Electric utilities nationwide are facing substantially higher construction costs as they continue to address the country's pent-up need for new investment in generation, transmission, distribution, and environmental compliance, according to a report by The Brattle Group released by the Edison Foundation. The report, "Rising Utility Construction Costs: Sources and Impacts," found that construction cost increases, whose sources are external to the utility industry, will affect industry investment planning and present new challenges for regulators.

Following nearly a decade of stable and even declining real costs for materials (steel, other metals, and cement), prices over the past two to three years have risen dramatically, exceeding 100% in many cases. Prices for manufactured components, specialized labor, and construction project management also have risen by 25% to over 100% in the past several years, the report found. Rising costs have been due primarily to high global demand for commodities and manufactured goods, higher production and transportation costs (in part owing to high fuel prices), and a weakening U.S. dollar.

"These cost increases already have led to some generation project cancellations or deferrals, and may alter the composition of investments going forward in ways that increase expected long-term costs," noted Marc Chupka, a Brattle Group principal and co-author of the report. The higher construction costs also could impair plans to upgrade the nation's transmission and distribution systems, which could compromise reliability and inhibit wholesale competition.

"Current price increases felt by customers today are still largely due to increased fuel and purchased power cost, but the higher costs of utility construction will be borne in higher rates in the future as infrastructure projects are completed," Chupka added. Key government forecasts of electricity costs still do not reflect these recent price increases, calling into question the accuracy of current projections of retail electricity prices.

Price increases in the past several years have affected all utility sector investments, the report found, from coal and wind power projects to transmission and distribution projects. Between January 2004 and January 2007, the costs of steam-generation plants, transmission projects, and distribution equipment rose by 25 to 35 percent (compared with an eight percent rise in the overall price level measured by the GDP deflator). The cost of gas turbines alone, which was fairly steady in the early 2000s, jumped 17 percent in 2006. "If these cost increases persist, they will confront utilities and regulators with even tougher choices on capital investment plans in the future, and motivate stepped-up conservation and demand-side programs," Chupka observed.