Krugman on Cal power

Michael Pollak mpollak at panix.com
Sat Mar 24 19:31:49 PST 2001


[The new idea is in the penultimate paragraph -- that price caps could increase the supply of power]

March 25, 2001

The Price of Power

By PAUL KRUGMAN

W elcome to the Cartel California. Last week a report by the

Independent System Operator, which runs California's power grid, made

it more or less official: the electricity crisis in the Golden State

is partly the result of market manipulation by power generators. The

report alleges that generators overcharged the state's utilities,

which distribute power to consumers, by more than $6 billion over a

10-month period.

The report is almost certain to be ignored by federal authorities. But

I'll come back to that in a minute. First, there are a couple of

things I need to make clear about the report's claims.

The I.S.O. is not alleging that power generators were part of some

vast conspiracy. Actually, I shouldn't have used the word "cartel" in

the opening sentence. The generators didn't have to conspire: the

logic of the situation made it easy, almost irresistible, for each

individual company to manipulate the market. In fact, to believe that

the generators didn't engage in market manipulation, you have to

believe that they are either saints or very bad businessmen, because

they would have been passing up an obvious opportunity to increase

their profits.

Imagine the situation: it's a hot summer, and the California

electricity market is very tight. You are one of only a handful of

major players selling wholesale electricity. Surely the thought has to

occur to you: what would happen to prices if one of my plants just

happened to go off line? And when companies act on that thought . . .

well, you get the picture.

It's also important to realize that accusations that power companies

were withholding electricity to drive up prices didn't emerge out of

nowhere when the crisis erupted; this isn't a case of politicians

suddenly looking for scapegoats. On the contrary, economists were

raising red flags about the possibility of market manipulation long

before California's woes hit the headlines. Indeed, some economists

warned about the issue before California even deregulated: there was

clear evidence that "market power" was a problem in Britain, which

began experimenting with deregulation and privatization years before

the movement came to America.

And the research evidence continues to pile up. Just before the I.S.O.

issued its report, the economists Paul Joskow and Edward Kahn

circulated a study that found strong evidence that "exercise of market

power" played a large role in raising electricity prices last summer.

The authors aren't leftists, or even opponents of deregulation. They

were merely trying to look objectively at the evidence, which points

more or less unmistakably to the conclusion that deliberate

withholding of electricity to drive up prices has been an important

factor in the California crisis.

Still, there is every reason to believe that Washington will turn a

deaf ear to this evidence. As an article in this newspaper explained

on Friday, the Federal Energy Regulatory Commission, which is supposed

to act as the nation's watchdog over the energy industry, lately seems

more like a lapdog. I was particularly struck with the report that

FERC's staff found that California's power companies "had the

potential to exercise market power," but could not conclude that they

had actually used that power. As I said, those power generators must

be saints, bad businessmen, or both.

What should the regulators be doing? I'm skeptical about proposals to

make the generators pay big fines; it's not clear that you could

figure out which company was responsible for which part of the

problem, or for that matter that the companies were doing anything

illegal. What FERC could do is impose a temporary cap on wholesale

prices. This would limit the financial damage to California the state

government is currently spending more than a billion dollars a month

to subsidize electricity purchases. And in a market where "exercise of

market power" is a major factor, a wholesale price cap might actually

increase supplies, because power companies would no longer have an

incentive to withhold electricity to drive up its price.

But it's not going to happen. Blame knee-jerk free-market ideology, or

the political influence of the power companies (many of which are

based in, yes, Texas). Whatever the reason, it is hard to imagine an

administration less likely to be sympathetic to California's plight

than the one currently in power.

And if this indifference makes Californians angry, it should.

Copyright 2001 The New York Times Company



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