Commentary: California: It Didn't Have To Be This Way

With his state's electricity crisis worsening by the day, California Governor Gray Davis came out with a state-of-the-state speech on Jan. 8 that had plenty of bold talk. He threatened the use of eminent domain to seize privately held power plants, for example. But for all its bombast, Davis' address was frighteningly short on the specifics of how he planned to fix the state's electricity woes. The governor said he would set aside $1 billion to "help stabilize the price of electricity and provide new power generation." But two days later, when he released his state budget, Davis still had no specifics about how to spend the money. Then, on Jan. 10, Pacific Gas & Electric suspended dividends.

It didn't have to end up like this. So far, 24 states and the District of Columbia have instituted electricity deregulation. In almost every case, the process has suffered bumps along the way, largely because deregulation is being attempted during a period of short power supplies and escalating demand. But other states are hurting less because utilities, regulators, and lawmakers have done a better job adjusting to problems. "Deregulation is an ongoing process," says David Flanagan, a spokesman for New York Public Service Commission, which regulates utilities. "It requires constant attention."

That's why it's way too early to conclude, as many watching California's calamity unfold have, that deregulation is a failure. Indeed, a look at how other states have reacted to their own setbacks shows that, when done right, opening up utilities to the marketplace needn't be a catastrophe. Elsewhere, it has even begun to provide the promised benefits.

Take the crucial issue of ensuring adequate supply, which California has bungled. When prices began to rise after Illinois deregulated in 1997, the state began building new power plants. To speed up the process, its largest utility, Commonwealth Edison Co., released a list of sites in rural or industrial areas where the locals wanted the jobs or property taxes that new plants would bring. Terry S. Harvill, a commissioner on the Illinois Corporate Commission, which regulates utilities, figures that new plants are now producing enough new electricity to supply 3.8 million homes. That's been a key factor in keeping rates low.

Another big California headache: Utilities and power producers had to buy and sell electricity on a last-minute daily basis through a pooled common entity called the Power Exchange. Contrast that with Pennsylvania, which allowed its utilities to buy power from whomever they wanted. Pittsburgh's DQE Inc., the parent of Duquesne Light Co., trumpeted late last year that it had signed long-term power contracts that will cut consumers' power bills by 21%.

Even in states where deregulation's benefits have yet to be demonstrated, a more incremental approach to putting on the brakes has avoided California's run-away-freight-train scenario. In New York, as in California, utilities sold many of their power plants as part of deregulation. But, unlike in California, utilities had provisions that allowed them to pass rising fuel costs to consumers. When prices jumped, state regulators instituted price caps on wholesale power sales and pressed the utilities to reduce their transmission and distribution costs. Prices have gone up in New York City, but not as much as if consumers had been totally exposed. And no one is worried about New York State utilities going bankrupt.

If it's any consolation to Californians, the British deregulation model upon which its reforms are largely based also ran into huge snafus early on, but it is now working much better. Prices rose dramatically in the early 1990s. Wholesale price caps were implemented and, later, windfall-profit taxes placed on power suppliers. Over 100,000 coal miners were put out of work, and utilities, too, cut their employee rosters by half.

More recently, the country's power pool, similar to California's Power Exchange, was revamped to facilitate longer-term contracts. Retail power prices have declined 30% in England over the past decade. The message for California: Just talking about what to do won't solve any problems. But with careful monitoring, measures can be taken to prevent a crisis and ease the transition to a freer market--where rates ultimately do come down.