Pay More or Your Lights Go Out

There’s a specter haunting Texas — the specter of blackouts. As the Austin American-Statesman reported earlier this month:

Texas could face power shortages as soon as next year as aging plants are mothballed in response to new environmental standards, according to the state’s grid operator and the organization that monitors the U.S. power grids for the federal government.

In separate reports released days apart, both organizations determined that Texas will soon have an inadequate supply of backup power during periods of peak demand. The shrinking power reserves increase the chances of rolling blackouts if a major power plant goes offline on a very hot or cold day, when power use is greatest.

The political class has been infected by fear-mongering. At a U.S. Senate subcommittee hearing in June, the chairman of the Texas Commission on Environmental Quality, Bryan Shaw, dialed it up to 11.

If the EPA clean-air rules go into effect with major changes, “the TCEQ is very concerned that the reliability of the Texas electrical power system will be severely compromised,” Shaw told the subcommittee. “The TCEQ anticipates that the ultimate outcome of the proposed [rule] may be rolling blackouts and cost-prohibitive electricity. Without reliable and affordable electricity, sensitive populations may be at risk during severe winter weather or hot summer temperatures.”

You scared yet, grandma?

While ERCOT, the state’s grid operator, and Perry’s appointees are trying to blame this (allegedly) imminent crisis on environmental regulations, there’s a much deeper, more complex storyline unfolding. The main thread here is that Texas’ deregulated electric system is being put to the test in a way we haven’t seen since the skyrocketing prices of 2006-2009.

When the Texas Legislature deregulated the system in 1999, they stripped public stewards of control and put market forces in charge. No longer would state regulators have a say in the prices that consumers pay or make decisions about when and where to build new power plants.

Ideally, ERCOT and the champions of deregulation want the “free market” they’ve designed to function without untidy intervention by central managers or the state. They want investors to run into the ERCOT market and build some power plants to deal with the (allegedly) looming crisis.

The system is designed to be “energy-only” — that’s jargon that means “price signals” are solely in control, not stewards of the grid with powerful regulatory tools. “Price signals” alone will “incent” investors to build power plants. ERCOT is the only power market in the United States designed this way.

If ERCOT is genuinely panicking, it’s because their energy-only market design is posed to fail. The problem, they think, is prices aren’t high enough to lure new generation into the market.

In the short term, all ERCOT can do is whip up fear. That’s basically what this latest report is designed to do. But first it’s important to note that ERCOT’s long-range projections almost always show a power deficit in the not-so-distant future. This has, largely, to do with the way they calculate the reserve margin. First, they typically only count generation — wind, coal, natural gas, whatever — once the owner has secured final permission from the state to build. This excludes power plants that will eventually get built but haven’t reached the final stage of permitting.

Also, the reserve margins don’t include so-called “mothballed” power plants — old, inefficient power generation that’ve been taken off-line but could still be made available if economic conditions change.

“I think it’s premature for them to reach the conclusion that the prices are insufficient to bring new generation on-line,” said Clarence Johnson, a former official with the consumer-oriented Office of Public Utility Counsel. Investors, he said, typically wait until the last second to sink money into pricey new power plants.

Finally, like Alan Greenspan’s every utterance, these reserve margin reports have an effect on the market. They’re meant to avoid the situation — blackouts! scarcity! candlelight! — they warn about. The alarmism is intended to be the opposite of a self-fulfilling prophecy: Warn about the crisis in order to avert it.

Still, “pretty please” probably isn’t enough for profit-hungry investors. Indeed, many big-time power generators are looking forward to scarcity because it means higher prices and bigger profits for them. 

“But on the wholesale side, we think that the power prices are going to have to recognize the scarcity of generation assets,” John Young, the CEO of Energy Future Holdings, told analysts in late October. “And that will eventually flow through to the retail business.”

Translation: Consumers must pay more.

An executive with Calpine Corp., a large power generator in Texas, made similar remarks at a conference in September.

“[W]e do think that Texas is showing the commitment that’s going to be required to let price work and help the market and to send investment going forward and we think there’s a lot of upside in Texas because of that,” said Thad Hill, Chief Operating Officer of Calpine. 

And just in case prices don’t go up quick enough, ERCOT and the Texas Public Utility Commission are exploring several “radical changes” to jack up prices during times when power is really tight. For example, the PUC is considering doubling the cap on prices in the wholesale spot market — already the most generous in the nation — from $3,000 per megawatt to $6,000. ERCOT is also looking at allowing prices to go higher in a secondary market used to balance supply and demand. The chairman of the Public Utility Commission, Kenneth Anderson, a Perry appointee, is driving many of the changes.

“[I]n my opinion the Commission must act sooner rather than later to ensure that ERCOT’s energy-only market sends the correct price signals when shortage conditions occur,” Anderson wrote in a December memo. 

The PUC’s suddenly interventionist attitude is ironic to long-time deregulation skeptics.

“Deregulation was sold as a way of putting the risk back on the generators, the risk that market conditions might not turn out etc,” said Clarence Johnson. “But it seems to me that we’ve sort of changed the argument here.”

Now, “if the generators are unwilling to accept the risk or if the profits for generators are not sufficient then we’ve got to somehow manipulate the market or change the market rules in order to make generation more economic, to make it more compensatory, which is getting right back to regulation.”

Ten years into the Texas deregulation experiment, its architects find themselves in a peculiar situation: They’ve abdicated the tools of regulation to the marketplace but the marketplace is demanding more. Will they feed the beast?