California's Power Crisis, A Personal View

2003 Note: This was written at the height of California’s Power Crisis. Some who read this piece criticized it for not capturing the “true causes” of the crisis. I feel vindicated by later events, including Enron’s bankruptcy and that of some of the other “Texas Raiders” who manipulated the California market. Much of what was written here has been subsequently validated.

Disclosure: What follows are my recollections of events surrounding California’s electric utilities and how we came to be in the situation we are in today. These recollections are derived from an admittedly faulty memory of events, some of which occurred more than a decade ago, and seen through the lens of my political perspective.

California Deregulation

I’ve been a resident of California since 1984. I followed utility issues in the state closely until the mid 1990s, as both an advocate of renewable energy and a contractor to the wind energy industry. At that time, the deregulation train was barreling down the track and I didn’t want any part of it. So I turned my attention elsewhere.

Deregulation was complex. It was overwhelming. Worse, the Big Dogs and free-market ideologues were running the show and there was little room for public-interest groups to participate. It was, I thought, better to wait until the dust settled before investing any more time in the seemingly futile effort to determine how renewables or the environment fit into the picture. Unfortunately, some four years later the dust still hasn’t settled and even more dust is being stirred up.

Today the system is in disarray. Rolling blackouts are daily threats, business groups are lobbying for every conceivable pet energy project, and the public is screaming about the power crisis. In a fit of hubris suitable for the Guinness Book of Records, the state’s politicians are promising that they’ll fix everything–“Just don’t you worry,” they say.

I am worried. Especially when I hear politicians making such inane suggestions on how to solve the power crisis as building more nuclear power plants. No, I didn’t make that up. Pete Knight (R-Palmdale) said it.

In general, I prefer the devil I know to the devil I don’t know. Some renewables advocates argued that the previous system of regulation was broken and nothing could make it worse. I didn’t agree. After all, the previous system had resulted in 1,500 MW of wind capacity and 600 MW of solar power in the state. While it was far from perfect, at least I knew the players and where they stood. Of course, that’s not true today. Most utilities have changed their names since deregulation fever swept the country. Now, we don’t even know the names of our suppliers, let alone where they’re based.

Where do I stand? I was opposed to deregulation. I still am. Anyone with any historical perspective whatsoever should recall with a shudder why electric utilities were regulated in the first place. Millions of Americans lost their life savings to the Power Trusts of the 1920s. As a result, there was a social compact between utilities and the public. While it was fraught with problems from an environmental perspective, the system basically worked. At least it kept the lights on.

Deregulation resulted from the belief of followers of the last great religion to sweep the world. Call it what you will, Thatcherism, Reaganism, capitalism, free-marketism. It is an “ism” no different than the other great “isms” of the 20th century (communism, socialism, etc.). But it’s our “ism” and it is the prevailing ideology. Californians and their politicians were not immune.

So, is the power crisis real? Yes, it certainly is. Is there a quick fix? No. It took us a decade to get into this mess and it will take some time to get us out. Is the public’s widespread cynicism about who benefits from the crisis justified? Yes. While the public may not have the facts straight, their general belief that they will be the ones to pay for the failures of deregulation is right on target.

Why the Crisis?

Here’s a quick summary.

1. The state’s population is exploding. Since I arrived here 15 years ago, the state’s population has increased nearly 50%, from 25 million then to 36 million today. The state’s population is nearly half again greater than that of Canada, and more than half that of Great Britain.

2. Per capita consumption is increasing–not decreasing. Despite great advances in technology since the mid 1980s, we’re using more electricity now than we were then. When I arrived in the state, the average household used 6,200 kWh per year. Today consumption has risen to 6,700 kWh/yr. Yes, everyone has a computer now that they didn’t have then. But waste is rampant. Just drive down any street at dusk. Even in the current crisis, with prices at record highs, you can see homes with two or even three incandescent porch lights blazing away. And today everyone has an instant-on television gobbling up the kilowatt-hours in the living room even when it’s turned “off”. I attribute this partly to the “wealth effect” of a booming stock market. Who cares about cost when there’s plenty of money and more being made every day. Deregulation itself is another factor that has contributed to increased consumption. Utility-sponsored efficiency programs have been cut statewide by more than two-thirds.

3. Demand = population x per capita consumption. Bingo. We’re consuming more electricity than ever before. You don’t need to be a rocket scientist to figure that out.

4. On the supply side, there hasn’t been a power plant built in California for a decade.

Why No New Plants?

Because of those pesky enviros? No. Enviros participated in the grueling, seemingly never-ending and ultimately unsuccessful planning process that should have resulted in 1,500 MW of new power plants in the state.

