California Contemplates a 32,000-Mile High-Wire Act

SACRAMENTO —  To rescue California’s two biggest utilities from financial ruin, the state is offering a swap of grand scale: Give us your electrical transmission system--all 32,000 miles of wire--and we’ll give you enough cash to pay your debtors.

The logic of the deal is as simple as “I give you a dollar, you give me a hot dog,” state Senate Leader John Burton (D-San Francisco) said while introducing a bill last week allowing the state to buy the transmission grid of Pacific Gas & Electric, Southern California Edison and San Diego Gas & Electric.

But in their rush to revive the utilities, legislators have yet to explore the far-reaching implications of owning the fifth-largest coordinated electrical grid in the world, a sprawling network of aluminum and steel that underpins a trillion-dollar economy.

The state would be buying, for several billion dollars, a system that needs $1 billion in immediate expansion and improvements and costs several hundred million dollars a year to maintain.

“Do you really want a hot dog? That is the question,” said Jan Smutny-Jones, executive director of the Independent Energy Producers, a trade group of power plant owners in California.

“Policymakers have to make a choice as to whether spending significant sums of public dollars on the transmission system is the best use of those dollars,” he said.

For example, even after purchasing the grid the state would have to come up with the $1 billion for improvements and expansions that operators say are necessary.

In addition, the takeover faces numerous political hurdles, including opposition from Republicans in the state Legislature and approval from the federal government.

Proponents see California’s potential ownership of the grid as overwhelmingly beneficial. They say it would shrink utility debt, help eliminate electrical congestion and assert the state’s independence from federal regulators--all without raising the minor transmission fees utility customers now pay on monthly bills.

In all, the grid could cost the state anywhere from $3 billion to $9 billion.

No Precedent for Massive Purchase

Such huge expenses are one reason the proposed state takeover would buck a national trend toward privatization of grids serving large regions, including much of Florida. That shift is built on the assumption that the private sector, unlike government, has an incentive to keep costs down.

There is no recent precedent for public purchase of an electrical grid as big as the one at stake here. The closest parallel is that of the Long Island Power Authority, a creation of the New York Legislature, which in 1998 took over 1,300 miles of transmission wires from a debt-burdened private utility.

That power authority floated $6.7 billion in bonds to pay down the private utility’s debt from a nuclear power plant that cost $7 billion to build but never ran long enough to sell a watt of power commercially. The authority’s bonds, plus refinancing, helped reduce Long Island homeowners’ electricity bills by 20%.

Still, some Republican lawmakers question the wisdom of the state diving further into the energy business, given its record so far.

“I’m very suspicious of any plan that presumes that the same government that brought us the [Department of Motor Vehicles] will provide California with rapid, efficient energy,” said Assembly Republican Leader Bill Campbell (R-Villa Park).

“If this crisis teaches us anything,” he said, “it teaches us that government has no experience in the power business and even less expertise.”

Taking title to the grid would also probably trigger a showdown with the Federal Energy Regulatory Commission, a deregulation advocate, which must approve the state’s purchase of the system as being “in the public interest.”

Under Burton’s plan, the state would negotiate a price--perhaps two or three times the $3.2 billion book value of the grid. The state is not considering buying the so-called distribution network, which feeds electricity into homes and businesses through the wires strung on wooden poles.

Burton proposes that in exchange for the transmission system, the utilities would get enough cash to at least partially recoup the $12 billion they have spent buying wholesale electricity for customers whose rates were frozen at 1996 levels by deregulation.

Utility executives argue that they are legally entitled to recover from ratepayers the difference between their soaring costs and what they have been allowed to charge. Today, they are scheduled to press that argument in federal court in Los Angeles.

Robert Glynn Jr., president and chief executive officer of PG&E; Corp., parent of the PG&E; utility, on Friday told lawmakers that “asking us to give up transmission lines would be like asking Safeway to stop selling bread and milk and butter.”

“It is an important part of our business,” Glynn said.

But Edison executives have said they are willing to entertain an offer from the state.

The idea of taking over the grid has won support from a chief energy advisor to Gov. Gray Davis, top Democratic lawmakers, the state treasurer and some consumer activists.

They argue that state ownership will not spawn a new bureaucracy. The state can hire the utilities’ existing crews to maintain the wires and towers, they say, while the 3-year-old California Independent System Operator continues to balance supply against demand on the grid.

“It’s a paper transfer that allows the state to get more out of an asset than the utilities ever could,” said Michael Shames, executive director of the Utility Consumers’ Action Network in San Diego.

