Published on Saturday, December 9, 2000 in the Los Angeles Times
How California's Consumers Lost With Electricity Deregulation
by Nancy Vogel
 
SACRAMENTO - It has become one of the most expensive public policy miscalculations in California history:

A 1996 state deregulation plan that was supposed to make electricity cheaper instead shifted billions of dollars from utilities and consumers to energy companies and electricity brokers.

California businesses and residents paid $10.9 billion more for electricity last summer than the year before, with much of the money flowing to out-of-state energy firms. One of them, Houston-based Reliant Energy, saw its wholesale energy profits jump 600% during that time, with about $100 million coming from California.

The dramatic increases are the result of critical misjudgments by the California Public Utilities Commission and the state Legislature, the two main architects of the plan to open the market.

Most serious were:

* A gross underestimation of demand as the state's economy came to life after years of recession and California's burgeoning computer-based businesses ate up electricity at rates unheard of in the old economy.

* A failure to anticipate that energy companies could easily exploit a mechanism designed to ensure the even flow of electricity. By holding back electricity and selling when the system was desperate, they could earn double the going rate.

* A faulty assumption that deregulation would prompt more competition right away: Hundreds of companies were expected to serve homeowners, but they didn't materialize. At times, a few power plant owners can effectively control the price of electricity.

In their attempt to foster competition, the designers of deregulation traded a monopoly in which government set rates for a new marketplace in which prices can fluctuate.

The first place to suffer the consequences was San Diego, where prices doubled and tripled. By July, the monthly electric bill for William Scerni's coin laundry in a poor neighborhood in Oceanside jumped from $1,100 to $2,600. He raised the cost of a wash on his 30 most popular washing machines by 25 cents--which generated only $800 more a month.

This week, the panic spread. Officials begged customers to keep holiday lights off and warned of blackouts in a season when power demands are relatively low. To avoid blackouts, they bought power at astronomical prices that will be passed on to debt-burdened utilities.

A few cities--including Los Angeles, Glendale, Burbank, Riverside, Anaheim and Sacramento--are unaffected, because they own their power systems and are exempt from deregulation. But rate shock looms for 24 million Californians served by the state's two largest utilities, Southern California Edison and Pacific Gas & Electric Co.

For the moment, those consumers are protected by a rate freeze. But the utilities, which serve 5.6 million people in Los Angeles County and millions more in surrounding areas, have paid $6 billion more for electricity than they can legally charge customers, and assert that they will be crippled unless regulators allow them to recover those costs.

"California was hailed as the model for the rest of the nation," said consumer advocate Harry Snyder. "And it has been a model--on how not to do it."

The stakes are far-reaching: the political ambitions of California's governor, the economic future of new industries and old, and the future of national energy policy.

Price spikes in California last summer drove electricity costs across the West high enough to trigger the shutdown of mines, aluminum factories and sawmills.

Nevada's governor, alarmed by California's experience, recently suspended his state's launch of deregulation. Arkansas is moving to delay deregulation by at least two years. Twenty-five states moving toward deregulation could be affected by the outcome in California.

Some fear deregulation was a solution for an old economy that has been eclipsed. California is now at ground zero of the Internet boom, dotted with the quiet, cold, computer-filled warehouses that suck up as much electricity as small cities.

"We put in place an answer to the problems of the steel mills and cement plants at a time when Cisco and Qualcomm were becoming the growth sectors of the California economy," said Carl W. Wood, a PUC member. ". . . . People have been fighting the last war, not the coming war."

Free-market proponents acknowledge massive problems but insist that California's new electricity market can work--with some tinkering, the rapid construction of power plants and more time.

"I think we have a problem that is amenable to solutions," said Severin Borenstein, director of the University of California Energy Institute in Berkeley, "if the politicians are willing to go for solutions that will cause some pain, because there is going to be some [consumer] pain."

How to split a monstrous bill between consumers and utilities, how to bring down prices, how to rapidly boost the state's supply of electricity and whether to reimpose regulation--these issues have become the biggest challenge for Gov. Gray Davis in his 2-year-old administration.

Last month's average prices for electricity in California were more than three times higher than in November 1999. At times, almost one third of the power is being bought at exorbitant rates by an agency that was expected to handle only 5% of the energy consumed.

Six investigations by state and federal agencies are underway, seeking evidence of collusion or other illegal behavior. Multimillion-dollar lobbying efforts in Sacramento are intensifying. Edison and PG&E are sinking millions of dollars deeper into debt each day.

