|1996||California begins to loosen controls on its energy market and takes measures to increase competition.|
|April 1998||Spot market for energy begins operation.|
|May 2000||Significant energy price rises.|
|June 14, 2000||Blackouts affect 97,000 customers in San Francisco Bay area during a heat wave.|
|August 2000||San Diego Gas & Electric Company files a complaint alleging manipulation of the markets.|
|January 17-18, 2001||Blackouts affect several hundred thousand customers.|
|January 17, 2001||Governor Davis declares a state of emergency.|
|March 19-20, 2001||Blackouts affect 1.5 million customers.|
|April 2001||Pacific Gas & Electric Co. files for bankruptcy.|
|May 7-8, 2001||Blackouts affect upwards of 167,000 customers.|
|September 2001||Energy prices normalize.|
|December 2001||Following the bankruptcy of Enron, it is alleged that energy prices were manipulated by Enron.|
|February 2002||Federal Energy Regulatory Commission begins investigation of Enron's involvement.|
|Winter 2002||The Enron Tapes scandal begins to surface.|
|November 13, 2003||Governor Davis ends the state of emergency.|
State lawmakers expected the price of electricity to decrease due to the resulting competition; hence they capped the price of electricity at the pre-deregulation level. Since they also saw it as imperative that the supply of electricity remain uninterrupted, utility companies were required by law to buy electricity from spot markets at uncapped prices when faced with imminent power shortages.
When the electricity demand in California rose, utilities had no financial incentive to expand production, as long term prices were capped. Instead, wholesalers such as Enron manipulated the market to force utility companies into daily spot markets for short term gain. For example, in a market technique known as megawatt laundering, wholesalers bought up electricity in California at below cap price to sell out of state, creating shortages. In some instances, wholesalers scheduled power transmission to create congestion and drive up prices.
After extensive investigation The Federal Energy Regulatory Commission (FERC) substantially agreed in 2003:
Some proponents of deregulation suggest that the major flaw of the deregulation scheme was that it was an incomplete deregulation -- that is, "middleman" utility distributors continued to be regulated and forced to charge fixed prices, and continued to have limited choice in terms of electricity providers. Other, less catastrophic energy deregulation schemes have generally deregulated utilities but kept the providers regulated, or deregulated both.
The deregulation called for the Investor Owned Utilities, or IOUs, (primarily Pacific Gas and Electric, Southern California Edison, and San Diego Gas and Electric) to sell off a significant part of their power generation to wholly private, unregulated companies such as AES, Reliant, and Enron. The buyers of those power plants then became the wholesalers from which the IOUs needed to buy the electricity that they used to own themselves. While the selling of power plants to private companies was labeled "deregulation", in fact Steve Peace and the California legislature expected that there would be regulation by the FERC which would prevent manipulation. The FERC's job, in theory, is to regulate and enforce Federal law, preventing market manipulation and price manipulation of energy markets. When called upon to regulate the out-of-state privateers which were clearly manipulating the California energy market, the FERC hardly reacted at all and did not take serious action against Enron, Reliant, or any other privateers. FERC's resources are in fact quite sparse in comparison to their entrusted task of policing the energy market. Lobbying by private companies may also have slowed down regulation and enforcement.
In the summer of 2000 a drought in the northwest states reduced the amount of hydroelectric power available to California. Though at no point during the crisis was California's sum of [actual electric-generating capacity]+[out of state supply] less than demand, California's energy reserves were low enough that during peak hours the private industry which owned power-generating plants could effectively hold the State hostage by shutting down their plants for "maintenance" in order to manipulate supply and demand. These critical shutdowns often occurred for no other reason than to force California's electricity grid managers into a position where they would be forced to purchase electricity on the "spot market", where private generators could charge astronomical rates. Even though these rates were semi-regulated and tied to the price of natural gas, the companies (which included Enron and Reliant Energy) controlled the supply of natural gas as well. Manipulation by the industry of natural gas prices resulted in higher electricity rates that could be charged under the semi-regulations.
