brings us to the bill on the Governor’s desk and our leaders’ fears of bond-rating agencies.

The bill tries to eliminate this perverse incentive, which basically rewards the utility for maximizing costs, by instead setting revenue based on performance metrics – outcomes that measure value to the utility’s customers and the larger community. These can be anything from measures that show better operation of its power plants to save costs, higher customer satisfaction, and better pollution outcomes.

Performance adjustments already exist in a limited form, but to my knowledge, performance outcomes are not used as the main source of return for any utility. The bill pushes for an unprecedented break from the status quo, and I gather that the Governor is worried (after very intense lobbying by certain interests) that if he signs the bill, HECO’s stock price and its bond rating could be punished by Wall Street.

So, two questions:

  1. 1. Is this fear of bond-rating agencies well justified?
  2. 2. Regardless of bond-rating fears, is this a good bill?


First, I think bond-rating fears are overblown. I don’t believe the bill casts reasonable doubt on the idea that the utility will be allowed to make a reasonable return on its investments. It just says that we need to break the “direct link” with capital investments. All manner of corporations easily raise capital monies with debt and equity issues under the expectation of an indirect link between the investments they make and the value of what they produce with those investments. I think it’s clear that this is the bill’s intent.

More pointedly: the PUC must, due to Supreme Court precedent, allow the utility an opportunity to make a fair return. If I were reading this bill the wrong way – and I think it’s clear that I am not – and the bill were to unfairly keep HECO from making a fair return, it would be quickly struck down by the courts. Wall Street knows this. The bond-rating agencies know this.

Incidentally, HECO’s stock price is up relative to a standard utility index since the bill passed the legislature.

Besides, bond rating agencies have a famously poor track record of predicting anything. (Anyone recall AAA stated-income mortgaged-backed securities?) The academic literature indicates that ratings changes mostly follow the market, with a long lag. Below is a graph from an early classic paper on the link between bond rating changes and stock market returns. It shows that upgrades follow good performance and downgrades follow bad performance. But the upgrades and downgrades have no apparent effect – or possibly even a countervailing effect — on returns after the rating change.

Source: Pinches and Singlelton, Journal of Finance, 1978

The literature shows that bond yields bear a similar relationship with rating changes. Some papers seem to show a subsequent effect for small firms with persistently low-rated corporate debt. But the size of the effect is small.

I’m not the only economist who is cynical about the bond rating agencies. Paul Krugman has noted how markets shrugged after US and Japanese debt got downgraded.

So, don’t fear the bond-rating agencies. Instead, look squarely at fundamentals. Which brings us to the second question: Is this bill a good idea?

Economists have long criticized rate-of-return regulation given its perverse incentive to maximize capital investment and the difficulty of the PUC in policing every investment decision. Here in Hawai‘i, our PUC has famously difficult staffing issues due to limited funding and a revolving door between them, the utility and other interests. Unsurprisingly, the utility pays higher salaries. It’s a challenging dynamic, to put it politely.

Worse, rate-of-return regulation gives the utility no incentive to find innovative solutions. If there is any advantage to having an investor-owned utility rather than a municipality or cooperative like KIUC (Kaui‘i’s electric utility), it is that they should have strong incentives to control costs and find innovative solutions to problems. Rate-of-return regulation undercuts that advantage.

This bill comes at a time when innovative solutions are increasingly important, capital investment is about to explode, and regulation is increasingly difficult. These changes are happening due to rapidly changing technologies and our transition toward 100% renewable energy. These changes expand the scope for innovation to better integrate and manage the variability of sun and wind resources. Many if not most of these opportunities involve investment by customers and independent power producers. Under rate-of-return regulation, these third-party investments can be efficient, but may be explicitly or implicitly resisted by the utility since they displace their own capital investment and source of profit. In other words, rate-of-return regulation causes more problems today than it has in the past.

So, the spirit of this bill is right on target.

The gaping hole in this bill is what it excludes: specific performance metrics that would replace rate-of-return and provide the new source of the utility’s revenue allowance. It kicks these details to the PUC.  Getting these metrics right for the utility of the future is critical. It’s also largely unchartered territory.

The PUC, of course, knows about all of these issues and could make all of these changes unilaterally. It doesn’t need this bill to change the way it determines the utility’s allowed revenue.  And just the other day the PUC opened a docket on performance-based regulation. The timing of the docket’s opening and the Governor’s decision about whether or not to sign this bill is unlikely a coincidence.

The PUC is telling Governor Ige: Don’t sign the bill! We got this!

But do they?

We have a laudable PUC and Consumer Advocate. These agencies are underfunded and overworked, and I think it is clearly evident that despite all the pressures they face, they do work tirelessly for the public interest. They are not captured by the utility.

But I do fear that the regulatory process is largely captured by the utility industry and the armies of consultants and vested interests that travel the country to testify on their behalf. And while change can occur within this process, it is slow. Very slow. With regard to this particular feature of regulation – the excessively high rate of return on the utility’s own capital investment – there appears to be a universal intransigence. To my knowledge, no PUC in the country has accomplished more than a tiny reduction in the allowed rate of return, much less a complete removal of the direct link and full reliance on performance metrics.

So, I gather that the PUC, and the utility, worry about how this law would constrain them. It would force profound change between now and January 2020 when the bill would go into full effect. That’s not much time to completely reinvent the utility’s revenue model. The standard process does not normally invoke that much change so quickly.

While I can understand why the PUC feels this is a risky bill, I fear that the risk is greater if we do not change fast enough. HECO’s costs are rising and technological change is relentlessly advancing, giving customers more options. The utility is pushing hard for grid upgrades that are expensive, but could become obsolete if enough customers leave the grid. A grid defection death spiral could be near.

The larger risk is a mountain of stranded assets, combined with punishingly high electricity prices for the most vulnerable customers—renters who cannot defect. This risk is also the State’s risk, since it may be on the hook for a bailout if the PUC approves investments in assets that quickly become obsolete. (I am told that the State probably would not be on the hook legally, due to this precedent, but the end game here would be ugly regardless.) And political leaders who enabled the catastrophe will, of course, have to answer to voters.

We can’t kick this can anymore. We have to act. This bill isn’t ideal—it doesn’t tell us the right performance metrics that would better align the utilities incentives with the public interest. But it does force us to make these hard choices soon.

- Michael Roberts
UHERO Research Fellow and Professor of Economics


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