Well then, who did stop the plants? The electric utilities with the connivance of the Federal Energy Regulatory Commission. Huh, you mean the guys whining about bankruptcy? Yep, the very ones. It’s a long, bizarre story. Let’s just say that they got it wrong, very wrong.

The BRPU

No, it’s not a digestive problem. It was the Biennial Resource Plan Update proceeding undertaken by the state’s Public Utilities Commission. This was the pre-deregulation process for assessing need and determining how much new generating capacity was needed and where. To complicate matters further, the assessment of need first had to be identified by the California Energy Commission. The PUC then used the CEC data in its subsequent proceedings. Normally this process took place every two years. The final BRPU went on for almost four years.

At the beginning of the decade, the CEC said no new generating capacity was needed in the future. The PUC disagreed and launched its proceeding. The investor-owned utilities, or IOUs, wanted to build new plants. The PUC said that in the modern world the IOUs were not the only ones who could play. They said that independent power producers using wind, solar, and other technologies might be able to build these plants more cheaply. As a result, the PUC issued a request for bids to build about 1,500 MW of new capacity in the state.

The IOUs were very unhappy with the bidding results and filed a complaint with FERC. The IOUs prevailed and FERC overturned the bidding and threw out the 1,500 MW of new plants. Yes, that’s the same federal government that now says they had nothing to do with the mess in California.

Sierra Club California’s Rich Ferguson has a copy of Southern California Edison’s filing with FERC. In it, SCE claims that the bids should be thrown out in part because there would be no need for the power and that the PUC would require SCE to add capacity “prematurely”. Yes, that’s the same clever SCE that’s not paying the wind farms in Tehachapi because the utility is broke.

After this disastrous decision, nearly everyone was exhausted. But if FERC’s decision was bad, the situation got worse. The PUC proposed to deregulate the state’s utilities. And for once everyone agreed; the PUC’s plan was dead on arrival.

Deregulation Starts Down the Tracks

When I want to know what’s happening with California’s electric utilities, the first person I call is Jan Hamrin. Currently she runs the Center for Resource Solutions in San Francisco, but her experience with electric utility regulation goes back to the Jerry Brown administration. She’s been at it ever since.

Jan, like others in the public interest community, say that the deregulation train had a head of steam and was going to plow through anything in its path. No one was going to stop it. The “Big Dogs” were driving it down the track, she says, and the best that could be done was to try limit its damage as much as possible.

The Big Dogs were the states IOUs (PG&E, SCE, and SDG&E) and the large industrial consumers who wanted lower rates. Steve Peace, (D-El Cajon), was willing and able to help. An ambitious, up-and-coming legislator, Peace could have ridden successful deregulation legislation to higher office. Instead, it ruined his career. “He couldn’t be elected dog-catcher now,” say some pundits.

Industrial customers wanted deregulation so they could cut special deals for lower rates outside the purview of the PUC.

The IOUs wanted deregulation so they could offer special “sweetheart deals” with their industrial customers and be free to enter into more profitable businesses. As regulated companies, their downside risk was minimized by the social compact of PUC regulation but it also limited their “upside potential” as it’s known in business jargon. Executives cannot envision bankruptcy, they can only see the profits that lie ahead if only government and public regulation would just get out of the way.

While Peace and the Big Dogs crafted legislation, the public interest community, deeply split, yapped ineffectually at their heels. Ratepayer advocates wanted lower rates; environmentalists wanted cleaner plants and renewable energy. In the meantime, money poured into Sacramento to lubricate legislative wheels.

Indicative of the mania–and maybe the money–that swept the legislature, deregulation passed unanimously in the mid 1990s. After a transition period, deregulation was to go into effect in 1998.

The Deal

As part of the deal, ratepayers would bail out the IOUs’ investment in nuclear power. Contrary to statements by the IOUs, most of the bail-out was destined for their nuclear plants, not so-called “expensive” alternative sources of power from wind and solar energy. The utilities would divest–that is, sell off– their generating plants. And they did. In turn, subsidiaries of the utilities would be able to invest in projects outside California. The IOUs would hang onto their distribution system and still deliver electricity to consumers, but they would pass along the cost of the energy they delivered. They would profit only from their investment in the distribution system and not on their sales of energy.

I won’t even attempt to explain the Power Exchange and the Independent System Operator. I don’t understand it; never did.

Industrial customers were to get lower rates. They did, at least for a while. Ratepayers too were supposed to get ever lower rates. We never did.

Consumer Fraud

To keep consumer groups from derailing deregulation, the legislature foisted one of the world’s most cynical frauds on the state’s ratepayers. The legislature and the Big Dogs sold deregulation to the public on the promise of a cut in rates. Deregulation would be so good, they said, that there would be a 10% cut in rates the day it passed. And of course, rates would fall further after deregulation was fully implemented.

