The deregulation of the Texas electric utility market in 2002 was supposed to usher in an era of unlimited choice and cheap power for all. Instead, Texans have been saddled with some of the highest electricity bills in the nation, and Texans have been hit by a series of rolling blackouts that point towards a dark future as power generation in the State is falling woefully behind population growth.
Gov Perry at Ercot HQ Watching TX Consumers Get Screwed By Deregulation
The largest non-regulated generator of power in Texas, Luminant, and its parent company, Energy Future Holdings, are now blaming the Environmental Protection Agency’s Cross-State Air Pollution Rule for idling four huge coal-fired electric plants the very week an arctic cold front pushed energy consumption in the state to the limit. It is no surprise that Republican politicians like Rick Perry, and heir-to-the-throne, Greg Abbott, have jumped to Luminant’s defense. The full story, however, reveals a company cobbled together during the worst excess of the early 2000’s boom years like some sort of sulphur dioxide spouting Frankenstein that is now on the verge of total collapse. The story also shows the central problem with our deregulated energy sector: Regulated utilities' primary goals are to provide reliable power to their customers. Deregulated utilities' primary goals are to maximize profits for their investors. As the experience of the last ten years in Texas shows, these two goals are not necessarily the same, and Texas residents are paying the price.
There are a couple quirks about power generation in Texas that must be understood before getting to the rest of the story.
First, Texas is unique in having a self-contained energy grid. While the rest of the nation is served by power grids that cross state lines, and even extend into Canada, 75% of Texas’s grid never crosses into another state. In fact, while power lines do extend into Oklahoma, there are DC power converters at the border to “prevent electrons from crossing state lines.” This allows Texas’s grid to remain largely free from federal oversight. Instead of the Feds, the two organizations tasked with maintaining the grid are the Public Utility Commission (PUC), and the Electronic Reliability Council Of Texas, aka ERCOT. ERCOT monitors power use around the state and oversees the flow of power on the grid, while the PUC is supposed to monitor the electricity market to ensure compliance. However, the rules created when deregulation came into being in 2002 actually prevented the PUC from “ordering restitution to consumers or entities harmed by improper market manipulation,” and allowed “some electric generation companies to engage in anti-competitive activities without fear of reprisal,”, according the Story Of ERCOT, a report by R.A. Dyer of the Texas Coalition For Affordable Power. Therefore, ERCOT - an organization whose board is dominated by “self-interested industry players” in which consumers, who “pay the entire cost of the organization and the electric market that it helps oversee, have only a limited voice” - is the only state organization with any real oversight over the electric grid.
Second, electricity prices in Texas are governed by the price of natural gas. The fluctuations in the price of natural gas had a profound impact on the history of deregulation in Texas as we shall see.
The Dallas Observer ran a great piece detailing Luminant’s problems that is long, but well worth the read. I’ll do my best to summarize below the jump.
In April 2006, natural gas prices were at an all time high after Hurricane Katrina wrecked havoc with infrastructure. A North Texas utility, TXU, had in its possession an array of huge, coal-fired power plants that were suddenly extremely valuable, since gas sets the price of power and it was expensive and hard to come by, while coal was cheap and readily available. Kohlberg Kravis Roberts (KKR), an investment firm best known for its leveraged buyout of RJR Nabisco, which was immortalized in the book Barbarians At The Gate, along with Goldman Sachs orchestrated the largest leveraged buyout in history, purchasing TXU and all its holdings for over $45 billion. While it looked like a winning investment at the time, “responsible observers” like Moody’s Investors Service were aghast saying “private equity investors do not represent natural long-term owners of the businesses and assets of TXU.” TXU was renamed Energy Future Holdings (EFH). Luminant is one of its subsidiaries.
A combination of massive debts from the buyout and the fracking boom, which caused a sudden (historic) drop in natural gas prices, doomed EFH. Once natural gas prices dropped below $6.35 per MMBtu (Million British Thermal Units), EFH could no longer break even. As of last night, gas was trading at $2.35 per MMBtu on the New York Mercantile Exchange. Now, EFH is hemorrhaging cash. In 2011, the total value of its debts and assets was, get this, negative $11 billion. Even market guru, Warren Buffet, who invested $2 billion in EFH is getting wiped out. This February, EFH was forced to borrow $800 million (with 11.75% interest) so that it could pay its debts. Tom Sanzillo, a financial analyst, called this move “an obscenity,” adding “You’re supposed to use proceeds from a bond offering to pay for a plant, emission upgrade or new power lines… which then turns into revenue. Not to pay dividends, or to pay off past debts. And 11.75 percent interest? There’s no utility in the country that borrows for that.”
