CALIFORNIA'S DEREGULATION DISASTER

By Harvey Wasserman

Blackouts, brownouts and soaring electric rates have defined the political landscape of California since last spring. They've transformed the phrase "utility deregulation" into a household epithet. They've stopped in its tracks a nationwide wave of electric restructuring that had already claimed two dozen states, and was about to sweep up the rest. And they've helped create a crisis whose economic and ecological shockwaves will carry deep into the new century.

But the roots of this unnatural disaster lie precisely in the corporate boardrooms of the utility companies now on the brink of bankruptcy. It was their mismanagement and greed that led directly to some of the greatest miscalculations in American business history. Those missteps, and their impact, were clearly predicted by consumer and environmental activists who fought to prevent them from becoming law. "This was a catastrophe we all saw coming," says Dan Berman, author of Who Owns the Sun and an official at the California Public Utilities Commission. "But the power companies had an agenda to push and the money to foist it on the public. Now they're reaping the whirlwind."

California's dereg disaster took root in 1996, when the state's three dominant utilities banded together to force on the ratepayers what they expected to be "the largest corporate rip-off in American business history," as Ralph Nader put it.

The plan was simple: Pacific Gas & Electric (then the nation's largest privately owned utility), San Diego Gas & Electric, and Southern California Edison were caught in a squeeze between their big industrial customers, who were threatening to leave the grid and generate power on their own, and the burden of their bad investments in obsolete generators, mainly nuclear power plants. They were also tired of having their rates regulated by the state's 80-year-old Public Utilities Commission. Primarily, they demanded two things: to make higher profits, and to cash out their huge investments in four nuclear reactors and a wide range of other deteriorating generators and transmission facilities.

So they proposed this: we'll divest ourselves of our long-standing regulated monopolies over the territories we now serve. We'll also dump much, if not all, of our generating capacity. Regulation of the transmission lines will stay intact. But on the receiving end of those lines, we will compete with other suppliers. Customers will be able to choose from whom they will buy electricity. Competition will rule. Prices will go down. You can even choose "green" energy from companies selling wind and solar.

The price tag for Californians? Somewhere between $20 billion and $28.5 billion in up-front "stranded costs," ie direct payback to the utilities for their bad generating plants, most notably the four decaying reactors. These charges would be levied through "transition fees" and other surcharges buried in the customers' bills, but adding up to as much as 30% of their monthly payments. The utilities also got $90 million in taxpayer money to promote the new scheme, giving them a major leg up on whatever competition might later materialize.

The bill, AB1890, was drafted in utility offices, with help from the Natural Resources Defense Council, which hoped—despite warnings from other environmental groups that the bill was both environmentally and economically unacceptable—that it would lead to increased renewable generation in the state. After a few perfunctory hearings, it passed unanimously by the legislature. Republican governor Pete Wilson, then a presidential candidate, eagerly signed it.

Most consumer and environmental groups were furious over a wide range of issues associated with the legislation, most notably the reactor bailouts, which they worried (correctly) would prolong the operating life of deteriorating reactors and other polluting plants. So in 1998, a broad coalition put a repeal initiative on the ballot. Surmounting virtually impossible odds, the coalition gathered more than 700,000 signatures in less than five months. Initial polls showed them winning repeal by wide margins.

Then the utilities spent more than $40 million to defeat the ballot measure, calling in their chits with labor, ethnic and other organizations around the state. They portrayed deregulation as a means to encourage competition that would lead to consumers saving money. The repeal went down, 70-30%.

But in their haste to cash out, Southern California Edison and Pacific Gas & Electric made some critical miscalculations.

Most importantly, they assumed there would always be a surplus of cheap, wholesale electricity to re-sell their customers. So they sold off too much of their generating capacity and had too little of their own supply while rates were still frozen as the stranded costs were being paid off. Then came a hot summer and a cold winter. Natural gas prices shot up. Some key generators went down. Storms knocked out transmission lines. The nukes had problems.

But most importantly, the utilities found themselves at the mercy of independent producers who'd snapped up generating capacity and could manipulate the wholesale market. Consumer demand at frozen prices quickly outstripped cheap wholesale supply. PG&E and Southern California Edison were now wounded, bleeding whales at the mercy of sharks they could not control.

