In theory, deregulation leads to competition that forces producers to be more efficient and lowers prices for consumers. The primary lesson to be learned from the California electric power debacle is that flawed deregulation blows the theory to smithereens.
That is particularly true if the flawed deregulation scheme is unfolding when other factors are driving up demand and restricting supply at the same time. That is a recipe for disaster. That’s where California is headed. Bankruptcy for utilities, blackouts for power customers and sky-high bills are all distinct possibilities.
California’s big electric utilities have already spent $11 billion more for power than they have been allowed to pass on to consumers–most of that since May.
Federal regulators have refused to cap wholesale prices and state regulators have refused to uncap retail prices. One, that is not deregulation. Two, someone is going to have to pay the bill. The longer this standoff continues, the higher the ultimate price will be. As one utility executive put it at a hearing last week, “We can’t continue to sell for 7 cents what we buy for 27 cents.” That would seem self-evident.
California regulators agreed Thursday to a 90-day-only emergency rate hike of around 9 percent for residential consumers and up to 15 percent for businesses. That infuriated consumer advocates and utilities alike because it was considered too much for the former and too little for the latter. But everyone finally is recognizing that even this does little to heal the underlying dysfunction of California’s effort at deregulation.
California’s utilities are sliding toward insolvency. This has reached such crisis proportions that the Clinton administration now has summoned state and federal officials and utility executives to an emergency meeting at the White House on Tuesday to try to design a roadmap out of the mess.
If this were just California’s problem we, here 2,000 miles away in the heartland, could shake our heads and leave the left coast to its customary wackiness.
But this has serious economic consequences for California and, since one out of every eight Americans lives in California, for the nation. The bad news from California threatens to undermine the case for power deregulation at a time when well more than half the states–including Illinois–are in the process of deregulating their electric utility industries.
The California chaos doesn’t weaken the argument for deregulation. But it holds a couple of lessons.
There is real deregulation and there is faux deregulation. Real deregulation means allowing market forces to work. California didn’t really trust the market to work.
Politicians and consumer advocates have no complaints when those market forces bring lower prices, but support for deregulation shrinks when tight supplies and higher demand cause prices to rise. Those who doubt that need look no further than their latest gas bills. Chicagoans currently are experiencing the market forces of natural gas deregulation.
But here’s a critical difference–heating bills are soaring because natural gas prices have skyrocketed. The utilities are passing on the higher cost of the commodity to users.
Yes, it’s painful for consumers in the short term, but the higher prices will lure more production and reduce demand as consumers turn down the thermostat and look at conservation methods. Eventually, prices will subside. That’s how market forces work.
Electricity is different from natural gas in that it can’t be stored and drawn down when needed. If you’re contemplating deregulation, you had better be sure there is ample production capacity. California didn’t.
California embarked on its experiment in 1996, apparently without considering the supply side. No new power plants have been built in that state in a decade. To fill all its electrical needs, California depends on power from other Western states.
As the economy boomed nationwide, supply tightened and demand soared. More people were working. More people were buying bigger homes filled with endless power-hungry electronic gadgets. But California’s deregulation law froze prices at the retail level. That meant consumers were clueless as to the actual cost of power and thus had no incentives to take any conservation methods.
California’s plan also forced utilities to sell all of their power generating capacity and prohibited them from locking in any kind of long-term price contract. Just as demand was soaring and supply shrinking, the utilities were having to buy power day-to-day, at ever-higher prices. That’s crazy.
Power needs will continue to grow in California and here in the Midwest. Illinois has largely avoided the daunting supply problems faced by California, although this state has had a few tense moments in the heat of summer. There has generally been sufficient supply because of the nuclear plant capacity Commonwealth Edison built in past decades. When those plants are operating, that is.
In addition, the state has encouraged the development of peaker power plants. These independently owned, natural gas-fired generators are capable of providing electricity at times of peak demand.
Some, however, propose to operate year-round and resistance to them is growing. Some counties, such as McHenry, have passed moratoriums on their construction. Critics continue to push for a statewide moratorium so that environmental concerns can be addressed uniformly.
In any event, more generating capacity will be needed and Illinois and the Chicago area had better get used to it. Deregulation here and across the nation has been sold on its consumer benefits, but they will be cold comfort if nothing happens when the light switch is flicked.