In addition, the energy companies took advantage of California's electrical infrastructure weakness. The main line which allowed electricity to travel from the north to the south, Path 15, had not been improved for many years and became a major bottleneck point which limited the amount of power that could be sent south to 3,900 MW. Without the manipulation by energy companies, this bottleneck was not problematic, but the effects of the bottleneck compounded the price manipulation by hamstringing energy grid managers in their ability to transport electricity from one area to another. With a smaller pool of generators available to draw from in each area, managers were forced to work in two markets to buy energy, both of which were being manipulated by the energy companies.
The International Energy Agency estimates that a 5% lowering of demand would result in a 50% price reduction during the peak hours of the California electricity crisis in 2000/2001. With better demand response the market also becomes more resilient to intentional withdrawal of offers from the supply side.
Then, in 2000, wholesale prices were deregulated, but retail prices were regulated for the incumbents as part of a deal with the regulator, allowing the incumbent utilities to recover the cost of assets that would be stranded as a result of greater competition, based on the expectation that "frozen" rates would remain higher than wholesale prices. This assumption remained true from April 1998 through May 2000.
Energy deregulation put the three companies that distribute electricity into a tough situation. Energy deregulation policy froze or capped the existing price of energy that the three energy distributors could charge. Deregulating the producers of energy did not lower the cost of energy. Deregulation did not encourage new producers to create more power and drive down prices. Instead, with increasing demand for electricity, the producers of energy charged more for electricity. The producers used moments of spike energy production to inflate the price of energy. In January 2001, energy producers began shutting down plants to increase prices.
When electricity wholesale prices exceeded retail prices, end user demand was unaffected, but the incumbent utility companies still had to purchase power, albeit at a loss. This allowed independent producers to manipulate prices in the electricity market by withholding electricity generation, arbitraging the price between internal generation and imported (interstate) power, and causing artificial transmission constraints. This was a procedure referred to as "gaming the market." In economic terms, the incumbents who were still subject to retail price caps were faced with inelastic demand (see also: Demand response). They were unable to pass the higher prices on to consumers without approval from the public utilities commission. The affected incumbents were Southern California Edison (SCE) and Pacific Gas & Electric (PG&E). Pro-privatization advocates insist the cause of the problem was that the regulator still held too much control over the market, and true market processes were stymied — whereas opponents of deregulation simply assert that the fully regulated system had worked perfectly well for 40 years, and that deregulation created an opportunity for unscrupulous speculators to wreck a viable system.
Megawatt laundering is the term, analogous to money laundering, coined to describe the process of obscuring the true origins of specific quantities of electricity being sold on the energy market. The California energy market allowed for energy companies to charge higher prices for electricity produced out-of-state. It was therefore advantageous to make it appear that electricity was being generated somewhere other than California.
Overscheduling is a term used in describing the manipulation of capacity available for the transportation of electricity along power lines. Power lines have a defined maximum load. Lines must be booked (or scheduled) in advance for transporting bought-and-sold quantities of electricity. "Overscheduling" means a deliberate reservation of more line usage than is actually required and can create the appearance that the power lines are congested. Overscheduling was one of the building blocks of a number of scams. For example, the Death Star group of scams played on the market rules which required the state to pay "congestion fees" to alleviate congestion on major power lines. "Congestion fees" were a variety of financial incentives aimed at ensuring power providers solved the congestion problem. But in the Death Star scenario, the congestion was entirely illusory and the congestion fees would therefore simply increase profits.
In a letter sent from David Fabian to Senator Boxer in 2002, it was alleged that:
On December 15, 2000, the Federal Energy Regulatory Commission (FERC) rejected California's request for a wholesale rate cap for California, instead approving a "flexible cap" plan of $150 per megawatt-hour. That day, California was paying wholesale prices of over $1400 per megawatt-hour, compared to $45 per megawatt-hour average one year earlier.
