Senate Hearing, 107TH Congress - Electricity Rates

S. HRG.
10749
ELECTRICITY RATES
HEARING
BEFORE THE
COMMITTEE ON
ENERGY AND NATURAL RESOURCES
UNITED STATES SENATE
ONE HUNDRED SEVENTH CONGRESS
FIRST SESSION
ON
S. 26 S. 287
S. 80 Amdt. to S. 287
MARCH 15, 2001
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COMMITTEE ON ENERGY AND NATURAL RESOURCES
FRANK H. MURKOWSKI, Alaska, Chairman
PETE V. DOMENICI, New Mexico JEFF BINGAMAN, New Mexico
DON NICKLES, Oklahoma DANIEL K. AKAKA, Hawaii
LARRY E. CRAIG, Idaho BYRON L. DORGAN, North Dakota
BEN NIGHTHORSE CAMPBELL, Colorado BOB GRAHAM, Florida
CRAIG THOMAS, Wyoming RON WYDEN, Oregon
RICHARD C. SHELBY, Alabama TIM JOHNSON, South Dakota
CONRAD BURNS, Montana MARY L. LANDRIEU, Louisiana
JON KYL, Arizona EVAN BAYH, Indiana
CHUCK HAGEL, Nebraska DIANNE FEINSTEIN, California
GORDON SMITH, Oregon CHARLES E. SCHUMER, New York
MARIA CANTWELL, Washington
BRIAN P. MALNAK, Staff Director

DAVID G. DYE, Chief Counsel
JAMES P. BEIRNE, Deputy Chief Counsel
ROBERT M. SIMON, Democratic Staff Director
SAM E. FOWLER, Democratic Chief Counsel
HOWARD USEEM, Senior Professional Staff Member
(II)
CONTENTS
STATEMENTS
Page
Abraham, Hon. Spencer, Secretary, Department of Energy ................................ 15
Baum, Stephen L., Chairman, President and CEO, Sempra Energy, San
Diego, CA .............................................................................................................. 66
Bingaman, Hon. Jeff, U.S. Senator from New Mexico .......................................... 5
Bryson, John E., Chairman, President and CEO, Edison International,
Rosemead, CA ....................................................................................................... 62
Burns, Hon. Conrad, U.S. Senator from Montana ................................................ 14
Campbell, Hon. Ben Nighthorse, U.S. Senator from Colorado ............................ 6
Cantwell, Hon. Maria, U.S. Senator from Washington ........................................ 13
Craig, Hon. Larry E., U.S. Senator from Idaho .................................................... 7
Feinstein, Hon. Dianne, U.S. Senator from California ......................................... 8
Fetter, Steven M., Managing Director, Global Power Group, Fitch, Inc., New
York, NY ............................................................................................................... 78
Hagel, Hon. Chuck, U.S. Senator from Nebraska ................................................. 12
He bert, Curt L., Jr., Chairman, Federal Energy Regulatory Commission ......... 48
Hecht, William F., Chairman, President and CEO, PPL Corporation, Allen-
town, PA ................................................................................................................ 73
Landrieu, Hon. Mary L., U.S. Senator from Louisiana ........................................ 13
Locke, Hon. Gary, Governor, State of Washington ............................................... 41
Martz, Hon. Judy, Governor, State of Montana .................................................... 45
Murkowski, Hon. Frank H., U.S. Senator from Alaska ....................................... 1
Smith, Hon. Gordon, U.S. Senator from Oregon ................................................... 11
Thomas, Hon. Craig, U.S. Senator from Wyoming ............................................... 15
Worthington, Bruce, Senior Vice President and General Counsel, PG&E Cor-
poration, San Francisco, CA ................................................................................ 70
APPENDIXES
APPENDIX I
Responses to additional questions .......................................................................... 91
APPENDIX II
Additional material submitted for the record ........................................................ 99
(III)
ELECTRICITY RATES
THURSDAY, MARCH 15, 2001
U.S. SENATE,
COMMITTEE ON ENERGY
NATURAL RESOURCES,AND
Washington, DC.
The committee met, pursuant to notice, at 9:10 a.m., in room
SH216, Hart Senate Office Building, Hon. Frank H. Murkowski,
chairman, presiding.
OPENING STATEMENT OF HON. FRANK H. MURKOWSKI,
U.S. SENATOR FROM ALASKA
The CHAIRMAN. Good morning, ladies and gentlemen. The Com-
mittee on Energy and Natural Resources will convene.
Today we have a very interesting panel led by the Honorable
Spence Abraham, one of our own, as Secretary of the U.S. Depart-
ment of Energy. We were chatting in the back room, and it oc-
curred to me that the responsibilities of the Department of Energy
were kind of what we thought the world looked like before Colum-
bus proved it was round: seemingly flat; it has no end. As a con-
sequence, I am not suggesting you are here to end it by any means,
Mr. Secretary, but the dimension is beyond comprehension.
On panel 2, we will have the Honorable Curt He bert, Chairman
of the Federal Energy Regulatory Commission, which is expected to
solve many of these problems that we are going to hear about
today.
We have panel 3: the Honorable Gary Locke, Governor of the
State of Washington, and the Honorable Judy Martz, Governor of
the State of Montana.
Panel 4: Bruce Worthington, senior vice president and general
counsel of PG&E, San Francisco; John Bryson, chairman, CEO, and
president of Edison International of Rosemead, California; Steve
Baum, chairman, CEO, and president of Sempra Energy, San
Diego, California; William Hecht, chairman, CEO, and president of
PPL Corporation, Allentown, Pennsylvania; and Steve Fetter, man-
aging director of the Global Power Group at Fitch, New York.
Senator Bingaman and I are going to chair this hearing this
morning. About 9:25 I am going to have to go downtown for a few
minutes on another matter that was previously scheduled, but I
will be rejoining the hearing.
We are having fast-breaking news. I understand that there was
a press conference and perhaps some concurrence between two of
our members, and they can tell us about that.
I cannot help but note the Wall Street Journal this morning
makes a rather startling statement that this energy shortage is not
(1)
2
unique to California by any means. The Wall Street Journal sug-