And experts say next summer could easily bring blackouts and more billion-dollar price run-ups.

A Times review of hundreds of documents and interviews with dozens of people tell the story of the state's miscalculations.

The Roots

In 1994, California was just emerging from a deep, stubborn recession and its average electricity prices were topped only in Alaska, Hawaii, New York, New Jersey and New England.

In the previous three years, California had lost nearly 750,000 jobs. Major industries warned that the high price of electricity would drive them out of the state.

There were two forces driving electricity costs here: nuclear power and green power.

California's two nuclear power plants, which provide about 20% of the state's electricity, suffered massive cost overruns that were largely passed on to consumers. PG&E's Diablo Canyon plant in San Luis Obispo County was estimated in 1965 to cost $400 million, but ended up costing $5.8 billion. The San Onofre plant in San Diego County, jointly owned by Edison and SDG&E, was budgeted at $1.3 billion but cost $4.3 billion.

The 1970s energy crisis also contributed. In 1978, frightened by the nation's dependence on Middle Eastern oil, Congress forced utilities to buy electricity from companies willing to produce it with solar panels, windmills, farm waste or factory steam.

California regulators, miscalculating how high oil and natural gas prices would go, priced that alternative electricity so high that the state became a mecca for the green energy industry. By 1994, California was home to 80% of the nation's wind and solar energy sources, and utilities were locked into long-term contracts.

For example, Southern California Edison estimates that since 1985 it has paid $25 billion more for electricity under alternative energy contracts than it would have spent to produce the energy by traditional means--and has passed those costs on to its customers.

"We said, 'Something's wrong with this picture,' " recalled Earl Bouse, whose Hanson Permanente Cement plan in Cupertino, Calif., was paying rates three times what they would have been in Idaho.

What Bouse and other big manufacturers began lobbying for was the ability to buy their electricity from companies other than SDG&E, PG&E or Southern California Edison, the three big private utilities regulated out of San Francisco by the state Public Utilities Commission.

For nearly 100 years, regulators had set rates and guaranteed an investment return for the utilities' stockholders. Delivering electricity is a natural monopoly; it makes little sense for companies to string up thousands of miles of duplicate power lines to win customers. In exchange for that monopoly, the utilities agreed to government regulation so they couldn't make exorbitant profits.

Critics said that gave utilities little incentive to trim costs, since most could be passed on to customers. "Everything the utilities touched became much more expensive," said D.J. Smith, a Sacramento lobbyist for the California Large Energy Consumers Assn.

Former Republican Gov. Pete Wilson believed that the state's utilities had become bloated under regulation.

"It was not ideology that persuaded us to go to deregulation," said George Dunn, Wilson's deputy chief of staff at the time, now a lobbyist. "It was an assessment of what was going on."

After declaring the system "fragmented, outdated, arcane and unjustifiably complex," the PUC voted in December 1995 to open the state's electricity industry to competition.

The commission's order resembled an agreement that Dunn had brokered three months earlier, largely behind closed doors, with Southern California Edison, its biggest industrial customers and an association of independent power producers. All parties pledged to support legislation that would create an independent power market.

The parties also agreed that the utilities could pass on an estimated $28 billion they spent investing in nuclear and alternative energy.

Consumer activists argued that many of those investments were the result of bad decisions by the utilities and should be absorbed by shareholders. But consumers were largely shut out of the negotiations.

The deal "was tantamount to the tablets being brought down the mountain by [Edison chief] John Bryson," said Michael Shames, executive director of the Utility Consumers' Action Network. "The governor [Wilson] . . . wanted to be elected president . . . wanted to make a big splash that would get him attention and also help him raise money."

The Peace Plan

The lobbying dollars told the story of just how high the stakes were during the historic 1996 deregulation debate in Sacramento: The three utilities spent $4.3 million on lobbyists and pumped more than $1 million into political campaigns.

The PUC decision alone could have dictated deregulation. But utilities wanted more certainty for California's $23-billion-a-year electricity industry than a regulatory order that could be changed by a new governor.

So in the summer of 1996, the Legislature intervened.

Steve Peace (D-El Cajon) chaired the Senate energy committee. He won the job of guiding the deregulation legislation. Then 43, with 13 years in the Legislature, Peace had a reputation as a brainy, caustic lawmaker willing to take on the most complex issues.

