JUICE: Folly

By Published On: July 7, 2008

Up until last year, there was a large structure in my small backyard. It was a 10-foot brick chimney with a fireplace, an open pit for barbecue, and flagstone countertop. It came with the original 1924 house. It was also as superfluous as a structure can be. When I invested in men with sledgehammers to tear it down, I discovered that the brick structure has a term of art: it’s called a “folly.” The more I watch the California Independent System Operator try to build a new wholesale energy market, the apparent demise of a capacity market, and the struggle to build carbon cap-and-trade and offset markets, the more I think: folly. Although profits may be on the horizon for traders, the only people who are making money now are reasonably compensated staff (the California Air Resources Board, California Public Utilities Commission, and CAISO) employed to create the various markets. There are also mountains of billable hours for private attorneys and consultants. My folly, however, was somewhat useful. I had a bunch of barbecues. Yet, I don’t miss it at all. I’m getting the same way with markets. If traders and generators want profits, they could do well by being regulated. Their dreaded “command and control” by the state is working quite well for investor-owned utilities these days with a solid return on equity investment of over 11 percent. It may not be as much fun as a roller coaster market, but there’s ice cream at the end of the end of the ride. Speaking of fun, (unless you’ve invested in Exxon-Mobil, etc.) you aren’t having much fun at the gas pump these days. Nothing left over for ice cream there. There’ve been reports in the last few weeks that at least some of the huge price increases by the gallon are due to trading speculation. It’s different from the 2000-01 energy crisis, where some traders allegedly used the wholesale market side bets to maximize profits. (I once heard an Enron executive proudly explain how the company was going to cause congestion on the CAISO grid in order to get maximum returns. Hey, it wasn’t illegal.) With gasoline, it appears to be futures speculation. Congressional testimony pins the practice with driving the price of a barrel to its current high. With the grid operator’s planned new market, there will be opportunities for many speculative side bets. It’s not simply trading energy when the grid needs it or wants to get rid of it. To make it simple, I’ll call them “ancillary services.” The grid operator has spent years and worn out many of its staff trying to set up a more perfect market. And, you have to remember that only about 5 percent of the CAISO grid trades in the wholesale market–down from 35 percent during the energy crisis. CAISO basically runs the grid for investor-owned utilities–Pacific Gas & Electric, Southern California Edison, and San Diego Gas & Electric. The Sacramento Municipal Utility District, the Los Angeles Department of Water & Power, and the Western Area Power Administration run a significant portion too. They get along without wholesale markets, for the most part. Yet CAISO is trying hard to create a bigger market, causing a lot of costs that are put into rates to make it work. The latter munis find it much easier to just run their own grids without markets–it’s simpler, less headaches, less of a roller coaster. For some background on my skepticism: when the state deregulated the electric industry in 1996, it required investor-owned utilities to spin off most of their fossil fuel power plants. Companies like Reliant and NRG Energy bought the power plants then sold the power, often on a wholesale basis, to the grid operator. At the time of deregulation, regulation, called “command and control,” was a dirty word in the halls of the California Public Utilities Commission and the Legislature. Regulators and legislators believed that slick and quick witted competition to monopoly utilities (generally seen as stodgy and gold plated) would bring down the price of electricity–then about 2.5 cents a kW. The power of the market, they believed, would create more efficiency and lower the price. But by the time of the energy crisis the megawatt/hour prices topped out at $10,000. Today’s hybrid market is capped at $400/MWh. Let me use a different metaphor here. The roller coaster is something you can risk. If you fall, you will probably still be alive. But now, imagine this: say you want to get from wherever you are to Tahiti. To do so you need to fly a commercial airline. The Federal Aviation Administration (command and control) no longer inspects airplanes. Due to the current rising airline prices and mass cancellations of flights, the FAA decided the market itself can better handle safety with little more than a rubber stamp review by the agency. Imagine that travelers now have to figure out whether JetTV or Deltrap flights are safest. They are no longer under command and control. Airline companies can choose to lavish money on maintenance, or free drinks, or cut corners–it’s up to them. That might be a bit much in the metaphor department. You’re unlikely to crash if markets don’t work. Yet, electricity, like safe air travel, is deemed a necessity in the U.S. So, while you can take a risk on a roller coaster, you really don’t want to take one on your flight to Tahiti. You have to rely on regulators, inspectors, and those who avoid cutting corners. Maybe it’s my risk-averse attitude these days, but when it comes to my computer being able to tap into an electric plug, I get demanding. I want command and control. I want regulators. I want infrastructure. I want a less carbon intense environment. And, as much as it kills me, I’m willing to pay the exorbitant rates to have that reliability–through regulation, not markets. And, don’t make me fly commercial.

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