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Does Energy Deregulation Still Make Sense?

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Does Energy Deregulation Still Make Sense?

By ALEX BERENSON

 

 

S soaring electricity prices roiled California last year, supporters of power deregulation — including Enron and the Bush administration — insisted the state's woes were not related to its newly deregulated electric market. High prices and rolling blackouts were the natural consequence of a supply shortage years in the making, they said.

 

That explanation never carried much weight with the economists and engineers who watched the state's electricity market crumble. Instead, the experts said, as demand for power rose, flaws in the market's design gave suppliers incentives to worsen and even create shortages.

 

Proof of such manipulation was in short supply until last week, when federal regulators released memorandums written by lawyers at Enron that offered new evidence that power producers used the crisis to gouge consumers.

 

Despite its flaws, electricity deregulation, which has proceeded for more than a decade, should eventually benefit consumers, industry experts said. But the new evidence of the system's vulnerability may strengthen the position of consumer groups and others who said that tough rules and close oversight are essential if it is to work.

 

"If we want generators to obey the market rules, we have to make it unprofitable for them to break the market rules," said Frank A. Wolak, an economics professor at Stanford University and chairman of the market surveillance committee at the California Independent System Operator, which runs the state's power grid.

 

The memorandums released by the Federal Energy Regulatory Commission show in detail how traders drove up prices in California when electricity supplies were tight, said Robert McCullough, an energy industry consultant in Portland, Ore.

 

"Under the original incentives, it was in every player's interest to exacerbate an emergency," Mr. McCullough said.

 

Like other deregulated electricity markets, California set prices using a reverse auction. Traders and producers offered power supplies, and an independent agency bought enough to cover the day's expected demand. The agency picked as many plants as it needed to keep the lights on, choosing the lowest bid first, then the next lowest and so on. Once it met the demand for power, the highest bid it accepted was the price that every generator received.

 

But businesses and people need electricity, no matter what it costs, so demand does not vary much with price. In California, that meant that, as demand neared the limits of supply, the producers could be virtually certain that almost any offer they made would be accepted, said Richard E. Schuler, an engineering and economics professor at Cornell University. "A measure of a market's competitiveness isn't necessarily the number of suppliers," Mr. Schuler said. "It's how many suppliers risk not selling anything if their bids are too high." In California, that risk was very low.

 

Making matters worse, suppliers who owned several power plants found that even on days when demand was low, they could create emergencies by keeping generators out of service, Mr. Wolak said. "What led to the meltdown in California," he said, "were generators withholding supply from the market in California, either by bidding very, very high or just turning the plants off."

 

California tried to impose price caps on its market when the crisis began in 2000. The idea was to eliminate the incentive for producers to withhold supply and drive up prices. But traders simply sold power to neighboring states without caps, a strategy detailed in the Enron memos. Only when the Bush administration imposed regional price caps did the crisis ease.

 

"Once the price caps went into operation, the plants actually operated more instead of less," Mr. McCullough said.

 

Whether electricity markets in other states could implode as California's did remains an open question. Richard A. Rosen, a consultant who works mainly with consumer groups and state utility commissions, said the Enron memos offered more proof that electric suppliers have too much power in deregulated markets.

 

"These kinds of tricks and manipulations could be done, and are probably being done to a lesser extent everywhere," he said. "These markets demand very strong monitoring and regulation, so strong that it's essentially impossible."

 

But Mr. Schuler argued that California's market design had several technical weaknesses that made a crisis more likely. Over time, deregulated markets will become harder to manipulate, especially as power users learn how to lower demand quickly in response to price spikes, he said.

 

Regulation, Mr. Schuler said, stifled innovation and caused high prices. "I'd rather see people put their money where their mouth is, and that's the system we have in place right now," he said.

 

STILL, the Enron memos may heighten the pressure on the Bush administration to reassure New York and other states with deregulated markets that they will not see a repeat of California's problems. To do this, FERC must toughen oversight of power producers and press state regulators to allow electricity to flow between states more easily, said Paul L. Joskow, a professor at the Massachusetts Institute of Technology.

 

"In the end, you have to have a national policy on electricity," Mr. Joskow said.

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Guest beardo

stop posting articles, im trying to work here

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Guest Are2

has energy deregulation ever made sense?!

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