In the wake of California’s electricity market melt- down, a flood of analyses carried the ‘‘lessons’’ learned from the crisis to neighboring states and countries that had in turn been considering restructuring their electricity the California crisis.
Thus perhaps the most relevant lesson to take from California’s crisis is that electricity markets are neither naturally doomed to failure nor guaranteed easy success.
The factors most often cited as the causes of the California crisis are the scarcity of generation capacity (combined with rapid growth in demand), a ‘‘flawed’’ market design that included a freeze on retail rates, and the venality of electricity producers.
As the author describes in this paper, the market power of producers, California has earned a reputation as an incubator of instability, and system reliability problems that char-
The factors most often cited as the causes of the California and the venality of electricity producers. However, many of thes have suffered through anything like the California crisis. The contracts or other forms of long-term supply arrangements.
USA are the scarcity of generation capacity, a flawed market design, ributes were present in other electricity markets, none of which factor not seen in other markets in the world is the lack of forts are therefore best directed at developing a regulatory and reflective of underlying market conditions. other markets have experienced disruptions, no market press and venal producers.
Subsequent Events: The California Energy Crisis
California’s new wholesale electricity market and customer choice program, which began in March 1998, functioned fairly well for about a year and a half. In the summer of 2000, retail electricity prices in Southern California reached an all-time high, and a shortage of generation capacity forced temporary power outages in Northern California.
Since then, coverage of the California energy crisis has been reported on television and in newspapers across the country. The complexity of the issue, the contrasting viewpoints, and the sometimes conflicting solutions offered by politicians, government officials, and other stakeholders have made it difficult to keep track of what has happened.
To help provide a clearer picture of the situation, the following paragraphs present a broad perspective on this crisis.
Three Main Issues
California’s energy crisis can generally be grouped into three interrelated issues: (1) a drastic rise in wholesale electricity prices, (2) periodic power shortages during peak-demand periods, and (3) the deteriorating financial stability of California’s three major private utility companies—Pacific Gas and Electric (PG&E), Southern California Edison (SCE), and San Diego Gas and Electric (SDG&E).
High Wholesale Electricity Prices: Wholesale electricity prices traded on the newly formed California Power Exchange (CalPX) began to rise around June 2000, reaching unprecedented levels for the remainder of the year. From June 2000 to July 2000, wholesale electricity prices rose by an average of 270 percent compared to the same period in 1999.
In December 2000, wholesale prices on CalPX reached $376.99 per megawatt-hour (MWh), more than 11 times higher than the average price of $29.71 per MWh in December 1999.
High wholesale prices led to a sharp, though temporary, increase in retail electricity prices in Southern California during the summer of 2000. Here’s what happened. In July 1999, the SDG&E retail price freeze was lifted as mandated by California’s industry deregulation plan, and SDG&E customers were exposed to unregulated retail electricity prices (PG&E and SCE retail customers, at that time, were still protected from high retail prices by rate freezes imposed by the restructuring plan). SDG&E could now pass on high wholesale prices to retail customers, and by July 2000, residential electricity rates had risen to about 16 cents per kilowatt-hour, up from about 11 cents per kilowatt-hour in July 1999.
To curb rising retail prices, the California legislature set a cap of 6.5 cents per kilowatt-hour on the energy component of electricity bills for SDG&E’s residential, small business, and streetlight customers.
Scheduled Power Outages: Since 1999, California has experienced a significant increase in emergency conditions that, in some cases, have required rolling blackouts (rolling blackouts are forced reductions in electricity usage). Stage 3 emergency notices, which may require rolling blackouts, have increased from 1 in 2000 to 38 as of May 22, 2001 (see graph). Stage 1 and 2 alerts have increased from 91 in 2000 to 127 as of May 22, 2001. In some cases, Stage 2 requires voluntary reductions in electricity usage.
Factors Contributing to the Energy Crisis
Although there is no universal consensus regarding the causes of California’s problems, there is general agreement among industry leaders on a set of core factors that contributed to the energy crisis.
Investment in new power generation capacity has not kept pace with the growth in electricity demand. California’s power generation capacity declined by 2 percent between 1990 and 1999, while retail sales rose by 11 percent. Furthermore, no new power generation capacity had been built in California for over a decade.
To meet its energy needs, California relied on approximately 7 to 11 gigawatts of out-of-state generation capacity—much of it hydroelectric power located in the Pacific Northwest. A drop in hydroelectric production, caused by critically low water levels in the Pacific Northwest, resulted in reduced electricity imports into Northern California.
Throughout 2000, approximately 10 gigawatts of generation capacity were offline during periods of high demand, contributing to the electricity supply shortage.