He orchestrated endless meetings, sometimes five at once, and kept people at the table late into the night. In the final weeks of the session, Peace sometimes ordered lobbyists out of the room, telling them to return in 15 minutes with their issues resolved.

"The Steve Peace death march," said Bill Leonard, a former Republican state senator, now an assemblyman from San Bernardino. "It was group dynamics at its best and worst."

Utilities enjoyed easy access and insider status. David Takashima, for example, was Peace's chief of staff when the legislator was an assemblyman in the 1980s. Takashima left to work as a Sacramento lobbyist for Edison, then returned to Peace's Senate staff in time to help write the deregulation bill in July 1996. Now Takashima works for PG&E as director of governmental affairs.

Consumer advocates say they could not match the political firepower or research capability of big business or the utilities. Each group set out to protect its interests. Environmentalists won preservation of a half-billion-dollar annual subsidy for renewable energy. Labor won money to retrain utility workers.

Several consumer groups grudgingly concluded that the legislation was an improvement over the PUC plan, and agreed not to oppose it.

"It was not my finest hour," said Lenny Goldberg, a lobbyist for the Utility Reform Network. "In retrospect, we should have opposed it flat out."

Not one lawmaker voted against the bill--even though many had only a dim sense of how they were launching what Peace has called "the most complex transition of an industry done anywhere in the world."

On Sept. 23, 1996, Wilson signed the bill.

"We've pulled the plug on another outdated monopoly," he said that day, "and replaced it with the promise of a new era of competition."

Although he was not the bill's final author, Peace became the face and voice of deregulation.

"This bill would not have passed out of both houses with no negative votes had it not been for the determination and tenacity of Steve Peace," bill author Jim Brulte (R-Rancho Cucamonga) said at the time. Then an assemblyman, Brulte currently is state Senate minority leader.

Today, Peace is ridiculed for his hubris. Critics gloat that there is poetic justice in his own San Diego constituents being among those most hurt by last summer's price spikes.

Peace blamed the summer price surges on the state's shortage of electricity, greedy power producers and federal regulators who declined to referee the new market.

Peace is not apologetic. The PUC decision unaltered, he said, would have been much worse for the state. Peace vigorously defends the legislative process he guided as fair, honest and open. The deregulation bill was "a good work product," Peace said recently. "It's not what caused the problems."

There was another reason, besides Peace's persuasive powers, that the bill passed unanimously: It included a 10% rate reduction and a rate freeze.

To make the change politically palatable to consumers, the lawmakers rolled back electricity rates by 10% for the 27 million people served by the three big utilities, and froze rates until March 31, 2002, or until the utilities paid off all of their past investments, whichever came first.

Consumer groups called the move a political "fig leaf." In fact, the utilities were allowed to float $7 billion in bonds to pay for the 10% rate rollback. Because customers are paying off those bonds today, over 10 years, the promised 10% cut amounts to more like 3%.

The Carlsbad Plant

The power plant in Carlsbad is an ugly landmark. Wrapped in cyclone fencing, the 46-year-old gas-fired industrial misfit looms over one of northern San Diego County's most popular beaches.

But it can generate enough electricity to supply nearly 1 million homes, and SDG&E tended it carefully for decades. Then, in March 1998, the utility auctioned the plant.

Packaged with 18 small combustion turbines scattered around San Diego County, it sold for $365 million--nearly four times the book value. That should have been an early warning.

Selling off the utilities' gas- and oil-fired power plants was key to deregulation. The idea was to make sure there were so many new power plant owners that none could single-handedly influence the price of electricity in California's new marketplace.

But the statewide auctioning of power plants backfired. Private energy companies from all over the country engaged in bidding wars and paid higher-than-expected prices--a sign of how profitable new players figured the California market might be.

A partnership of Houston-based Dynegy and Minneapolis-based NRG Energy bought the Carlsbad package. Seven other energy companies, all but one based out of state, purchased the utilities' mainstays, including plants at Morro Bay, Long Beach, El Segundo and Huntington Beach.

The buyers spent more than $3 billion to take title to power plants critical to California's trillion-dollar economy.

No other state, in attempting to deregulate, did what California did: triggered a sweeping divestiture without making certain that the new owners would have to sell their electricity at a fixed price for a number of years, said Borenstein, the Berkeley economist.

