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Subject: Industry News: Charges of Gouging as Power Costs Skyrocket



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Headlines:
Charges of Gouging as Power Costs Skyrocket
Energy: Critics say tactics allowed in the deregulated market, which let
suppliers reap big profits, illustrate flaws in the system. As the
state's booming economy taxes the ability to meet electricity demands, a
federal investigation is underway.

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  National Desk
Charges of Gouging as Power Costs Skyrocket
Energy: Critics say tactics allowed in the deregulated market, which let
suppliers reap big profits, illustrate flaws in the system. As the
state's booming economy taxes the ability to meet electricity demands, a
federal investigation is underway.
CHRIS KRAUL
TIMES STAFF WRITER

Aug. 28, 2000
Los Angeles Times
Home Edition
Page A-1
Copyright 2000 / The Times Mirror Company

   With Southern Californians reeling from skyrocketing electric bills,
critics charge that fewer than a dozen power suppliers are reaping far
greater profits than are justified by the recent surge in wholesale prices
of the natural gas they use to create electricity.



  Their behavior is a major focus of a formal investigation announced
last week by federal regulators. Among those under scrutiny are power
merchants including <B>Duke</B> <B>Energy</B>, <B>Dynegy</B>,
<B>Reliant</B> <B>Energy</B>, Calpine,
Southern Co. and the Los Angeles Department of Water and Power. Critics
say the companies are earning huge windfalls selling energy to the two
state agencies charged with distributing power in California.

