U.S. to Decide Action on State Energy Crisis

The fate of California’s rocky experiment in electricity deregulation hangs in the balance today as federal regulators meet to decide whether to intercede in the state’s dysfunctional $23-billion energy market or to let free-market forces continue to wreak havoc.

The four-member Federal Energy Regulatory Commission will release a long-awaited staff report analyzing the root causes of California’s energy crisis and, more important, issue a draft order or action plan on how to solve the problems of runaway wholesale electricity costs.

During public hearings in San Diego in September, FERC Chairman James J. Hoecker promised that the commission would take action and “do whatever it takes” to repair California’s electricity market, whose deregulation was set in motion by landmark state legislation in September 1996.

Just what the report and order will say remained a matter of intense speculation on the eve of their release. The FERC commissioners could impose new price caps or order an overhaul of the California Power Exchange and the Independent System Operator, the state agencies that conduct daily auctions for electricity. The commissioners may ask the state to undertake new initiatives to foster more competition in a retail power market still dominated by the three big investor-owned utilities.

But an indictment of power generation companies--which some in the state accuse of “gaming,” or manipulating the system to wield unfair “market power” and wringing excessive profits from customers--is unlikely, according to published reports and state industry principals and government officials.

The FERC commissioners are said to blame market deficiencies and defects in California for a supply-demand imbalance that sent wholesale electricity prices skyrocketing in July to an average of 12.9 cents a kilowatt-hour, more than triple the July 1999 average of 3.9 cents. A typical residential customer of San Diego Gas & Electric, the first state utility to fully deregulate, saw his or her bills triple before state legislators stepped in to cap retail rates in August.

Just as worrisome to many observers is that wholesale electricity rates remain sky-high today, even after the end of peak summer power demand. Wholesale rates in October averaged about 10 cents a kilowatt-hour, double the average cost a year ago, said Patrick Dorinson, a spokesman for the Independent System Operator.

In any case, billions of dollars of investments as well as the political careers of prominent California politicians could be affected by what FERC does. U.S. Energy Secretary Bill Richardson is coming out from Washington to hold a news conference with Gov. Gray Davis in Sacramento this morning to announce new, unspecified initiatives to address California’s electricity problems.

The Davis administration has gone on record demanding that FERC, which oversees the transmission and wholesale selling of electricity around the country, to step in and discharge its legal duty to restore “just and fair” electricity rates in California. The ballooning of electricity rates in San Diego during the summer created a political firestorm that raged unabated until the state Legislature imposed its caps.

Rates paid by retail customers in the Southern California Edison and Pacific Gas & Electric coverage areas are frozen as well for the time being. But $5 billion in “undercollections”--the difference between what the investor-owned utilities have paid for wholesale electricity this year and what they can charge consumers--looms overhead, worrying Wall Street.

“I have no idea what the FERC will say,” said state Public Utilities Commission President Loretta Lynch, a Davis appointee who says she is as much in suspense as anyone. “But we are expecting a substantial order that would move the ball forward on repairing the wholesale market in California.”

Consumer advocates and the state’s major utilities would like to see FERC impose some sort of wholesale price controls--even gut the Power Exchange and the Independent System Operator because they are clearly not working as intended.

“We expect some radical surgery,” said Doug Kline, spokesman for Sempra Energy, the parent of San Diego Gas & Electric.

Some consumer groups would like to see FERC declare the wholesale rates collected by generators “unjust and unreasonable,” legal code words that would open the gates to actions by the PUC or the Legislature to force the power companies to disgorge or refund excessive profit. Such an action, which would lead to litigation by the power companies, is considered unlikely.

Business interests, including the power generators that have reaped enormous profit from the dysfunctional market, are arguing to let free-market forces prevail because restrictive price caps would abort the market’s evolution and possibly stifle construction of new power plants, which offer the best long-term solution to the state’s predicament.

“We expect that the FERC will find that the high prices of this past summer are a result of supply-and-demand imbalance and market design defects on the retail and wholesale side, but that the market participants have been playing within the rules and that there has been no manipulation or gaming,” said Brent Bailey, general counsel of Duke Energy North America of Houston, a major generation player in the California market.

Duke and others also strenuously oppose a solution proposed by the state’s municipal utilities, notably the Los Angeles Department of Water and Power: that the industry in essence be re-regulated by imposing a system of cost-based rate controls, similar to how electricity rates were set before deregulation.

Such a move would lead to lawsuits filed by Duke and other power merchants alleging “confiscatory” actions by the state nullifying the value of hundreds of millions of dollars they have invested in California power plants. Bailey favors temporary price caps until the market regains its balance, as well as new tweaking of the power market to stir up competition.

Los Angeles DWP General Manager S. David Freeman, who has led calls for temporary imposition of cost-based rates, said California’s failed deregulation experiment raises the possibility that electricity is intrinsically an “un-deregulatable” service.

“Three years ago, I thought it would work. Then we had a train wreck,” he said. “I’m not committing heresy when I say that I think it may not work out.”