"To sell the power plants was stupid," said Assemblyman Roderick Wright (D-Los Angeles), chairman of the lower house's utilities and commerce committee. "To sell the power plants without contracting for the electricity borders on criminal."

Having sold its electricity assets, California now has to rent, Wright said: "And the price of rent is going to be whatever the new guy paid for your power plant plus the price of electricity."

In San Diego, the auction set the stage for what politicians would come to call an economic disaster.

SDG&E's earnings from the Carlsbad sale were so much higher than expected that its $2 billion in debt was quickly wiped out. That triggered the end of the rate freeze the Legislature had imposed to protect consumers through a four-year transition to deregulation.

More than 3 million San Diego and southern Orange County residents became unwitting guinea pigs. On July 1, 1999, they began for the first time to pay electricity prices determined by a market, not a regulator.

For a while, nobody noticed. The average homeowner's monthly bill had been $50.60 under the freeze; it averaged $53.60 for the first 10 months San Diegans paid market prices.

Then the first heat wave of the new millennium hit, in May. Californians cranked up air-conditioners. Demand for electricity rose. Prices climbed.

A kilowatt-hour is about enough electricity to operate a computer and monitor for seven hours. On April 29, it cost 2.7 cents to buy that much electricity at a time of peak demand. Two weeks later, it cost 3.5 cents, and two weeks after that it was 5.7 cents. By June 15, it cost 46 cents; two weeks later, even on a day with less demand, it cost 52 cents.

None of this mattered much to the 24 million Californians served by PG&E and Edison and still shielded by the rate freeze. But in San Diego, those prices tugged hard on wallets and checking accounts.

By the end of August, when the Legislature intervened and imposed price caps, monthly bills had reached an average of $120 for a homeowner. Some bills began to match monthly rent. Cafes dimmed lights and shut off air-conditioning in the middle of the afternoon.

In Oceanside, William Scerni couldn't raise prices at his coin laundry enough to cover his increased costs.

"We're just vending utilities," said Scerni, 64. "We're vending hot water, heat for dryers and electricity to run washers and dryers."

The Power Markets

At dawn on March 31, 1998, the largest, most accessible electricity market in the world was born on the fifth floor of an office building in Alhambra: the California Power Exchange. This is where the price of electricity for Scerni's washers and dryers was set--a digital auction with banks of computers.

Companies that want to buy electricity submit, via computer, the amount of electricity they will need the next day and the price they are willing to pay. Those with electricity to sell offer a quantity and a proposed price.

Once an hour, the Power Exchange computers set the price at the point where the demand and supply bids meet. Employees later collect checks from buyers and pay sellers.

Through 1998 and 1999, everything seemed to be working. The price that utilities paid for electricity in the Power Exchange tended to be lower--sometimes much lower--than the price they could charge consumers.

By late spring 2000, the gap amounted to $6 billion for PG&E and $5 billion for Edison, according to consumer groups. The companies now raced to pay off past investments in nuclear and alternative energy before the freeze expired.

When electricity prices shot up in the summer, most experts patiently explained: It's supply and demand.

No new major power plants have been built in California in the last 10 years, mostly because no utility or private energy firm wanted to make such a massive investment without knowing how deregulation would unfold.

But just as California launched deregulation, the state's economy rebounded. Job growth shot up at least 3% each year. Peak demand for power began increasing annually by roughly the output of two major power plants.

California imports 20% of its electricity. Just when the state needed it most, fast-growing cities such as Phoenix and Las Vegas began sucking up the West's surplus electricity. And late runoff on the mighty rivers of the Pacific Northwest meant that turbines there could not deliver electricity in the quantities California needed to run air-conditioners on the hottest days last summer.

In one of their major miscalculations, the architects of deregulation never anticipated this shortfall.

In fact, records from the debate in Peace's legislative committee hearings show the opposite: concern that a glut of electricity would keep anybody from making money in the new market. Few people forecast such a long economic expansion.

"We started out with 30% excess capacity," said P. Gregory Conlon, a former PUC commissioner. "We thought we had enough time to get this up and running."

As last summer wore on, prices stayed high even through cooler weather, on weekends and at night--periods when prices usually drop with demand. Something was up.

They call it "market power": the ability of a supplier to increase prices for a sustained period of time. Electricity sellers can do that by, for example, withholding some of the power they have to sell so there's less electricity in the market and buyers become willing to pay more to get what they need.

Frank A. Wolak, a Stanford University economist who studies the California electricity market, estimates that average prices last summer were 37% to 182% higher than would be expected in a perfect competitive market.

