California Electric Crisis

Talking Points for Free-Markets

• Price controls didn't work for Dick Nixon; they won't work for Gray Davis.

1. Whenever government regulators disrupt the connection between supply and demand, they create shortages, pain and suffering for consumers.

• Deregulation is the solution, not the problem.

2. Deregulation has only slightly reduced the old monopolies on power generation, but the industry is still enslaved to thousands of federal, state and local regulations.

• Consumers are paying a huge price for short-sighted energy policies.

3. The problem is not high demand, but the administrative barriers that stopped the development of new power sources in California and across the country.

• Rather than causing harm, profit is a fair reward for good future planning.

4. Investors deserve to be compensated when they respond to consumer demands and take huge long-term risks to provide energy to a growing economy.

• Economic regulation is always a burden on consumers, not business.

5. There is no government action that can improve consumer opportunities or prices. Regulation is just a process of switching costs to benefit politically strong groups at the expense of the average citizen.

• Progressive conservation and environmental goals require free-market pricing.

6. The signals that market pricing offers consumers is the best motive for making the most efficient use of energy.

Commentary:

California Scheming by Michael Lynch

Reason Foundation: http://reason.com /ml/ ml010401 . html

The California Grinch by Jack Kemp

Jewish World Review: http:// www.jewishworldreview.com /cols/ kemp122700 .asp

Stranded In Sacramento by Robert Michaels

CATO Foundation: http://www.cato.org//pubs/regulation/reg20n2i.html

• Price controls didn't work for Dick Nixon;

they won't work for Gray Davis.

1. Whenever government regulators disrupt the connection between supply and demand, they create shortages, pain and suffering for consumers.

• a. Neither legislators, nor regulators, nor initiatives, can veto basic economic laws.

When electricity costs a dollar per kilowatt hour [kWh] to produce, no one can sell it for 7-cents and survive. The "deregulation" legislation of 1996 [AB 1890] carried just such a poison pill, requiring retail price freezes, even reductions, in spite of contrary economic realities. However well informed and advised, state regulators can't create energy out of thin air. All costs must be paid by someone.

Under the current regulatory scheme, the true costs of electricity have merely been postponed by financial gimmicks that will spread the burden over the next three to ten years. Bond issues and accounting credits can only increase the financial costs of current and future energy supplies.

• b. Short-sighted policies create long-term pain for consumers and taxpayers.

When a damaged natural gas pipeline [Arizona-California] last year caused a reduction in supply, prices for the fuel that runs most electric generating plants increased. The possibility of switching to alternate fuels was precluded by state environmental regulations. As a result of rigid and ponderous rules, California has become dependent on imported natural gas [85%] and electric power generated in other states, making consumers the victims of seasonal fluctuations and disruptions which are reflected in the short-term wholesale cost of electricity.

The major state utilities [San Diego Gas & Electric, Southern California Edison, and Pacific Gas & Electric] have paid premium prices for prime-time electric power to satisfy consumer demand that takes no account of those prices. The accounting debt [$7-9 billion] will be paid by all consumers based on their volume usage, rather than their prime time usage.

Subsidized rates, differential class rates and cost-shifting to sales tax payers all work against the best and most efficient distribution of electric energy.

Sources:

The Fresno Bee 01/02/01

http:// www.fresnobee.com / localnews /story/0,1724,226452,00. html

San Francisco Chronicle 01/03/01

http://www.sfgate.com/cgi-bin/article.cgi?file=/chronicle/archive/2001/01/05/MN125962.DTL

Associated Press 01/06/01

http://www.ptconnect.com/archive/today/new02.asp

San Diego Union-Tribune 01/06/01

http://www.uniontrib.com/news/uniontrib/sat/news/news_1n6power.html

• Deregulation is the solution, not the problem.

2. Deregulation has only slightly reduced the old monopolies on power generation, but the industry is still enslaved to thousands of federal, state and local regulations.

• a. Transition is always burdened by unknown risks and hazards.