The 10% rate cut wasn’t a rate cut at all. It was a “loan.” The rate cut was financed with a state-backed bond–a bond that must be paid back with interest. The “rate cut” is actually a rate increase when interest on the bond is included.

What Went Wrong

According to Jan Hamrin, several of the key assumptions driving California’s deregulation were false. First, legislators believed there would be plenty of generating capacity in the state for the next 30 years. This condition assumed that all the plants in the BRPU were actually built. Because of FERC, they were not. And once the PUC proposed deregulation, no one in their right mind would build a power plant in California. Like me, investors wanted to see the dust settle first before they threw their money into the new competitive marketplace. They also assumed that conservation would continue; that is, per capita consumption would continue to decrease, not increase. They were seriously wrong on both counts.

Second, the rosy prognosis was based on ample, low-cost supplies of natural gas. This projection blew up, quite literally. With everyone switching to natural gas, there wasn’t enough pipeline capacity. Then one of the lines serving California unexpectedly exploded. Further, when the utilities sold their generating assets, they also sold the gas storage tanks associated with those plants. The new owners had no “obligation to serve,” so no real economic interest in keeping gas in storage.

The power plants sold to the new out-of-state generators were all the price-setting plants, the ones that determined rates.

The forced outage rate of these plants under their new ownership increased dramatically. During the winter, for example, the forced outage rate of the regulated utilities (that is, when a plant fails unexpectedly) was 5-10% of their capacity at any one time, says Jan Hamrin. Under their new ownership, the forced outage rate two years later (not a long time in the life cycle of a power plant) jumped to 40-50%! According to Hamrin, there are some 10-12,000 MW off-line that in the past would be generating electricity. Her implication was that with those plants on line, there would be no serious shortage this winter.

The picture becomes more dire when the length of the forced outages is also taken into account, says Hamrin. Under the regulated system, the IOUs had a legal obligation to keep the lights on and typically could bring a plant back on-line within two weeks. If the situation were serious, they could do it within one week by paying overtime. Now, the new owners average four weeks before plants are brought back into operation.

Winter Crisis

Rolling blackouts in winter? Should never happen. Demand in California peaks during the summer when everyone switches on their air conditioners. Peak demand during the summer of 2000 was about 43,000 MW. This is when the absence of sufficient generating capacity–enough power plants–to meet demand is most likely to become a problem.

Winter demand last year was around 31,000 MW. Normally there’s ample “margin” for generators to take plants out of service to make repairs. The state power system can coast through winter even if there’s insufficient plants to meet demand on a hot summer day. January, 2001 was different.

Imports of hydro-electricity from the Northwest were reduced because of the drought and more California power plants than usual were out of service. These factors, when coupled with longstanding transmission bottlenecks within the state, conspired to bring California to its knees. Despite the drought and transmission constraints, there is more than enough generating capacity in the state to meet winter demand. This is the key to understanding the uproar.

Fate or Collusion

Hmmm. More plants down for repairs than usual. More time to repair them than usual. Sounds fishy, you say. It may be, but it’s perfectly legal and well within the new generators’ prerogative to manage the plants as they see fit. After all, their interests are served if only one or a portion of their plants are down. The price paid for power from their other plants will increase.

Deregulation was predicated on breaking up the monopoly power held by the three regulated IOUs in the state. This has been accomplished. The monopoly power of the regulated IOUs was divested to three out-of-state generators–that are unregulated.

It may be apocryphal, but when the PUC ordered an investigator to examine why one power plant was not operating, the generator kept the investigator waiting in the office for the entire day. After all, the generator was not regulated by the PUC.

While it’s illegal to collude, it doesn’t hurt that when one of a generator’s competitor’s plants goes down, prices go up. And that if one of its own plants goes down, prices go up further. That’s the beauty of the market system when power, literal and figurative, is concentrated into the hands of a few.

Richard Bilas, formerly an economics professor at Cal State Bakersfield, formerly a commissioner at the CEC, and now a PUC commissioner, has called California’s disastrous experiment with deregulation a failure and charged that the new generators are “gaming” the system. That’s tough talk from a free-market theorist.

Conclusion

So there you have it, at least as much as I understand. It’s a fascinating story of hubris, greed, and ideologically driven public policy that ignores the lessons of history.

Should you cry for PG&E and SCE? Certainly not. They have been criminally negligent because of their opposition to the BRPU process and their avaricious support of deregulation. PG&E and SCE, as well as the out-of-state power generators who may be gaming the power market in California should be held accountable for any deaths or injuries that may result from rolling blackouts.

Should you cry for California? No. We’re ultimately responsible. We’re the ones who can’t control our own numbers, we’re the ones who use ever more electricity per person, we’re the ones who elected the politicians who voted for deregulation, we’re the ones who let ourselves get swept up in the deregulation mania.