Despite the conviction of a couple of bad apples at Enron, its top management is not the real culprit in this case. The real culprit is a bad idea: deregulation of the natural gas and electric power industries.
Kenneth Lay and Jeffrey Skilling, the former chairman and CEO respectively, can be said to be just "sharp traders," businessmen who did what the free market demands of rational players: take advantage of every loophole they could find to make a profit.
Early in 2004, Jacqueline Lang Weaver, a professor at the University of Houston Law Center, wrote, "In competitive electricity markets, participants can exploit legal loopholes or use market power to make millions of dollars in profits in a very short time period, and there is every reason to expect them to do so; it is the very nature of profit-based, market capitalism."
Enron played a unique role in deregulation, Weaver said, and the company’s subsequent collapse was, in some important respects, a product of its genius in creating "a business model that tracked the opening of deregulated energy markets…and was accompanied by a powerful and well-financed political lobbying arm that worked to push government regulation out of the markets."
This point was echoed earlier this month when Robert McCullough, an independent analyst of the electric power industry who is a consultant to many of the agencies that were victims of Enron’s trading schemes, testified before the U.S. Senate Policy Committee and described in detail the consequences of what he called "an unfortunate policy decision" made by the Commodities Futures Trading Commission (CFTC) in 1993.
"At the urging of Enron and other energy companies," he said, "CFTC relinquished control of energy-based forward transactions…The purpose of Enron’s various market manipulation schemes was to promote an increase in long term prices—an increase that returned over a billion dollars in earnings on an enormous forward position that Enron accumulated just before the onset of the Western [California] Market Crisis."
McCullough did not mention that the CFTC’s 1993 decision was made at the urging of its chairwoman, Wendy Gramm, who is an economist and the wife of then-Sen. Phil Gramm, R-Texas. Almost immediately after the vote of the commission to forego regulating electricity trading, Mrs. Gramm resigned from the commission and joined the board of Enron where she remained until just after the bankruptcy in 2001.
Another key aspect of the Enron story described by both McCullough and Weaver is the role of EnronOnline, which handled nearly one-quarter of all gas and electric trades by the end of the 1990’s, making it the largest e-commerce system in the world.
Weaver said EnronOnline did not match up buyer and seller for a fee like most commodity trading exchanges. Instead the company was a counterparty to each trade, meaning that it bought products for sale if the price was right and then re-sold them, a business strategy that requires billions of dollars in cash to handle the float.
This need for large amounts of cash for trading, she said, combined with some disastrous deals in hard assets like building a huge power plant in India and overpaying for a water utility in England, neither of which generated any cash flow, sent the company far into debt. It was Enron’s use of the accounting gimmicks called Special Purpose Entities to keep this debt off its books that finally caused the bankruptcy.
Weaver concludes her report by saying that the darker side of the market system is that it is controlled by and primarily benefits two "power elites…the elected political elite and the managerial elite that control business enterprises. However, between the two, corporations have the upper hand, because they must be induced with incentives to produce and provide jobs and tax revenues to society. he corporate elite have a privileged position of power in the political system, and political leaders will act to provide business with whatever it says it needs to do its job."
The ultimate danger, she said, of this "enormous influence of the business elite on the legislative policies at all levels of government seriously distorts the democratic nature of our society."
And the ultimate irony is that Enron collapsed by choking on the apple of deregulation which it tried to swallow whole, and that Lay and Skilling, the corporate cheerleaders for deregulation, are victims of their own delusion.
Wallace Roberts is an independent journalist writing on public policy issues. His work on deregulation of the electric power industry was assisted by a grant from the Fund for Investigative Journalism.