The "deregulation" process was started with the unanimous agreement of all members of the state legislature [ AB1890 ; 1996] to correct evident problems with the California electric generation and distribution system. That political process involved changes to more than a dozen sections of state law, requiring many compromises and transitional steps that were both novel and risky. Of necessity, the process included assumptions and judgments by legislators, industry and regulators which were incorrect. Crystal balls are always in short supply.

The most substantive effect of the legislation was to distribute the monopoly of the three major utilities over power generation. They were required to sell most of their plants in exchange for a retail surcharges to recover losses ["stranded costs"] from uneconomic plants. The utilities agreed to retail rate ceilings, turned over their distribution assets [power lines] to a new state bureaucracy, the Independent System Operator [ISO], and agreed to purchase all electricity from a monopoly market, the California Power Exchange [ CalPX]. This "deregulation scheme" actually increased the number of regulatory entities and market controls over electricity.

The California Energy Commission [CEC ] retained all of its power over new construction and the California Public Utilities Commission [ CPUC ] expanded its governing power over the entire process. The Federal Energy Regulatory Commission [ FERC ] jurisdiction over interstate transmission of power was unaffected by the California legislation. In effect, the entire process revolved around a re-regulation, rather than de-regulation of the industry.

• b. All the King's horses and all the King's men cannot make electricity.

The sixty-plus pages of legislation, hundreds of pages of rules, thousands of pages of regulations, topped off by the individual judgements of tens of thousands of regulators, cannot make a free market. There is no substitute for the cumulative judgement of millions of consumers and businesses who make billions of independent decisions about their economic future, every hour of every day of every year. Given a few reasonable laws that protect honest and binding agreements, the free will of the people will always optimize the use of valuable resources. Reducing the role of government to the resolution of disputes and the punishment of fraudulent transactions is the only contribution that coercion can make to an efficient and beneficial economic system.

Sources:

AB1890 : http:// info.sen.ca.gov / cgi -bin/ postquery?bill_number = ab_1890 &sess=9596

California Independent System Operator: http:// www.caiso.com /

California Power Exchange: http:// www.calpx.com /

California Public Utilities Commission: http:// www.cpuc.ca.gov /

California Energy Commission: http:// www.energy.ca.gov /

• Consumers are paying a huge price for short-sighted energy policies.

3. The problem is not high demand, but the administrative barriers that stopped the development of new power sources in California and across the country.

• a. Scarce resources in high demand are always high priced.

The electric power market must always be a fluctuating blend of variable demand and limited supply. Handicapping one of the most volatile markets with the most ponderous regulations and pantheon of politically sensitive regulators is a recipe for disaster.

The presumption that mere words on paper can create "just, reasonable and low" prices for electric power is nonsense. Putting price controls on retail and wholesale transactions can only distort the reality of growing demand and restricted supply, resulting in a truly "dysfunctional market". When regulators capped retail prices, they took no account of wholesale cost increases caused by severe restrictions on the construction of new power plants at every level of jurisdiction. In the two years since "deregulation" started, the California Energy Commission [CEC ] has approved only nine small plants while holding dozens of others in abeyance. Adding this regulatory dissonance to the normally long construction cycle for power generating plants virtually guarantees long-term shortages and high prices.

• b. Short-term volatility ensures long-term uncertainty.

One of the most critical faults of the "deregulation" scheme was to first require or exempt power generators from participating in a short-term hour-by-hour market controlled by the rules of the monopoly California Power Exchange [ CalPX ]. As a legislative creation, the Exchange practically forbids the long-term contracting that would provide a stable financial environment for long-term plant development and construction. Rather than freeing the market for new financial instruments that offset risks, the state scheme foreshortens trading activity that would enhance market entry. By requiring the largest utilities to subscribe -- and exempting municipal utilities from the obligation -- the legislation practically invites financial bankruptcy, diminishing supply and profligate consumption.