Path 15, a high-voltage transmission line connecting Southern California to Northern California, frequently experienced congestion, limiting the flow of surplus power from the south to meet the deficit in the north.
Exacerbating the electricity shortage, many independent power producers were reluctant to sell electricity to PG&E and SCE due to the utilities’ financial troubles and uncertainty regarding payment for the power sold.
Flaws in the wholesale electricity market rules established under the state’s restructuring plan contributed to rising wholesale prices. Specifically, market rules required PG&E, SCE, and SDG&E to purchase all their electricity through CalPX. They were unable to enter into long-term energy contracts. When spot market wholesale prices spiked due to electricity shortages and rising generation costs, the utilities had no choice but to purchase power at those high prices. Rising natural gas prices and the high costs of meeting California’s power plant emission requirements also contributed to the increase in wholesale electricity prices.
The three utility companies paid high wholesale prices for their electricity but were unable to recover their costs because retail electricity prices were frozen. As previously mentioned, this situation resulted in the three utilities accumulating massive debt.
Actions Taken to Address the Energy Crisis
The following are measures taken by the California government and the federal government to help alleviate the energy crisis and implement permanent solutions to the problems California had been experiencing since the summer of 2000:
June 28, 2000: The California Public Utilities Commission (CPUC) lowered the purchase price cap to $500 per megawatt for real-time ancillary services and congestion management markets. The CPUC subsequently lowered this price cap again to $250 per megawatt on August 1, 2000.
August 3, 2000: The CPUC issued a rate stabilization plan for SDG&E. This plan was designed to provide electricity price relief for certain residential and commercial customers served by SDG&E.
August 30, 2000: The California legislature passed legislation (AB265) establishing a rate cap of 6.5 cents per kilowatt-hour for SDG&E customers. This rate cap was retroactive to June 2000 and was set to remain in effect until 2002.
December 14, 2000: The Secretary of Energy issued an order requiring certain power generators and electricity marketers to supply electricity to California’s power system operator to help prevent blackouts.
December 15, 2000: The Federal Energy Regulatory Commission (FERC) ordered corrective measures for California’s wholesale electricity market. The order, among other things, eliminated the mandatory requirement that the three investor-owned utilities (IOUs) sell and purchase all their electricity through CalPX. FERC also terminated the CalPX wholesale rate schedule that allowed it to continue operating. CalPX ceased operations in January 2001.
January 4, 2001: The CPUC granted PG&E and SCE a temporary surcharge to raise rates. This temporary surcharge was effective for 90 days. February 1, 2001: Governor Gray Davis signed legislation (AB 1X) authorizing the California Department of Water Resources to purchase electricity under long-term contracts for resale to PG&E and SCE. The legislation was passed partly because both utility companies were facing financial difficulties and were unable to secure long-term electricity contracts with power generators. This law was significant because the State became an active participant in California’s electricity industry.
March 27, 2001: The CPUC approved an average rate increase of 3 cents per kilowatt-hour in an effort to support PG&E and SCE, which were experiencing financial distress.
April 5, 2001: Governor Gray Davis released a plan to resolve the state’s energy crisis and protect residents from the volatile energy market. The plan included various elements aimed at increasing electricity supplies, boosting energy conservation, and stabilizing California’s electricity industry.
April 9, 2001: Governor Gray Davis announced an agreement with SCE and Edison International, SCE’s parent company. Under the agreement, SCE would sell its transmission system to the State of California for $2.76 billion. This sale was designed to help SCE recover from its financial difficulties. The agreement required approval by the State Legislature to be finalized.
April 25, 2001: FERC announced a plan to bring greater stability, improved control, and price relief to California’s energy market. Among other measures, the plan granted the California Independent System Operator (California ISO, which operates the state’s transmission system) greater control over power plant outages, established market-based price mitigation measures, and mandated new reporting requirements to enable FERC to better monitor California’s energy market. May 14, 2001: FERC announced regulatory actions to boost reliable energy supplies in California and other Western states. FERC streamlined regulatory procedures for wholesale electricity sales and the certification of natural gas projects. It also urged all hydroelectric power plant licensees to assess the potential for increasing generation capacity at their respective facilities.
May 15, 2001: In March, the California Public Utilities Commission (CPUC) approved retail electricity rate hikes for PG&E and SCE customers. Today, the CPUC released a rate structure specifying exactly which customer classes would face rate increases and the magnitude of those increases. Overall, retail rates will rise by an average of 19 percent; however, low-income customers, customers with medical baseline allowances, and residential customers consuming less than 130 percent of the standard usage baseline will be exempt from the rate increases.
