Wall Street Journal -- 1/23/2001

Editorial
BROWN AND OUT IN BEVERLY HILLS

The comedy is almost too broad to bear. In the past month, the country's showcase state has come to look like a hapless banana republic. California's two largest utilities have defaulted on their debts and watched their credit ratings sink into junk territory; mighty businesses have been reduced to running on backyard generators and laying off workers. People have been stranded on elevators. And of course this is America, so there are law suits: San Francisco is suing power wholesalers, the utilities are suing both the Federal Energy Regulatory Commission and the Public Utility Commission, and the power suppliers are about to take the utilities into bankruptcy court. Our own fave scene was out of a bumper car ride when blackouts caused traffic lights to stand, well, powerless while cars crashed into one another at intersections.

The most seriously pathetic players in all this are the politicians. Particularly Governor Gray Davis. He didn't get it last summer when the trouble began. He didn't get it last month when the problems multiplied, and he still doesn't get it.

Not only did Mr. Davis accuse out-of-state power suppliers of being "pirates" and "marauders," but he has proposed making the withholding of power a criminal act and suggested committing public lands to power plant construction "on the condition that energy be distributed only in California."

And then there was his trip to Washington to plead (successfully) for the Clinton Administration to compel suppliers to sell to California utilities and ask FERC to impose price caps on power sold in the Western power grid. He has also signed a law to block utilities from selling their power plants and forcing them to sell that power only in California at "reasonable rates." Currently, he is pushing a scheme whereby the state would buy, at long-term contract, power at $55 per megawatt hour -- probably below the cost of production -- and certainly way below current market prices.

Basic Problem One: supply. There is a wicked mismatch between the power demanded by Californians and the power supplied. During the past several years, California's economy has boomed and zoomed while its power generation has languished. But the Alfred E. Neuman state has just assumed that its neighbors would make up the difference. No more. States like Oregon and Washington have had three years of unusually dry weather and are loath to ship hydroelectric power to their profligate neighbor when their own needs are growing.

Of course there is no way to suddenly create the additional juice that California needs, especially when strict environmental laws along with restrictive siting and permitting regulations demanded by community groups mean it takes six to seven years to build a power plant. But it doesn't help to have the Governor calling suppliers pirates. And it is not at all helpful to force them to sell to utilities verging on bankruptcy. And it surely isn't helpful to demand price controls on what they do sell. What potential supplier wants to commit capital for a project that involves such a long and risky process when his or her return is so uncertain?

Basic Problem Two: demand. There is no nice way to say this. California's misnamed "deregulation" scheme is beyond stupid. Four years ago, a Democratic legislature, a Republican Governor, the benighted utilities and the usual rabid consumer groups agreed to a plan that freed prices in the wholesale market but kept them fixed at retail. Since demand is driven by the retail market and consumers are insulated from price changes, there is no mechanism to generate a market response to price changes.

When energy prices started going up, consumers had no incentive to curtail usage. And they didn't. All of which left the utilities paying a monthly average wholesale price of more than $200 per megawatt hour, but only able to charge its customers $54; hence the utilities are stuck with almost $13 billion of unpaid bills to date. Last month, the state legislature passed a bill allowing temporary rate increases of 7% to 15%, way short of the 30% increase necessary to close the gap.

(We might mention that there is another way to reduce demand, one California seems to be cleaving to now: chase the demanders out. Brownouts, blackouts and general uncertainty have already induced businesses to switch production to other states where more reliable power can be had. Now that's conservation!)

Basic Problem Three: blame. If California can't correctly locate the blame for its problems, it can't solve them. Despite what its politicians think, this is not a federal problem. It is their problem. Tomorrow, the new Secretary of Energy must decide whether to renew the order compelling suppliers to sell to the nearly bankrupt utilities. We hope he tells California to get serious about its problems. After all, it shouldn't be too-too hard for a state that gave us the Beverly Hills diet to figure this one out.