Federal regulators [ FERC ] have refused to impose wholesale price controls, a "remedy" favored by the California Executive Branch, which would only distribute the injury and burdens to a national set of consumers.

The two remaining utilities under price controls [Edison & Pacific] say they have satisfied the diversification requirements for the elimination of price controls. State regulators could take months to audit those claims, leaving the utilities with more billions of dollars in debt, even with CPUC approval of a temporary surcharge on consumers.

Sources:

CEC Plant Approvals: http:// www.energy.ca.gov /releases /2000_releases /2000-12 -20_approved.html

San Francisco Chronicle, 01/03/01

http:// www.sfgate.com / cgi -bin/ article.cgi?file =/chronicle/archive/2001/01/03/ MN118772 .DTL

Orange County Register, 01/05/01

http://www.ocregister.com/politics/energy00105cci.shtml

• Rather than causing harm, profit is a fair reward for good future planning.

4. Investors deserve to be compensated when they respond to consumer demands and take huge long-term risks to provide energy to a growing economy.

• a. Companies who participated in deregulation sales over the past two years have not had larger profits than those which ignored them.

Companies who bought power plants [Reliant Energy Inc., NRG Energy Inc., Dynegy , and Duke Energy] had smaller profit increases in the last quarter of 2000 than those utilities that did not buy plants under the deregulation agreement. All but one of the plants were located outside California and came under the jurisdiction of federal, rather than state, regulations.

Many of the generating plants that were sold had purchase prices far beyond [up to 2 ½ times] the book value of those plants, which had been carried on the utility accounts with no depreciation of outmoded equipment. That benefited the balance sheets of the state utilities [San Diego Gas & Electric, Southern California Edison, and Pacific Gas & Electric], which are not allowed to make a larger profit than regulators find "reasonable".

These new investors in California generating capacity are national businesses which respond to demands from everywhere across the nation. Their profit margins in California are not significantly different than other areas of the nation which they serve.

• b. Prices, not profits, must increase when demand exceeds supply.

San Diego Gas and Electric sold one-half of its generating capacity last year, gaining temporary freedom from the artificial rate freeze imposed by state bureaucrats. Their prices increased when natural gas supplies were disrupted [Arizona-California pipeline explosion], increasing the costs of electric generation. Through no fault of their own, the San Diego utility was burdened with another "temporary" rate freeze, pending a regulatory audit.

The anticipated increases in consumer prices for the other two distributors [Southern California Edison and Pacific Gas & Electric] are not profit increases. In fact, the two utilities will still be operating at a significant loss. Price increases that should have been applied during peak demand times have been spread over three years with a state loan, which their consumers will be obliged to pay through higher prices over the life of the bond.

Sources:

Union-Tribune Publishing Co. 12/17/2000

http://www.uniontrib.com /news/ uniontrib /sun/news/ news_1n17power.html

Los Angeles Times 12/17/2000

http:// www.latimes.com /news/state/20001217/ t000120349 . html

The Orange County Register 12/17/00

http:// www.ocregister.com /politics/ power01217cci.shtml

• Economic regulation is always a burden on consumers, not business.

5. There is no government action that can improve consumer opportunities or prices. Regulation is just a process of switching costs to benefit politically strong groups at the expense of the average citizen.

• a. Government creates nothing; at best it can prevent destruction.

The production of electric energy is an economic enterprise. Assets are allocated to the construction of generating plants based on a wide range of long-term estimates of consumer demand. Businesses do not build generating facilities in the expectation that there will be no reason for its operation. The intent is that long-term construction costs and operational expenses will be paid, and that investors will be compensated, through the sale of electric power.

When governments disrupt and infringe on those economic decisions, the excess costs and risks are passed on to taxpayers or added to the bills of consumers. There's nowhere else for those costs to go. When bureaucrats act, consumers and taxpayers pay. When price controls are imposed, the ceilings are almost always set to compensate businesses for those regulatory and excess costs. The illusion that prices are lower is credited to government and the actual costs are blamed on the corporations that distribute the bills.

