San Francisco Chronicle - 29 Dec 00

Prof. Robert B. Laughlin
Department of Physics
Stanford University, Stanford, CA 94305
(Copied 29 Apr 09)

Summer Ushered in a Power Crisis That Promises Only to Get Worse

David Lazarus
Friday, December 29, 2000

The lights stayed on in 2000, but just barely.

This was the year Californians stopped taking energy for granted. The state's failed attempt to deregulate the electricity market resulted in a surge in wholesale power prices, a tripling of some consumers' bills and financial devastation for the two biggest utilities.

Getting out of this mess will not be easy. The California Public Utilities Commission is expected to vote Thursday to lift a rate freeze for Pacific Gas and Electric Co. and Southern California Edison to help the two cope with a combined $8 billion in debt.

PG&E asked for a 26 percent rate increase this week. Edison is seeking a 30 percent rate hike.

But until the supply of electricity can meet the state's rapidly growing demand -- something that will not happen for years -- it seems clear that California's energy crisis will get worse before it gets better.

"Every possible thing that could go wrong has happened," said Michael Worms, an energy-industry analyst with Gerard Klauer Mattison in New York. "It's actually pretty amazing."

Ratepayers in San Diego could probably come up with a few other choice words. They were the first to feel the pinch this past summer, when their city led the way in experiencing the full impact of a deregulated electricity market.

In some cases, customers' power bills climbed more than 200 percent from the previous month.

"This is the ghost of summers future," Michael Shames, executive director of the Utility Consumers' Action Network, predicted at the time. "What you see in San Diego portends what's going to happen in the rest of the state."

PG&E officials also saw trouble on the horizon. "If present trends continue," said Dan Richard, the utility's senior vice president of government and regulatory relations, "the train wreck is headed our way."

It took a little while for the train to reach Northern California. As San Diego grappled with runaway electricity costs, Gov. Gray Davis called on state regulators to "take all actions necessary to assure that electricity supplies are adequate and that prices paid by California consumers are just and reasonable."

The PUC, in turn, concluded that energy deregulation in California was not working and that "enough evidence of questionable behavior" existed to warrant an investigation by the attorney general.

At that point in the game, all eyes were on the wholesale power market, where suspicions grew that power companies were gaming the market by manipulating rates during periods of peak demand.

Subsequent investigations by the attorney general and state and federal officials turned up no evidence of illegal activity, but authorities were quick to note that generators could still be driving prices higher without necessarily breaking the law.

No Laws Being Broken

As long as the companies were not conspiring to push power rates through the roof, officials conceded, their individual actions to exploit California's electricity shortage still fell within the rules of the deregulated marketplace.

As some San Diego ratepayers began withholding payments to their local utility to protest soaring bills, the Legislature in August approved a plan to roll back energy costs to pre-deregulation levels.

This bought a little time for policymakers to find remedies for the crisis. But not much.

In early September, the deregulation wildfire finally spread to Northern California when The Chronicle reported that PG&E intended to hit its customers with billions of dollars in extra charges to cover soaring wholesale costs.

PG&E officials revealed for the first time that the utility had at that point run up about $2 billion in expenses while awaiting an end to the current rate freeze. It hoped to pass along the entire amount to customers in the form of a surcharge on future power bills.

"Ultimately, we believe customers should bear the cost of our buying their electricity," said Greg Pruett, a PG&E spokesman. The utility has on the whole stuck to that position ever since.

State officials were unsure what to make of the situation. While consumer groups argued that the state's utilities were bound by law to absorb all costs incurred while the rate freeze was in place, PG&E and Edison countered that they should not be punished just because power generators were pushing wholesale costs to record highs.

At this point, California's energy crisis split into two separate but related issues.

On the one hand, chronic power shortages threatened to derail the state's red-hot economic expansion.

On the other, the leading utilities were warning of possible bankruptcy if they were left holding the bag for billions in extra expenses.

Wall Street, meanwhile, started taking notice.

"No one wants to hold stock in a company that is subsidizing its customers," said Paul Patterson, an analyst at Credit Suisse First Boston in New York. "If PG&E has to swallow this loss, investors will run in droves."

PG&E responded last month with a proposed five-year rate stabilization plan that would allow it to pass along to customers what was by then $3.4 billion in debt.

As state regulators began to consider the political feasibility of a bailout of California's cash-strapped utilities, consumers faced the virtually unprecedented prospect of the summer power shortage's continuing into the winter.

In past years, California would receive extra juice from Oregon and Washington to get through peak summertime demand. In return, California would ship its excess power north in the winter to help out there.

This year, however, California had nothing left to spare, for its electricity users sucked dry all available supply. Because generators in the Pacific Northwest were facing shortages of their own, they had little extra to ease California's troubles.

Energy Alerts Become Routine

The Independent System Operator, a nonprofit agency that oversees California's power network, was forced to declare almost daily energy emergencies as the electricity supply fell to dangerously low levels.

Finally, earlier this month, the agency called its first-ever statewide Stage 3 alert -- the highest level of emergency -- when power reserves dropped to almost nothing.

Only a last-minute scramble to secure additional electricity prevented Californians from experiencing rolling blackouts to reduce pressure on the grid. A Stage 3 emergency empowers utilities to cut off electricity to entire neighborhoods for about an hour at a time.

"Operators here in the control room were saying this was the worst they'd seen in 30 years in the utilities business," said Stephanie McCorkle, a spokeswoman for the agency.

A series of Stage 1 and Stage 2 alerts followed, but, so far, the state has avoided another Stage 3 meltdown of the energy system.

This allowed officials to turn their attention to the looming financial catastrophe at PG&E and Edison. Both warned in mid-December that they were in danger of running out of money to purchase electricity for customers.

By then PG&E placed its power-related debt at almost $5 billion and said it was losing an additional $1 million an hour.

"The credit situation is getting much tighter," said PG&E's Pruett. "There will come a time when we won't be able to buy power for people. This is going to happen more sooner than later."

Federal regulators attempted to remedy things by unveiling measures to make it easier for utilities to lock in long-term contracts with generators.

But state officials and consumer groups harshly criticized the moves as being well short of the rate caps they said were necessary to stabilize electricity prices.

"They have chosen to ensure unconscionable profits for the pirate generators and power brokers who are gouging California consumers and businesses," the governor said.

Bills Rise $10 Billion

In fact, industry insiders estimated that Californians had paid about $10 billion in extra electricity charges since prices spiked in the summer.

"This is one of the highest transfers of wealth from people in this state to those outside the state in history," said Mindy Spatt, a spokeswoman for The Utility Reform Network in San Francisco.

Hoping to get control of the situation, the governor last week brokered a series of top-secret talks with PG&E and Edison officials in an attempt to compromise on the size of a prospective rate increase to restore the utilities to financial well-being.

Those talks fell apart, however, as the utilities dug in their heels for a rate hike of at least 20 percent, while the governor was advocating 10 percent.

Nevertheless, the PUC decided to press ahead this week with public hearings on a rate hike and all but guaranteed that consumers' power bills would go up next month.

"Bankruptcy isn't good for anybody," said Commissioner Henry Duque. "We're going to do all we can to make sure this does not happen."

Although consumer groups have insisted that they will not sign off on any plan to unconditionally bail out the utilities with ratepayers' money, the PUC has already declared that electricity rates "must begin to rise."

The governor, for his part, spent much of this last week of the year lobbying for additional federal help in Washington.

Next year, clearly, will be no easier.