"Why are prices on a Sunday in 1999 seven times lower than prices on a Sunday in 2000?" asked Bob Foster, an Edison senior vice president. "Same load [demand], no plants are out or anything like that. What would do that? . . . As demand started going up, the marketers figured out a way that they could exercise market power."

The people who make electricity have another answer. They say it costs more to produce this year than last. The price of natural gas, the main fuel burned to generate electricity, had tripled in the first 11 months of this year, and now is at least 16 times as expensive as it was last year in California.

Smog rules can add 5 cents or more to the price of producing a kilowatt-hour, and some plants have been run so hard for so long that they must be shut down to avoid violating those rules. But most importantly, power producers say, supply is tight.

"The market price reflects the new market reality," said Gary Ackerman, who represents electricity traders, a relatively new profession in California, as the director of the Western Power Trading Forum. "The world has changed. The market reflects that."

Market Marauders

Anyone can tap into the Internet and learn hourly prices in California's electricity market. But not until six months later is it possible to tell the names of bidders, the quantities they bid and the names of buyers.

That was intended to foster competition, but it can also hide manipulation.

Authorities say there is no doubt that companies can keep prices high to make more money.

"We've had hours of true scarcity, where supply just simply isn't enough to meet demand," said Eric Hildebrandt, who monitors the electricity market for the agency that oversees transmission. "For every hour of that, there's many more hours sandwiched around that of tremendous market power.

"Rising gas prices, higher loads, supply disruptions--all those create an increase in the underlying cost," he said, "but they also create the potential for market power."

The Federal Energy Regulatory Commission, national overseer of wholesale electricity, gave California the authority to sell electricity at market-based rates only as long as its market proved itself "workably competitive." Market power means, in effect, that one supplier on its own can influence the price, in a way akin to a monopoly.

On Nov. 1, FERC commissioners called the California market "seriously flawed" and said they found clear evidence of market power.

But in a draft order, FERC pinned no blame on specific electricity producers. And it declined to order rebates on last summer's electricity bills. A final decision from the commission is expected Wednesday.

How much profit each of the players is making is not public record. Still, for all of the new power plant owners in California's electricity market, net income rose at least 75% between the summer of 1999 and that of 2000, according to company earnings statements.

Reliant Energy, for example, posted a 600% increase in the third-quarter earnings of its wholesale energy division. California accounted for about $100 million of the $276-million increase, said Richard Wheatley, spokesman for the Houston company.

"A blind pig could make money in this market," said S. David Freeman, general manager of the Los Angeles Department of Water and Power, one of the publicly owned agencies that is selling electricity in California and profiting by it.

In the last 18 months, the DWP has earned more than $200 million selling electricity, Freeman said.

The Power Play

The twin phenomena of record profits and power shortages collide in a powerful agency known by the unassuming acronym of Cal-ISO.

Electricity cannot be stored like wheat or cotton. The stream of electrons pumped into transmission wires must constantly match the rate of consumption off that grid by air-conditioners, computers, Christmas lights. A surge of electricity with nowhere to go or a sudden, heavy draw on the grid can destabilize hundreds of miles of transmission lines, causing blackouts to millions of people. On Thursday, California narrowly averted such a scenario.

To guarantee reliability, the architects of deregulation created a nonprofit institution, the California Independent System Operator, that they believed would play a supporting role in fine-tuning the system. Cal-ISO workers monitor the ebb and flow of electrons on the part of the grid that serves 75% of the state. (Federal, state and municipal agencies--including the city of Los Angeles--control the other 25%.)

To avoid blackouts, Cal-ISO workers may make sudden purchases of electricity at whatever price necessary. "We keep the lights on," they like to say.

But for sellers, Cal-ISO became a way to bypass the competitive price set by the electronic auctioning on the Power Exchange. And the more power that producers reserved to sell through Cal-ISO, the less was available through the regular market.

In June, during peak demand, California's market meant producers could earn $1.50 on a kilowatt-hour of electricity that cost no more than 15 cents to generate. Here's how: They got paid 75 cents to be on standby when a crisis loomed and the grid guardians at Cal-ISO needed the power most. Then the power plant owners or marketers earned another 75 cents by actually selling the electricity at the going rate.

"They know to go where the money is," said Gary Stern, chief of market monitoring for Southern California Edison.