Companies like the Carolina-based Duke Power, Reliant of Texas and the Houston-based Enron, the nation's largest natural gas distributor (whose chief executive Kenneth Lay was a key supporter of George W. Bush) made billions selling power at high rates to the companies that had just sold them their generators. By one estimate, in six months' time PG&E and SoCalEd spent $12 billion more on power than they were able to collect from their customers. In some cases, Edison and PG&E were forced to sell juice to consumers at a rate of $64 per megawatt-hour while paying $1,400 for it.

As an example of the sudden profits reaped by power generators supplying California, the Houston-based Dynegy Inc. reported in late January that its earnings for the last quarter of 2000 more than doubled from the previous year, skyrocketing from $45.1 million to $105.9 million. For the year as a whole, Dynegy did even better, with a net income of $500.5 million compared to $151.9 million in 1999. This more-more-than-tripling of its profits came on revenue that did not even double (from $15.43 billion in 1999 to $29.44 billion in 2000). Enron, Duke Power and others have reported similar profit increases. Clearly, Californians are not only paying more for electricity because of higher energy prices—they are supplying independent power companies with record profits on top of that.

Even rival utilities got into the act. Oregon's Portland General Electric withdrew a proposed rate hike for its own customers when it realized it could sell the power into California at a higher profit. At least two large bauxite smelters in the northwest shut down and realized some $500 million in profits from selling electricity into the southbound grid at rates that made producing aluminum a losing proposition. Perhaps most telling of all, the parent companies of PG&E and SoCalEd made as much as $3 billion selling power to the electric distributors they had just spun off, and which were now pleading for state help to avoid bankruptcy.

Which raises the ultimate question: has the crisis in California actually been one of real shortages? Or has it been a "phony war" caused by manipulation and profiteering.

The answer is not yet clear, because "California designed the world's most complicated market," says Paul Joskow, of Massachusetts Institute of Technology, and nobody's 100% sure exactly how it works.

But suspicions are widespread the biggest price spikes came not from real supply shortages, but from market manipulations. California Governor Gray Davis made repeated calls to the Federal Energy Regulatory Commission and other national bodies to help fix prices, guarantee supply and punish those gouging California consumers. But if the crisis has illustrated anything, it's the inability of federal agencies to control powerful suppliers whose political clout is exceeded only by their ability to have their way with one of the world's most complex entities, the electric power grid.

"Never again can we allow out-of-state profiteers to hold Californians hostage," vowed a frustrated Davis. But at this point it's not clear who could prevent it. Congress has debated national deregulation bills, but they've gone nowhere. And most were headed in the wrong direction, giving the private companies more license to mess with the system, not less.

None of the two dozen other states that have deregulated has yet suffered a disaster on California's scale, but the results have been decidedly mixed. By promising low rates and real competition, Massachusetts utilities beat back a 1998 repeal the same day it happened in California. But, says Debby Katz of the Citizens Awareness Network, "Massachusetts rates are now some of the highest outside California. The only ones benefiting are the nuclear corporations that have had their bad debts paid on our back."

Similar stories are repeated in nuclear-laden Illinois and Michigan. In Ohio, ratepayers have been saddled with nearly $10 billion in bad reactor debts, and no real competition is on the horizon. In Pennsylvania, citizen groups beat back some of the utilities' stranded cost demands. As a result, some margin has opened up for actual competition. But in Texas, which deregulated right in the midst of the California crisis, and in New York, which is doing it piecemeal, the results are not yet in. In two dozen other states that remain regulated, and in Congress, the term gunshy might apply.

In California itself, Davis is tinkering around the edges of a flawed law and rickety grid. The answer du jour is to build more capacity. But Harvey Rosenfield of the Citizens Utility Board, an early AB1890 opponent, wants to put a sweeping rollback of the deregulation legislation on the 2002 ballot. This time, he says, the utilities' ability to hoodwink the public will be severely constrained by recent memories of tripled electric bills and rolling blackouts.