   The power merchants themselves deny any profiteering, describing their
market moves as legal business practices and welcoming the investigation.
   The underlying cause of California's energy turmoil is a severe
shortage of power-generating capacity to meet the soaring energy demands
of the state's booming economy. This summer the state at times has had to
import more than 20% of its energy needs, a shortfall equal to the output
of about 20 medium-size power plants. No plants of any size have been
built in the state in 10 years.
   But the problem goes beyond a supply-and-demand imbalance. The
so-called merchant power companies' ability to bend the market to their
advantage--using what appear to be legal strategies--illustrates what
many say are serious flaws in the state's deregulated energy market.
   One major flaw is that sellers do not have to participate in the
state's main electricity auction--the so-called "day forward" sale held
one day before electricity is delivered to the state's residences and
businesses. Instead, generators are withholding power until the day of
delivery, when desperate state agencies are willing to pay steep prices
to keep the power flowing.
   The upshot has been a doubling of electric bills for the 1.2 million
customers in San Diego Gas&Electric's coverage area, and Southern
California Edison and Pacific Gas&Electric customers may be facing
higher prices once their rates are unfrozen in 2002.
   There is little prospect for short-term relief; with no additional
power generation due for a year, the prices of natural gas and crude oil
are still rising. In fact, state officials expect the market to become
tighter over the next year as demand and fuel prices rise.
   In pointing the finger at the power merchants, Gov. Gray Davis, some
academics and utility executives charge that California consumers are
being victimized by sophisticated trading techniques that take advantage
of the market system to extract huge profits.
   Deregulation "only works if people act responsibly. It won't work if
people say their only goal is to make as much money as humanly possible,"
Davis said last week.
   This brokering takes place on the California Power Exchange and the
Independent System Operator, two agencies created by the 1996 legislation
that ostensibly opened up 70% of the state's power market--represented by
the PG&E, SCE and SDG&E service areas--to competition. To create that
competition, lawmakers ordered the utilities to sell power plants to
independent companies, which now are selling electricity to the state.
   The Power Exchange is a clearinghouse for the bulk of energy trading
that is completed a day in advance of delivery, which normally fills most
of the state's energy needs. The ISO, the nominal traffic cop arranging
deliveries over the power grid, also has the authority to hold same-day
power auctions for immediate delivery in the event of unexpectedly high
demand.
   The Power Exchange is subject to a price cap of $250 per
megawatt-hour, a ceiling imposed earlier this summer as prices began to
soar. But the ISO has the authority to pay as much as it has to for
supplementary power if the previous-day purchases prove insufficient to
keep the state's lights on.
   And it is the secondary ISO market where power suppliers, leveraging a
seller's market, are holding sway. By withholding their energy from the
Power Exchange and opting instead to bid their supply to the ISO, they
are betting that same-day shortages will generate prices as close to the
price cap as possible, possibly even above it.
   It's apparently working.
   On some days, the ISO has ended up buying one-fifth of the state's
energy needs, not the 5% to 10% maximum originally envisioned. In the
process, desperate to meet demand, the ISO is paying premium prices and
those prices are being passed along to consumers.
   The problem with the market apparently defies easy solutions. At an
emergency meeting Friday to discuss ways of dealing with the crisis, the
ISO board rejected a staff proposal to force energy merchants to allocate
at least 90% of the electricity they intend to sell in the "day forward"
auction held by the Power Exchange, instead of holding back until the day
of delivery.
   Although ISO Chief Executive Terry Winter said the measure would
restore some market order, the board rejected it on fears that it might
create unforeseen ramifications, possibly even power suppliers abandoning
the state altogether.
   As the market stands now, independent power companies have been able
to exploit the power shortages and the market's quirks to charge the
state higher rates than the increases in the price of natural gas would
seem to warrant, said Severin Borenstein, a UC Berkeley professor and
energy specialist.
   With fellow UC Berkeley professor James Bushnell and Stanford's Frank
Wolak, Borenstein studied the Power Exchange over a 15-month period ended
in September and found evidence of "market power," or the power
generators' ability to raise prices above competitive levels for
sustained periods.
   Unless there is collusion among two or more power providers, the
exercise of market power is not illegal, experts say. But if prolonged,
it is a symptom of a seriously dysfunctional market.
   "I think [market power] has probably gotten worse this year. There are
players big enough to move the price and move it a lot. Prices are
clearly way above their costs," Borenstein said.
   Edison CEO John Bryson and Stephen Baum, head of SDG&E parent Sempra
Energy, have similar criticisms. Their claims will be investigated by the
Federal Energy Regulatory Commission, the latest of five probes underway
into California's worsening energy predicament. "We'll see whether there
are alternative market rules that should be adopted to have a better
functioning, more efficient market," said Daniel Larcamp, FERC's director
of market tariffs and rates. "Looking at market power issues is an
important focus of our investigation."
   Power suppliers Duke Energy and Calpine denied any market
manipulation, saying the bulk of their energy is sold on long-term
contracts and is not used to unduly sway day-ahead prices on the Power
Exchange or same-day sales on the ISO.
   "No way are we manipulating the market, and we have welcomed
investigation into our business practices," said Tom Williams, spokesman
for Duke Energy's California regional office in Morro Bay. "It's easy to
point fingers at someone who controls only 4% of the market, much of
which has already been sold in the forward market months ago."
   Calpine spokesman Bill Highlander said the high prices are simply a
case of demand far outstripping the state's ability to meet it. "Ten
years ago, you had more supply than demand. Now you have a skyrocketing
demand from population growth, a robust economy and Internet-fed
additions to demand," Highlander said.
   Charles Cicchetti, a USC professor of government, business and the
economy, agrees and said the market is performing exactly as expected,
given supply shortages. He objects to the limited price ceilings opposed
by state officials.
   "The choice should be to either regulate the whole thing, go back to
where we were or let the market work," Cicchetti said. "This hybrid is
causing problems to get worse."
   But something appears to be worsening an already bad pricing
situation, and critics believe it is market manipulation. In the FERC
order initiating its investigation, the agency noted that California's
wholesale electricity costs on June 29 were $340 million--a sevenfold
increase over the same date in 1999. Over the same period, natural gas
prices only doubled.
   FERC will look at other aspects of the state's energy deregulation as
well--at the fact that utilities have no choice but to purchase power
from the central power exchange and have only limited power to hedge or
make bilateral deals on their own with outside firms.
   In an interview last week, the FERC's Larcamp said his agency is
reserving the right to roll back rates, order refunds or even impose a
new market framework to replace the Power Exchange and ISO.
   Larcamp said the FERC's probe will contrast California's troubled
power market with the Pennsylvania-Maryland-New Jersey system, which
gives end users more freedom to cut their own deals with suppliers. The
result is that Pennsylvania has more than 130 power suppliers competing
for the state's business, versus no more than 15 in California.
   *
   Times staff writers Nancy Vogel and Nancy Rivera Brooks contributed to
this story.


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