• b. Government "investments" are always uneconomic.

One of the "solutions" offered by Governor Gray Davis is the construction of new plants or the rehabilitation of old plants at state expense. Of course, "state expense" is taxpayer dollars. Such projects are certain to be the least efficient and most expensive response to electric shortages. Absent the interests of scrupulous financial investors, state bureaucrats have no incentive to diminish or optimize costs. Although the pay all the bills, taxpayers have no direct voice in the allocation of their financial resources. Not only is a government "investment" protected from any cost considerations, but it can also ignore the demand curves that generate income. It can build generating plants that have no market justification for operation.

At best, government "investment" may be capable of evading the most onerous restrictions of other government regulators. Whatever benefits might be derived from expedited approvals and generous exceptions to current laws, consumers and taxpayers will pay huge premiums for the inefficiency, patronage and corruption that accompanies government projects.	Municipal Departments of Water and Power [DWP] currently supply about 20% of the total California electric market. Because they are exempted from state regulation by provisions of the California Constitution, these publicly owned utilities have been the primary cause of the extreme wholesale price fluctuations that are passed on to other utility consumers. By purchasing electricity from out-of-state government generators [Washington's Bonneville Power Administration] at a low price, then reselling it on the controlled market at premium spot prices, these utilities have made huge "windfall profits", at the expense of all other consumers.

Sources:

Washington Times 12/27/00

http://www.washingtontimes.com/national/default-2000122723476.htm

• Progressive conservation and environmental goals require free-market pricing.

6. The signals that market pricing offers consumers is the best motive for making the most efficient use of energy.

• a. Conservation is a decision, not a "civic duty".

While "benevolent government" has encouraged the idea of conservation as a public duty, it has only succeeded in transferring higher costs to the most conscientious and efficient consumers. The "tragedy of the commons" flows from the fact that anything which is perceived as "free" is always consumed to the highest degree possible. When everyone "owns" an asset, no one has an interest in preserving its future value. By removing the consequences of prolific use from any one person and ascribing the responsibility to everyone, resources are certain to be used in the least efficient and most destructive ways. Electrical energy is not exempt.

In a free market transaction, prices are the guide to every seller and buyer of the fluctuating demands on limited supplies. When wholesale and retail prices offer no message about the value of consumption, the resources are automatically in jeopardy.

In the California electric markets, retail prices are confined to arbitrary ceilings which have no relation to value or the fluctuations of demand. Consumers have no messages that would govern their conduct, hour-to-hour or day to day. Demand peaks and ebbs without regard to supply and there are no rewards or benefits to conservation. No amount of political indoctrination can avoid the inevitable, chaotic and anarchic over-consumption of those resources.

• b. Human well-being is the only environmental issue.

Most human beings value parks, open spaces and natural habitats, to say nothing of pristine air and water. However, those are not the only "precious things" contributing to everyone's well-being. Food, shelter and comfort probably rank higher in nearly everyone's life priorities. However, some aesthetic values compete with the domestic values for resources. Comfort requires heating and cooling energy. Power plants, oil wells and mining that makes that comfort possible may not be the most attractive or even the best use of any particular location. Arbitrating those tradeoffs through the exercise of political power always works to the detriment of those without political influence. In most cases, that's the common man with limited resources and little time. The only means of putting everyone on an equal standing is pricing. Natural amenities need to be acquired and maintained in a fair and equal competition with other human values and life priorities.

Injury is not a negotiable commodity. When any conduct causes demonstrable harm, that conduct should be punished and restitution applied. Those industrial and extraction activities that make electric energy possible can and must be done without endangering the health of even one person. Pollution should be classified the same as any other criminal assault, but most environmental regulations take no account of personal injury. Government bureaucrats accuse, try and convict businesses of alleged pollution without the presumption of innocence or any evidence of harm, at the expense of consumers and taxpayers. Objective tort reforms that grant every citizen equal protection from abuse are the only remedies to true environmental pollution.