The designers of Cal-ISO figured that at most it would handle 5% of the electricity consumed in California. But at times this year, the volume was 30%, according to Cal-ISO.

On certain hot days, Cal-ISO workers, finding the grid strained and with only hours to spare before a blackout, would desperately call places ranging from British Columbia to Arizona seeking enough electricity for 6 million homes.

In the summer of 1999, such purchases cost $1 million. A year later, they totaled more than $100 million.

"When the ISO says we'll do anything to keep the lights on," said Borenstein, the Berkeley economist, "they're inviting people to bid whatever they want."

Ackerman, who represents electricity traders and generators, said sellers are simply bidding to get the best price for their product, "just like General Motors does for its cars and a Kansas farmer does for his wheat. . . . Otherwise we're back to that old-time religion--regulation."

Utility executives say that their problem is too much regulation even now, and that they've got the worst of both worlds.

They say they could have saved billions of dollars last summer if they had been able to sign long-term deals to buy electricity directly from suppliers rather than buying at the market rate each day through the Power Exchange, which has proved volatile and expensive.

The PUC forced the utilities into the marketplace in part to guarantee the Power Exchange enough business. Commissioners also feared that, given the chance, utilities would lock up all the cheap electricity and stifle competition.

In New England, Australia and the linked New Jersey-Pennsylvania-Maryland markets, at least 80% of the electricity bought and sold is arranged for in advance. Here, less than half of trades are "hedged" that way.

Federal energy authorities intend to change that and allow utilities to buy electricity outside the Power Exchange.

Several producers say they stand ready to sign such deals. The PUC has hesitated to approve them, fearing that contracts signed now, with prices exceptionally high, will hurt consumers in a year or two if prices drop.

But "[even] if you lock in a price that isn't the lowest," said Assemblyman Wright, "you also avoid the highest."

False Choices

One of the great benefits of deregulation, lawmakers boasted in 1996, would be choice. Everybody from supermarket owners to apartment dwellers would be able to pick the company that purchased their electricity and mailed the monthly bill. Giant utilities that once controlled electricity from turbine to toaster would do nothing but maintain wires.

The postcards said so. With $87 million set aside in the deregulation bill for public education, regulators sent postcards to utility customers, telling them choice was on the way.

Other states deregulated in stages, cutting big industrial customers free from utilities before putting homeowners into the marketplace. California opened its doors to everybody from the onset.

The crafters of deregulation figured that entrepreneurs would create hundreds of new companies to lure customers away from utilities by offering cheaper electricity or electricity generated in environmentally friendly ways.

The notion was that these new companies would absorb the risk of volatile electricity prices, giving customers stable rates. And they would keep prices low by competing among themselves.

It didn't work out like that.

There was early enthusiasm. More than 300 companies indicated interest. But they quickly dropped away.

"They couldn't find a source of power cheaper than the Power Exchange," said Michael Peevey, who retired as president of Southern California Edison in 1993 and launched his own energy company, New Energy.

Today fewer than 10 companies offer California homeowners electricity service.

They're bit players. As of the end of September, less than 2% of nearly 9 million California homeowners and renters had switched to a new supplier. Most who did picked Green Mountain Energy, a company that appeals to those willing to pay a premium to foster clean electricity generated by renewable resources. Slightly more than 5% of small businesses have switched, but 13% of energy-intensive industrial customers changed providers.

"Generally the bigger customers have been able to cut deals to get discounts of 2% to 5%," said Bill Booth, regulatory attorney for the California Large Energy Consumers Assn., whose members pushed hard for deregulation.

The Utility Problem

To survive as private businesses, utility executives say, they need a release from the terms of deregulation. If they get what they want, it could cost consumers billions.

By the end of October, the difference between what the state's two biggest utilities had paid for electricity and what they were allowed to pass on to customers had tallied $3.4 billion for PG&E and $2.6 billion for Edison. Executives are warning of "financial meltdown."

So far the utilities have been able to borrow enough money to cover their costs, and bankruptcy looks a long way off, said Lori Woodland, who analyzes the loan worthiness of the utilities for Fitch Inc., a credit-rating agency. But a resolution must come soon, she said.

"There's an enormous amount of money involved here," she said, "and it's flowing out of the door of the utilities at an alarming speed."

PG&E and Edison both have asked the PUC to let them boost rates by at least 10% and collect enough money to pay the debt of last summer over the next several years. Utility executives say that to force the people who own stock in Edison and PG&E to absorb the $6 billion loss would destroy institutions critical to the state's economy.