In January 17, 2001, the electricity crisis caused Governor Gray Davis to declare a state of emergency. Speculators, led by Enron Corporation, were collectively making large profits while the state teetered on the edge for weeks, and finally suffered rolling blackouts January 17-18. Davis was forced to step in to buy power at highly unfavorable terms on the open market, since the California power companies were technically bankrupt and had no buying power. The resulting massive long term debt obligations added to the state budget crisis and led to widespread grumbling about Davis' administration.
Between 2000 and 2001, the combined California utilities laid off 1,300 workers, from 56,000 to 54,700, in an effort to remain solvent. San Diego had worked through the stranded asset provision and was in a position to increase prices to reflect the spot market. Small businesses were badly affected.
According to a 2007 study of Department of Energy data by Power in the Public Interest, retail electricity prices rose much more from 1999 to 2007 in states that adopted deregulation than in those that did not.
One of the energy wholesalers that became notorious for "gaming the market" and reaping huge speculative profits was Enron Corporation. Enron CEO Ken Lay mocked the efforts by the California State government to thwart the practices of the energy wholesalers, saying, "In the final analysis, it doesn't matter what you crazy people in California do, because I got smart guys who can always figure out how to make money." The original statement was made in a phone conversation between David Freeman (Chairman of the California Power Authority) and Kenneth Lay (CEO of Enron) in 2000, according to the statements made by Freeman to the Senate Subcommittee on Consumer Affairs, Foreign Commerce and Tourism in April and May 2002.
S. David Freeman, who was appointed Chair of the California Power Authority in the midst of the crisis, made the following statements about Enron's involvement in testimony submitted before the Subcommittee on Consumer Affairs, Foreign Commerce and Tourism of the Senate Committee on Commerce, Science and Transportation on May 15, 2002:
Enron eventually went bankrupt, and signed a US$1.52 billion settlement with a group of California agencies and private utilities on July 16, 2005. However, due to its other bankruptcy obligations, only US$202 million of this was expected to be paid. Ken Lay was convicted of multiple criminal charges unrelated to the California energy crisis on May 25, 2006, but he died due to a massive heart attack on July 5 of that year before he could be sentenced. Because Lay died while his case was on federal appeal, his record was expunged and his family was allowed to retain all its property.
Enron traded in energy derivatives specifically exempted from regulation by the Commodity Futures Trading Commission. At a Senate hearing in January 2002, Vincent Viola, chairman of the New York Mercantile Exchange -- the largest forum for energy contract trading and clearing -- urged that Enron-like companies, which don't operate in trading "pits" and don't have the same government regulations, be given the same requirements for "compliance, disclosure, and oversight." He asked the committee to enforce "greater transparency" for the records of companies like Enron. In any case, the U.S. Supreme Court had ruled "that FERC has had the authority to negate bilateral contracts if it finds that the prices, terms or conditions of those contracts are unjust or unreasonable." Nevada was the first state to attempt recovery of such contract losses.
At a time when streets in Northern California were lit only by head lights, factories shut down and families were trapped in elevators, Enron Energy traders laughed:
"Just cut 'em off. They're so f----d. They should just bring back f-----g horses and carriages, f-----g lamps, f-----g kerosene lamps."
In another tape a trader laughed when describing his reaction when a business owner complained about high energy prices:
“I just looked at him. I said, ‘Move.’ (laughter) The guy was like horrified. I go, ‘Look, don’t take it the wrong way. Move. It isn’t getting fixed anytime soon.”
When a forest fire shut down a major power line into California, cutting down power supplies and raising prices, Enron energy traders were heard laughing and celebrating, singing ‘burn, baby, burn.’
During the winter of 2000, elecricity loads were drastically lower than summer due to, among other things, the lack of need for air conditioning. The capacity for energy production in California was nearly four times what was actually used. Still, the rolling blackouts continued. Traders became very creative in finding ways to cut the supply of electricity. Regularly, phone calls were made directly to the power plants asking the supervisors to shut down during peak use hours, as in the following conversation:
Trader: “If you took down the steamer [from a generating unit], how long would it take to get it back up?”
