Junior Isles, Managing Editor

So, it finally hit the fan in California. On January 17th, the US’ richest state was plunged into darkness while two of its major utilities faced bankruptcy. You could almost hear opponents to deregulation say: “And so it has come to pass…”

For those few who may not be familiar with the case of the Golden state here is the latest Associated Press report (10:00 am, 23/01/01):

  • State grid officials declare Stage 3 alert, marking a week with electricity reserves near or below 1.5 per cent, but fend off further blackouts.
  • Power managers predict the state will see its next rolling blackouts Tuesday; expected electricity shortfall was 500 MW
  • The Senate energy committee considers a proposal that would put the state in the electricity business for up to five years, buying power at low rates and selling it directly to consumers.
  • Governor Gray Davis asks the Bush administration to extend emergency orders requiring suppliers to keep selling electricity and natural gas to California despite concerns about utility solvency
  • US Energy Secretary Spencer Abraham and other Bush administration officials meet at the White House to discuss the crisis.

Indeed a tale of deregulation woe. But the truth is, a bird in a hurry will always build a bad nest. There were flaws in California’s hurried plan to be the first state to deregulate – flawed plans in a market with inherent problems.

Apparently, there was a 30 per cent reserve margin when deregulation began in 1996. But with no new power plants built in ten years and a booming economy, the state utilities soon found themselves with insufficient capacity. This has been compounded by recent low rainfall in the western US region which has meant there has been little hydropower available through interconnections. The utilities were also unable to bring coal plants on line because emission credits had been used up.

SCE and PG&E were forced to buy more expensive power from IPPs but, with price caps in place, were unable to pass costs through to consumers. To make matters worse, with no hedging contracts in place, the utilities were unable to manage risks associated with purchasing power in the wholesale market. The whole debacle has saddled PG&E and SCE with debts of more than $10 billion.

Yet with such a nightmare result, the Californian experiment has served a purpose. It showed how not to deregulate and highlighted the potential pitfalls. The question is where does California go from here?

State lawmakers are considering several possible solutions to the crisis, including one which would see the two crippled utilities donate their hydroelectric plants to the state. In exchange, the state would begin buying additional power through long-term contracts and on the spot market.

Another plan, proposed by Assembly man Fred Keeley, would put the state in the electricity business for up to five years, buying power at low rates and selling it directly to consumers. This would buy time for the two utilities to restore their credit while lawmakers worked on long-term solutions to the flawed deregulation laws.

The state is also moving quickly to get new capacity in place. Experts project an additional 10 000-12 000 MW is needed to balance supply and demand. Governor Davis plans to have 15 new plants under construction by the time his term ends in 2002.

In the meantime the in-fighting will continue. President Bush was on CNN citing a possible temporary relaxation in emission legislation. No doubt environmentalists will argue this point. Meanwhile, consumer groups have delivered more than 5000 signatures to Davis’ office from Californians who say they will refuse to pay higher bills to finance a utility bailout. And Davis and the utilities are pointing fingers at energy wholesalers, saying they have exacerbated the crisis by taking advantage of the tight supplies for their own profit. Now it is believed that the governor may sign a bill allowing utilities to buy power from the IPPs at 5¢/kWh even though the IPPs are pushing for 8¢/kWh.

Clearly the state has to step in and, as a colleague of mine at law firm Morrison & Foerster put it, “spread the pain over time”. California may face many uncertainties but one certainty is: unless everyone gives a little and realises they have a common problem, they will all be left arguing in the dark.