The private utilities may also have a hard time explaining why two California utilities were immune to the crisis: the Los Angeles Department of Water and Power and the Sacramento Municipal Utility District (SMUD). Both are owned by the public, and both maintain heavy commitments to renewables and energy efficiency. In 1989, SMUD voted to shut its Rancho Seco reactor, and has since pioneered a major shift to solar, wind and biomass energy, with heavy commitments to conservation.

During the crisis, rates in both SMUD and the LADWP stayed stable while the utilities actually made money selling power to their embattled private neighbors, underscoring the fact that throughout the United States, public-owned power districts supply electricity cheaper and more reliably than the private utilities. The California crisis has already spurred grassroots movements in Davis and elsewhere to demand municipals of their own. "In the long run," says Berman, "public ownership is central to any real solution to the problems of the electric utility grid."

So is conservation. At the peak of the crisis, Davis ordered widespread efficiency measures that kept demand down without significant impact on the health and safety of the public. "Had the state been more aggressively pursuing efficiency all along," says Coyle, much of the crisis could have been avoided. Hopefully, a lesson has been learned here---and around the country."

Nonetheless, the constant drumbeat for more generating capacity will be hard to avoid. For its part, the Bush Administration reluctantly extended an order requiring out-of-state power sources to provide available electricity to California, but only until February 7. After that, says new Energy Secretary Spencer Abraham, the state is on its own. But the Administration already has argued that the California crisis demonstrates the need for new energy production, especially the opening of the Arctic National Wildlife Refuge for oil drilling. That this position holds no basis in logic—oil is barely used in the U.S. anymore for electricity generation for both economic and environmental reasons—seems to have escaped the new energy policymakers.

But Bush also has called for new natural gas drilling (something that is happening anyway now that gas prices are rising) and for new initiatives that could pave the way for construction of new atomic reactors. For example, the Administration apparently is interested in further streamlining the already streamlined regulations governing new reactor licensing and reactor license extension. And perhaps the biggest stumbling block to new reactors outside their demonstrated economic shortcomings, resolution of the high-level radioactive waste issue, will be coming to a head later this year, when the Department of Energy is scheduled to decide whether to proceed with the proposed Yucca Mountain, Nevada waste dump and the related "Mobile Chernobyl" waste transportation campaign. At this point, there seems little doubt that the DOE will approve the leaky, earthquake-prone site despite its scientific deficiencies.

While the widespread assumption is that the inevitable new power plants will be fossil- or nuclear-fueled, every U.S. reactor ordered since October1973 has been cancelled, and as we enter the 21st century, there are no new reactors under construction anywhere in North America or western Europe. Resistance to any new reactor orders would be ferocious to say the least, especially in light of nuclear power's role in prompting the crisis in the first place.

Indeed nuclear’s unreliability played a major role in the first wave of California’s current power crunch. The same storm that lashed the state in early January boosting power demand sent huge amounts of kelp into Diablo Canyon’s intake water system, forcing PG&E with the unpleasant choice of reducing water intake (and thus cutting power) or risking atomic meltdown. Diablo was forced to operate at 20% power even as electrical demand soared.

A year ago, natural gas would have seemed the logical choice for new generating capacity. But prices have soared and aren't likely to come back down soon.

Which leaves what the consumer/environmental community that opposed AB1890 has been arguing for all along---renewables. The most notable new western power plant is now stringing its way along the Oregon-Washington border. It consists of 450 windmills with sufficient capacity to power 70,000 homes. With construction underway in February, electricity could be surging out by December 31, a far faster construction window than is available to any other source. The fuel supply will be cheap, stable and clean. Environmental opposition will be nil.

Thanks to 15,000 windmills built in the 1970s under Gov. Jerry Brown (now mayor of Oakland), California once produced 90 percent of the world's renewable electricity. But the big utilities wanted little to do with them. Last year the world leader's mantle slipped to Germany, which built the equivalent of a large reactor's capacity in wind power.

Had California done the same, things might have been different. "The message is clear, " says Coyle. "The power supply needs to be controlled by the public. And efficiency and renewables work. Do we have to go through this again to re-learn those lessons?"

Harvey Wasserman is Senior Advisor to NIRS. A version of this article appeared in The Nation.

Published on The Nation (http://www.thenation.com)

 

Source URL: http://www.thenation.com/article/californias-deregulation-disaster

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