Remedial Plan on Electricity for Gov. Davis

If irony were electricity, the state wouldn’t have a shortage. Witness that Southern California Edison is demanding a 10% rate hike after promising us a 10% rate decrease; that the legislative architect of the state’s deregulation fiasco wants to take $2 billion of the state’s budget surplus to correct his mistake; and that Gov. Gray Davis is now promising to deliver us all from the deregulation dragon after ignoring the problem for his term so far.

At the root of this problem is one astonishing fact: During this energy crisis, Californians have used roughly the same amount of electricity. But in a deregulated wholesale electricity-generation market rife with speculation and gaming, this power has cost the utilities $5 billion more. In the fully deregulated San Diego retail market, Sempra Energy was able to pass these higher costs on to its retail customers--read victims. However, the state’s other big utilities--Edison and PG&E--are; still subject to a rate cap. As a result, the latter two utilities have paid substantially more for wholesale power than they have been allowed to charge retail customers. The result: the accumulation of a huge liability that the utilities want paid off with an equally huge rate hike.

Now here’s where it gets worse. California’s independent electricity generators have figured out how to legally circumvent the state’s current rate freeze. These merchant-generators simply send their power across state lines and then resell it back into the wholesale market, which allows them to bypass state price controls. The Federal Energy Regulatory Commission has the power to stop this “megawatt laundering” but has adamantly refused. Nor will the commission order generators to pay back the hundreds of millions of dollars they legally stole from Californians during last summer’s shortages.

How Davis deals with this complex situation will not only define him as a governor. It also will determine whether he is reelected in 2002. In the cynical scenario being pushed by some advisors, Davis continues to cap electricity rates over the next two years, the utilities accumulate a huge debt in a special account and then, once Davis is safely reelected, he allows rates to rise to pay off the utilities. As Davis is doing this, he makes all the appropriate populist noises about protecting consumers from the big bad utilities and the bigger and badder federal regulatory commission.

The problem with this scenario? It simply won’t work. You just can’t run for president (as many believe Davis aspires to do) as the guy who stiffed an entire state, and it may not even pass the sniff test during Davis’ reelection campaign in 2002.

So what’s a governor to do? He starts by creating a “California Power Authority” to purchase all the transmission lines of the state’s private utilities. This bold action kills three political birds with one mighty stone. If the state’s transmission lines are all privately owned, the regulatory commission will no longer have jurisdiction over the lines. That means that Californians will be able to set wholesale rates--not the federal regulatory commission. At the same time, buying the transmission lines provides a mechanism to reimburse the utilities for the losses they have incurred without sticking ratepayers with a hefty rate hike.

How does this work? Simply set the purchase price at a level high enough to compensate the utilities not only for the poles and wires but also to cover the utilities’ debt. While this action solves Davis’ short-run political problem, he will have to do much more to ensure a stable electricity market. First, Davis’ state government must aggressively jump into the electricity generation business as a means of both helping to meet the state’s energy needs as well as putting downward pressure on prices.

Second, the newly created California Power Authority must take over the state’s Power Exchange (which controls the state’s power grid) and Independent System Operator (a marketplace for buying and selling electricity), both of which are poorly run.

Third, increased energy efficiency and better demand-side management represent the most effective immediate means of addressing the current electricity crisis. Incentives must be put back into the deregulated marketplace to reward these activities.

Finally, California must provide a healthy entrepreneurial climate for the development and deployment of small “distributed generation” technologies such as fuel cells. This will allow both businesses and homeowners to meet their future electricity needs without fear of rate-gouging or blackouts. It also will create a key export industry for California and a vital job creation center.