Only Time Will Tell if Energy Pacts Are Good for Ratepayers
California’s energy future hangs largely on 40 newly negotiated electricity agreements that Gov. Gray Davis thinks are a reasonably priced “bedrock for a long-term energy solution” but that consumer advocates and other critics see as another disaster in the making.
Are these accords, the details of which are still mainly secret, a good deal for Californians?
The answer depends partly on the tricky business of forecasting the prices of electricity and of the natural gas used to produce so much of it--and therefore will not be known for years. Finding the answer is further complicated by the arcane art of building a portfolio of contracts to serve both immediate and far-off needs.
“If I could predict prices 10 years from now, I’d be doing it from a yacht,” quipped one energy trader, who swapped anonymity for candor.
The prudence of these contracts is being debated vigorously.
Cambridge Energy Research Associates is projecting that California electricity prices will fall to the range of $30 to $40 a megawatt-hour in five years--about half the average price of the new agreements--as supply grows with the start-up of new power plants, said Michael Zenker, a director of the Massachusetts consulting firm.
“Our recommendation, if the state had asked us, would have been to sign three- to five-year contracts,” said Zenker, who is based in Oakland. With these new deals, which are mostly for 10 years, “the state is just mortgaging out today’s high prices, rather than paying them now.”
On the other hand, said Mark Bernstein, a senior policy analyst at Rand Corp. in Santa Monica, electricity generators and marketers “had everyone over a barrel” and shorter-term deals would have been at far higher prices.
“That’s what people were offering up, and you can say we shouldn’t take it, but I don’t think they had any choice,” he said.
These long-term contracts are intended to address a central element of California’s electricity crisis: The state’s utilities were forced to buy nearly all the power for their customers on the volatile spot market, where prices skyrocketed beginning in May. Southern California Edison and Pacific Gas & Electric couldn’t pass the full costs on to customers because of a freeze on rates paid by consumers.
As the companies neared bankruptcy in January, electricity suppliers refused to sell to them and the state Department of Water Resources became an electricity shopper for 25 million Californians, buying about one-third of the electricity used by the customers of Edison, PG&E; and the third investor-owned utility, San Diego Gas & Electric Co.
But, much as with financing a car or a house, the longer the deal, the more it ends up costing.
Davis said Monday that the state may be paying slightly more than prevailing market prices in later years to pay less now and lock in a stable flow of electricity. He said the agreements by themselves won’t result in further rate hikes, beyond the 20% that customers of Edison and PG&E; already face.
The $43 billion in agreements with more than 20 electricity suppliers range from a few months to 10 years, with one for 20 years, at an average price of $69 a megawatt-hour. (One megawatt-hour is the amount of electricity consumed by 1,000 average homes in an hour.)
The average prices are much lower than recent spot market prices of $300 or more but well above the $55 per megawatt-hour that Davis set as the state’s initial goal.
Nonetheless, he said in announcing the contracts, the average price for the first five years--$79 per megawatt hour--is 75% below recent spot market prices, and the average price for the second five years--$61 per megawatt hour--is 80% below recent spot market prices. Last summer some electricity generators were offering long-term contracts at $50 or $55 a megawatt-hour but found no takers.
(Another set of key electricity contracts is still in limbo. Legislation has stalled that would lower prices paid to alternative energy producers, which supply about 25% of the power delivered by the three big utilities.)
Davis’ chief contract negotiator, S. David Freeman, said the mix of deals leaves room for spot purchases and new deals in later years. The 6,000 megawatts locked in by these agreements for this summer constitute about one-third of what the state needs to buy, rising to more than 9,000 megawatts in 2004, about half of the needed amount, said Freeman, general manager of the Los Angeles Department of Water and Power.
“I think there’s at least a 50% chance these contracts are going to look pretty good in 2005 and 2010,” he said.
Such a strategy is “rational” and part of building the sort of hierarchy of short-term and long-term contracts with different levels of risk that California must have, said energy economist Philip K. Verleger Jr.
“You generally don’t want to bet the store, which means you want to have a diversified portfolio, just as an individual builds a diversified portfolio for retirement,” he said.
The crystal-ball element arises in determining where the price of electricity and natural gas will be in three or five or 10 years. But clearly, a crisis is not the best time to negotiate.
Gary Ackerman, executive director of the Western Power Trading Forum, a group of energy generators and marketers, said it is safe to assume that the energy companies that agreed to long-term deals with California ensured that the price at the end of the contract would exceed the projected cost of producing power.
State negotiators are “doing as well as anybody could possibly do in the same situation. The situation is terrible; the timing is wrong,” Ackerman said. “That’s not a very happy story for taxpayers, but that’s how it is.”
But compared with other parties that are buying electricity for the long term, the state is doing well, he said. The price in the current market for 10-year electricity deals is about $73 per megawatt-hour, $4 more than the average price of the deals announced Monday.
“I don’t think we should have a case of sour grapes here,” Ackerman said.
Michael Shames, executive director of the Utility Consumers’ Action Network in San Diego, disagreed. Assuming that the price of producing electricity stays the same through the next decade, his organization calculated that the state’s consumers might pay an extra $9 billion for electricity bought through long-term deals at prices within $1 per megawatt-hour of those announced by the governor.
“I’m not sold that this is the best possible price,” Shames said. “It probably is the best possible price the governor can get at this time.”
Shames’ group favors signing shorter-term contracts at higher rates and then allowing large consumers such as industrial companies to shop for their own power--which should be well below today’s inflated prices, the group calculated.
Still, Shames acknowledged that it is almost impossible to gauge whether the state’s contracts are in the public interest.
“We don’t know how good or how bad a deal they are,” he said, “and we may not know until hindsight affords us that perspective.”
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Power Points
Background
The state Legislature approved electricity deregulation with a unanimous vote in 1996. The move was expected to lower power bills in California by opening up the energy market to competition. Relatively few companies, however, entered that market to sell electricity, giving each that did considerable influence over the price. Meanwhile, demand has increased in recent years while no major power plants have been built. These factors combined last year to push up the wholesale cost of electricity. But the state’s biggest utilities--Pacific Gas & Electric and Southern California Edison--are barred from increasing consumer rates. So the utilities have accumulated billions of dollars in debt and, despite help from the state, have struggled to buy enough electricity.
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Daily Developments
* The PUC said the state Department of Water Resources may recover its costs of buying power, even if that means higher rates for consumers.
* Utilities’ estimates of how much they can send on to the Department of Water Resources after covering their own costs show the state agency might be left 50% short.
* Experts continue to debate whether 40 new agreements between the state and power suppliers are a good deal for Californians or a disaster in the making.
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Verbatim
“It’s implicit that there’s probably going to have to be a rate increase, but how it’s all going to be done is kind of up in the air at this point.”
--Chris Danforth, a Public Utilities Commission supervisor
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Complete package and updates at www.latimes.com/power
