Regulation, the Cure for Energy Ills, Is Coming

The revelations last week that Enron Corp. and possibly other energy suppliers and traders manipulated California’s energy markets underline the critical need for regulation in the electricity industry and for integrity in business overall.

The chaos was not a victimless crime. The games played in California’s flawed deregulated market caused devastation. Soaring electricity prices pushed giant utility Pacific Gas & Electric Co. into Bankruptcy Court and Edison International, parent of utility Southern California Edison, into insolvency. Livelihoods of working people were destroyed or imperiled.

The state of California still has to sell $13 billion of municipal bonds to pay for past electricity purchases. The bonds will be paid off by the state’s electricity users, who will shoulder a debt burden for decades to come.

It should not have happened. There was always a need for regulation. If the lawyers who drafted memos on market tactics for Enron had tried such schemes on the Chicago Board of Trade or Chicago Mercantile Exchange, where wheat and cattle have been traded for 150 years, they would have been suspended and fined for violating exchange rules.

Though other commodities markets have rules, electricity trading was never brought under regulation by the Commodity Futures Trading Commission, which would have prevented Enron’s schemes. But electricity trading will be brought under CFTC regulation if Sen. Dianne Feinstein (D-Calif.) gets her bill proposing regulation of energy trading through Congress.

Such legislation is sorely needed.

All aspects of electricity are going to come under new regulations as a result of the debacle in California. The Federal Energy Regulatory Commission, the agency charged with oversight of electric power nationwide, is developing a Standard Market Design as a framework for regulation.

FERC will support development of local markets in which independent companies for generation, transmission and marketing-distribution of electricity will contract with each other to supply municipal needs. FERC will retain the right to intervene in local markets if any company’s market power is deemed excessive or if a company is seen to be withholding power to drive up prices.

FERC is expected to formally announce the new policy in July, sources say. It will represent a far more active stance on regulation than the federal agency displayed during California’s crisis, when FERC refused to correct unreasonable prices while markets careened out of control.

The California Power Authority, created last year to negotiate long-term power contracts for the state, will impose its own regulations. Long-term contracts will be key to ensuring reasonably priced electricity supplies, says David Freeman, head of the power authority.

Freeman’s signing of long-term contracts with power suppliers last year is widely credited with ending sis, although now many of those contracts are criticized for locking the state into high prices for years to come. The power authority is attempting to renegotiate contracts signed last year, and suspicions that suppliers manipulated prices is giving the state leverage.

Electricity sells today at wholesale prices close to $5 per megawatt hour--enough electricity to supply 750 homes for one hour. Many of the contracts Freeman is renegotiating are at prices of $7 per megawatt. And markets, now based on long-term contracts, are far more stable than a year ago.

In California’s deregulated market, which began in 1998, wholesale prices of electricity were set daily on a spot market. The state Public Utilities Commission discouraged Edison, Pacific Gas & Electric and other electric companies from entering long-term contracts. The policy proved untenable and made the power markets vulnerable to manipulation.

How FERC and the state’s power authority will mesh their regulations remains to be negotiated. One regulation FERC is pushing for is a requirement that California participate in the Regional Transmission Organization, a power-sharing grid that the federal agency is setting up in the Western states. But Gov. Gray Davis’ office has resisted the state’s joining such a grid for fear of losing electricity to other states at critical times.

New regulations are sure to make consumers aware of the true cost of their electricity. They have been sheltered from price movements by political decrees since deregulation began. Users’ bills may rise, but new regulations also would include incentives for consumers to use less power.

And regulations requiring greater disclosure from electricity generators and traders are a certainty for the years ahead. Trading firms will have to truthfully disclose what supplies of power they hold and how much they intend to buy. One of the abuses outlined in the Enron memos involved traders giving false signals to the California Independent System Operator in order to affect pricing decisions. The tactic is analogous to a bluff in a poker game. But supplying electricity is an essential activity, not a game.

The least that can be said of Enron and other firms involved in California’s deregulated market in 2000-2001 is that they behaved irresponsibly. The antidote to such behavior is regulation.

The goal of regulation should be to make electricity a non-issue.

“When a company wants to build or expand a plant, or a homeowner wants to build a house, they should not have to face uncertainty as to the availability or the price of electricity. The price should be predictable,” says Stephen Baum, chairman of Sempra Energy, the holding company for San Diego Gas & Electric.

Regulation won’t mean going back to yesteryear, when local utilities built and owned their power plants.

“It is very difficult to deal with venality of business practices of companies such as Enron, but that doesn’t mean we have to throw the baby out with the bath water,” says Michael Peevey, a newly appointed member of California’s PUC and former president of Southern California Edison.

It will help to see where we’re going if we understand that deregulation began three decades ago, when President Jimmy Carter’s administration wanted to encourage energy supplies from as many producers as possible.

It opened the way for industrial plants, oil refineries and other facilities, which generate electricity, steam and waste heat in their own processes, to be able to sell excess power to local utilities, thereby increasing energy supplies without building new power plants.

As variations on power supply systems increased in the 1980s, the idea of getting away from the old regulated utility system and moving to flexible markets took hold. And deregulation has done reasonably well elsewhere. Deregulated systems are being developed, without major trouble, in Pennsylvania, New Jersey, Maryland, Ohio, Texas and in the Northeastern states. Those states did not start a system driven solely by daily pricing for electricity, nor did they force utility firms to sell their power plants.

California erred in setting up a system vulnerable to cheating and has paid a price. It’s not certain how much the state or its electric companies can recover from firms that may have cheated. And it’s no help to California that the prime suspect, Enron, has collapsed in bankruptcy.

But it may be consolation to California and its citizens that this state’s debacle is launching a new era of intelligent thinking about regulation of electric power.

James Flanigan can be reached at jim.flanigan@latimes.com.