The trade-off for California, he said, is this: The state could use a portion of the annual cash flow of about $1.4 billion that the utilities now collect in transmission fees to float $7 billion worth of bonds. Cash from the bonds then could be divided among the utilities to pay off debt and avoid bankruptcy. State leaders say they want to get the utilities back into the business of buying power for their customers. Last month, California assumed that duty at a cost of about $45 million a day in taxpayer money.

Rates most likely would not have to be raised to pay off the bonds, Shames said. Instead, the debt could be repaid with money the state saves as a transmission grid owner that does not have to pay taxes or issue dividends to shareholders--as the utilities do.

Burton argues that state ownership would put California in a stronger position as the federal energy commission pushes states to join together to operate transmission grids on a vast scale for greater efficiency.

“When they regionalize the grid,” he said, “the state’s got leverage and standing. Otherwise you’re at the mercy of someone who’s in it for a buck and not for the people of the state.”

But that notion makes some experts fearful that California, after the abysmal failure of the deregulation plan it embraced in 1996, is turning inward rather than reaching out to cooperate with the neighboring states that supply 20% of its electricity.

“Really, what the West needs is some kind of transmission entity that’s bigger than California,” said Larry Makovich, senior director of electric power research for Cambridge Energy Research Associates, a Massachusetts consulting firm. “The transmission network doesn’t respect the political boundaries of California.”

State ownership would free California to set its own transmission fees. As it is now, the federal energy commission approves the transmission fees PG&E;, Edison and SDG&E; charge customers for construction, operation and maintenance of the grid.

Those charges bring in about $1.4 billion a year for all three utilities. About half of that money is spent repairing and maintaining the grid. The other half is available to the utilities for taxes, shareholder dividends and investment.

Kit Konolige, an analyst with Morgan Stanley Dean Witter & Co., estimates that loss of the transmission grid could cost the utilities up to 20% of their annual profits.

But Shames puts the figure at 10% to 14%, and he says the utilities would be getting cash in return that they could invest elsewhere.

Money Not the Only Issue

With the utilities too debt-ridden to borrow more money, the state would be on the hook to pay the nearly $1 billion in improvements and expansions to the transmission system that Cal-ISO officials have said are needed.

But money is just one part of the equation. Politics is another, complicating decisions about where and how to expand the grid, according to Severin Borenstein, director of the University of California Energy Institute in Berkeley. Such investments have high-stakes implications in California’s new electricity era, in which private firms vie to get top dollar for their megawatts.

Consider Path 15, a 90-mile stretch of the grid in the Central Valley, Borenstein said. It is often incapable of carrying enough electricity from the south to meet demands in the north, and it was a major factor in forcing the rotating blackouts in Northern California on Jan. 17 and 18.

In the winter, that bottleneck benefits power plant owners in the north, because the scarcity of electricity allows them to charge higher prices, Borenstein said. And power plant owners in the south are harmed because they can’t get their electricity to a more lucrative market.

“There are huge winners and losers, much more so than under the old regime,” said Borenstein. “As a result, it’s highly politicized. Lobbying on any transmission investment, both for and against, is ratcheted up.”

Some have argued that control of the transmission system could also give California more leverage with private power plant owners, which have earned substantial profits since prices began soaring in May.

“The idea is that California wants to say, ‘This is our highway. If you want to use it, obey our rules,’ ” said Frank Wolak, a Stanford University economics professor.

But there are limits on how much California can interfere with or charge generators.

Federal rules forbid the owner of the transmission grid from charging unreasonable or discriminatory fees to power plant owners and marketers. Similarly, the “congestion management” rules that grid operators create to control timing and flow of power cannot discriminate.

“There’s a considerable amount of uncertainty as to how much control the state can exert,” Wolak said.

Finally, state leaders have issued no clear signal on what kind of control, if any, they would seek as owners of the transmission grid.

Terry Winter, executive director of Cal-ISO, which regulates flow of electricity on the grid the utilities now own, said he has yet to get an answer from the Sacramento politicians about why they even want to buy the grid.

“If it’s just to give the money to the [utilities], fine, just give the pink slip to the state,” Winter said. “It does, however, raise the question . . . ‘What have they gained by taking over the ownership?’ ”

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Transmission System on the Table

State officials are considering taking ownership of the 32,000-mile electrical transmission system of these three utilities in exchange for helping the companies reduce billions of dollars of debt incurred buying power under California’s deregulation plan.