"We are the only thing standing between the consumer and volatility," said Foster, the Edison vice president. ". . . We have to remain financially healthy."

Consumer advocates argue that the utilities knew electricity prices could spike during the rate freeze and chose that risk.

A letter from PG&E to Peace, dated July 25, 1996, during negotiations on the deregulation bill, says: "It is highly uncertain what market prices will result from the proposed power exchange structure."

Said consumer advocate Snyder: "The marketplace means you win or you lose. The utility companies that wanted to go to the marketplace lost the bet."

The Next Hot Summer

There's no quick fix in sight.

By next summer, experts figure, there will be a gap of at least 1,000 megawatts--what a major power plant produces--between what the state consumes on its hottest days and what it can generate and import.

Then, most experts agree, the grid guardians at the Cal-ISO will once again find themselves repeatedly declaring power reserves dangerously low. They'll scramble to buy electricity and they'll beg Californians to dim lights and wait until midnight to run the clothes dryer.

Four new power plants are under construction in California, but it won't be until July, at best, that any of them spins a turbine. Most likely to be finished first is a 500-megawatt plant owned by Calpine in the Bay Area city of Pittsburg.

Plans for another major power plant were approved by the California Energy Commission last week, and 12 more are under review.

But there's no guarantee that they all will get built.

There's no easy answer on the other side of the equation, either.

The Legislature this year earmarked $50 million for electricity conservation projects, such as helping cities install new traffic light bulbs and coat office rooftops with heat-reflecting paint. Lawmakers also extended for another decade a fee on electricity bills that amounts to roughly a nickel a day per household. The fee generates about half a billion dollars a year for conservation and "green" energy projects.

But these investments won't soon bring power supply and demand into line. The imbalance is expected to trigger haywire prices again next summer. No one, including FERC commissioners, is certain that proposed fixes will not worsen things.

"Markets are complex, and they move in counterintuitive ways," said Camden Collins, a former PUC staff member who played a key role in deregulation. "We've got to steer a straight course, because it's in the careening that you spend billions of dollars."

As politicians and regulators scramble for solutions, the vast majority of Californians, numbed by the complexity of the power system and insulated by rate freezes, are just waking to the aftermath of deregulation.

A Los Angeles Times poll of nearly 2,000 people in late October found that 47% disapproved of the Legislature's 1996 passage of deregulation, while 32% supported it.

"Markets do work," said Judah Rose, senior vice president of ICF Consulting, a Virginia energy consulting group. "Just give it a chance."

"There is an unbelievable wave of [power plant] construction sweeping every part of the country," he said. "You guys are a little bit behind. . . . You've got to have some price spikes to encourage people to build."

But the debate eventually works its way back to the pocketbook, where regulators and politicians must face the grandmothers who scrimped on groceries to pay the electricity bill.

"If you believe in markets," said Bill Eastlake, an economist with the Idaho Public Utilities Commission, "you can't blanch at the sight of victims."

* * *

Before Deregulation

Before California deregulated its electricity industry in March 1998, three big privately owned utilities delivered 80% of the electricity consumed in the state. State regulators set the rates the utilities could charge.

* * *
     After Deregulation

Utilities sold their power plants to private companies. The new owners, as well as dozens of other electricity producers and brokers, now sell their electricity in a computer-based marketplace called the California Power Exchange. Some electricity is also purchased through the California Independent System Operator, whose primary function is to stabilize the flow of electricity.

* * *
     Three Main Utility Providers in California

Pacific Gas & Electric Co.

Southern California Edison Co.

San Diego Gas & Electric Co.

* * *
     Cities with publicly owned power systems that are exempt from deregulation include:

Sacramento

Burbank

Glendale

Los Angeles

Pasadena

Azusa

Riverside

Anaheim

* * *
     Sources: U.S. Energy Information Administration, California Power Exchange, California Independent System Operator, California Municipal Utilities Assn.

* * *

Power Plants' Estimated Revenues

By analyzing historical generating data and current price trends, Energy Insight Today newsletter estimated the revenue of major power plants in California this year. Projections were done in August.

Source: Financial Times Energy

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Electric Shock

Without intervention by legislators and regulators, millions of Californians could face dramatic increases in power costs in 2002.

Source: Southern California Edison

Copyright 2000 Los Angeles Times

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