Supervisor: “Oh, it’s not something you want to just be turning on and off every hour. Let’s put it that way,” another says.
Trader: “Well, why don’t you just go ahead and shut her down.”
Soon afterward, the following conversation took place by another two Enron traders
Trader 3: "This guy from the Wall Street Journal calls me up a little bit ago…"
Trader 4: "I wouldn't do it, because first of all you'd have to tell 'em a lot of lies because if you told the truth…"
Trader 3: "I'd get in trouble."
Trader 4: "You'd get in trouble."
Another conversation went as such:
Trader 1: “They’re f-----g taking all the money back from you guys? All the money you guys stole from those poor grandmothers in California?”
Trader 2: "Yeah, Grandma Millie man. But she’s the one who couldn’t figure out how to f-----g vote on the butterfly ballot."
Trader 1: "Yeah, now she wants her f-----g money back for all the power you've charged right up, jammed right up her a-- for f-----g $250 a megawatt hour."
In an Aug. 4, 2000, conversation, Enron trading executives John Lavorato and Tim Belden discussed a dispute involving traders who worked for Lavorato. The two Enron executives appeared to acknowledge the illegality of the trading.
Lavorato: “I’m just, ah f--k, I’m just trying to be an honest camper, so I only go to jail once.”
Belden: “Well, there you go. At least in only one country. (Laughs.)”
Lavorato: “Yeah, [unknown] this isn’t a joke
In a speech at UCLA on August 19, 2003, Davis apologized for being slow to act during the energy crisis, but then forcefully attacked the Houston-based energy suppliers: "I inherited the energy deregulation scheme which put us all at the mercy of the big energy producers. We got no help from the Federal government. In fact, when I was fighting Enron and the other energy companies, these same companies were sitting down with Vice President Cheney to draft a national energy strategy."
Signs of trouble first cropped up in the spring of 2000 when electricity bills skyrocketed for customers in San Diego, the first area of the state to deregulate. Experts warned of an impending energy crisis, but Governor Davis did little to respond until the crisis became statewide that summer. Davis would issue a state of emergency on January 17, 2001, when wholesale electricity prices hit new highs and the state began issuing rolling blackouts.
Some critics, such as Arianna Huffington, alleged that Davis was lulled to inaction by campaign contributions from energy producers. In addition, the California State Legislature would sometimes push Davis to act decisively by taking over power plants which were known to have been gamed and place them back under control of the utilities, ensuring a more steady supply and slapping the nose of the worst manipulators . Meanwhile, conservatives argued that Davis signed overpriced energy contracts, employed incompetent negotiators, and refused to allow prices to rise for residences statewide much like they did in San Diego, which they argue could have given Davis more leverage against the energy traders and encouraged more conservation. More criticism is given in the book Conspiracy of Fools, which gives the details of a meeting between the governor and his officials; Clinton Administration treasury officials; and energy executives, including market manipulators such as Enron, where Gray Davis disagreed with the treasury officials and energy executives. They advised suspending environmental studies to build power plants and a small rate hike to prepare for long-term power contracts (Davis eventually signed overpriced ones, as noted above), while Davis supported price caps, denounced the other solutions as too politically risky, and acted rudely.
The crisis, and the subsequent government intervention, have had political ramifications, and is regarded as one of the major contributing factors to the 2003 recall election of Governor Davis.
On November 13, 2003, shortly before leaving office, Davis officially brought the energy crisis to an end by issuing a proclamation ending the state of emergency he declared on January 17, 2001. The state of emergency allowed the state to buy electricity for the financially strapped utility companies. The emergency authority allowed Davis to order the California Energy Commission to streamline the application process for new power plants. During that time, California issued licenses to 38 new power plants, amounting to 14,365 megawatts of electricity production when completed.
The Federal Energy Regulatory Commission (FERC) was intimately involved with the handling of the crisis from the summer of 2000. There were in fact at least four separate FERC investigations.
As of January 2006, the refund case is ongoing.