In late 2010, the EPA issued the Cross State Air Pollution Rule which would limit the amount of deadly pollutants (primarily sulphur dioxide) companies like Luminant were allowed to emit. Texas ranks second only to Ohio in sulphur dioxide pollution which causes “increased respiratory symptoms and disease, difficulty in breathing, and premature death.” Luminant’s coal plants account for nearly half of Texas’s total SO2 emissions.
Luminant’s response was predictable. “Without fair notice and opportunity to comment, the EPA has mandated that Texas slash its sulfur dioxide by half and greatly reduce nitrogen oxide emissions in less than five months - an unprecedented and impossible compliance timetable. These requirements would seriously jeopardize the ability of the state’s electric grid to supply power to Texas businesses and consumers and threaten the loss of hundreds of high-paying jobs.”
Many other utility companies saw the writing on the wall and began voluntarily reducing SO2 emissions before the EPAs rule took effect. Luminant actually HAD pollution controls in place, but wasn’t running them during peak demand. Why? Because under deregulation, “generators make more money during peak demand, and running scrubbers reduces the amount of power the unit produces.”
The sad fact though, is that it was a callous attempt to recoup money from a bad investment that is leading to plant closures and future outages. “If Luminant left its scrubbers on all the time, Bernstein Research calculated, it could meet the new EPA regs without idling [any plants].”
The EFH and Luminant situation is not the only mess caused by deregulation in Texas. Deregulation was supposed to cause prices to fall as a result of competition. Instead, electric prices in Texas under deregulation have risen dramatically. According to State Impact Texas, Texans “spent $11 billion cumulatively because of higher rates,” due to deregulation. While prices in Texas have recently dropped below the National average, this seems to be more a function of lower natural gas prices than anything else. Areas of Texas outside deregulation (areas that don't participate in ERCOT or have publicly owned utilities like Austin and San Antonio) have maintained prices well below the national average throughout the period of deregulation. Also, “Texas has one of the lowest electric reserve margins (i.e. back up power) in the country. That means we are at a greater risk of rolling blackouts during times of high energy use.”
Which brings us back to the central problem. Kent Saathoff, head of planning and operations for ERCOT, sums it up for me. “Lower natural gas prices have essentially lowered the cost of electricity, which has made it less attractive for investors to build new generation in ERCOT, and so lower natural gas prices, while they're certainly good in the short term, they certainly don't incentivize new generation to be built in the state.” A private company, beholden only to its investors, has no incentive to build excess power generation in case of emergency. It doesn’t make business sense.
Consumers of electricity, however, depend on it to be reliable, especially when demand spikes (on hot summer days, or cold snaps). While deregulation is probably here to stay, something must be done to ensure that utilities act in the public interest. Political grandstanding and frivolous lawsuits filed against the EPA won't do it. Our economy and our future depend on it.
Update 12:39 p.m.
Luminant contacted me shortly after posting this and requested I make a couple changes. Due to a lack of evidence, I removed this paragraph:
The four plants that were off-line when the cold snap hit in Feb 2011 were down to reduce Luminant’s total SO2 emissions for the year at a time of year (winter in Texas) when they assumed there would be low demand. They were wrong, and, because ERCOT partitioned the electric failure across the entire state, huge numbers of Texans lost power on days when the temperature never got above 17 degrees fahrenheit.
Luminant claims the plants went down due “the highest winter electricity demand in the history of ERCOT,” and “prolonged and subfreezing temperatures.”
Luminant also requested that I remove a direct quote from the Dallas Observer piece which cites Bernstein Research, which, according to their website, “is widely recognized as Wall Street's premier sell-side research firm.” I see no reason to remove this quote.
They also gave me some information about SO2 emissions that is misleading:
First, it's important to note that under current SO2 emission standards, the state is in compliance. The facts are that Texas's fleet of power plants already has SO2 emission rates that are more than 20% lower than the national average, and that over the last decade in Texas, SO2 emissions were reduced by 33 percent even while generation increased by 30 percent. Since 2005, Luminant alone has achieved a 21% reduction in total SO2 emissions, while over the same period increasing total generation by 13%.
Texas is in compliance, because it is exempted from most of the Cross-State Air Pollution Rule. They do not argue with my statement that Luminant is responsible for almost half of SO2 emissions in Texas.
Finally, I would like to note that Luminant did not object to me calling them a “sulphur dioxide spouting frankenstein that is now on the verge of total collapse.” Good times.