gests this morning that the New York independent system opera-
tors said that 8,600 megawatts of new power capacity, a 25 percent
increase from what currently exists, must be constructed by 2006
or shortages will become so pronounced that they will push up
prices and raise the specter of blackouts.
Whether we want to adhere to that projection, I think we ought
to at least recognize that we have heard these projections at pre-
vious times and, unfortunately, we have not taken action. As a con-
sequence, we find ourselves in a rather embarrassing position
today, and it appears to be getting worse.
In any event, let me make a brief statement here. Then I will
call on Senator Bingaman and then we will go around with the
members.
What we have today, at least currently, are three bills by Sen-
ator Feinstein and Senator Boxer that attempt to address the Cali-
fornia electric supply problem, and the methodology is price con-
trols on wholesale power sold, as I understand it, in all Western
States.
Before we proceed, I think we must decide what are we really
trying to fix. Are we trying to fix power shortages and price spikes
as the fix-all? Or are these symptoms of perhaps deeper problems:
inadequate generation, inadequate transmission? Unfortunately, in
my opinion, these three bills do not fix the supply problem in Cali-
fornia, and I emphasize supply.
I would note that in the 1970s we did impose price controls on
oil and natural gas. We have had some experience with it. At that
time it did not work. Those who forget historywe have heard this
beforeare condemned to repeat it. Simply put, price controls in
my opinion will not solve Californias supply problem.
Let me point out a couple relevant facts.
First, California is dead lastdead lastin the Nation in terms
of electric generation per person. Yet, I believe it ranks sixth in the
world economy in comparison.
Second, California has very low monthly electric bills in compari-
son to other areas. Consumers in 37 other States have higher bills.
For example, consumers in Oregon paid about $61.40 per month in
1999, which are the latest available figures from the Secretarys of-
fice, as compared with $58.70 per month in California. The nation-
wide average residential bill is about $70.88.
The staff has prepared a detailed summary of the bills but brief-
ly, as I understand it, S. 287, the Feinstein/Boxer bill, requires
FERC to impose cost-of-service price controls on wholesale elec-
tricity sold in the West. Cost-of-service price control is the price set
on a generator-by-generator basis, calculated by adding the actual
cost of generating power plus a rate of return on invested capital.
S. 80, the Boxer/Feinstein bill, requires FERC to impose a price
cap on wholesale electricity. Now, the wholesale price cap is a sin-
gle maximum price which may not be exceeded regardless of the
cost of production. I think we have to ask ourselves if that, in fact,
stimulates generating capacity coming into California. I think we
know what the answer is.
S. 26, the Feinstein/Boxer bill, requires the Secretary of Energy
to impose either a price cap or a cost-of-service price control on
3
wholesale electricity. Now, that basically takes the authority from

an independent regulatory agency, FERC, which we assume is an
objective agency, and gives it to a political appointee. No offense,
Mr. Secretary, but the Secretary of Energy is given that authority.
I think that is contrary to the object of initially establishing FERC
because it sets it in a political arena.
In addition, amendment no. 12 by Senator Smith, as I under-
stand it, would require the States to allow the pass-through of
costs to consumers if they are to receive wholesale price controls.
I think there is some justification for this, certainly, in ensuring
that we have some relief by increasing power generating capacity
because unless there is the assurance of a pass-through, I doubt
very much if it is going to be economically viable to attract those
that want to put in facilities. In my opinion, this would address the
problem of California denying the utilities the pass-through of their
costs, which I understand is about $13 billion to date.
I am of the opinion that if you receive the power, you are entitled
to pay for it. Clearly the California consumers got consideration.
They got power. Whether the price was reasonable or unreasonable
I think is an obligation of FERC, but the utilities are certainly enti-
tled to payment. The question is, who is going to pay for it? Is it
going to be the taxpayer of California or is it going to be the rate-
payer of California?
The three price control bills I think raise some policy concerns
for the committee.
First, imposing price controls on wholesale power, as I indicated,
in my opinion will discourage construction of new generation. Why
will investors build powerplants in California subject to price con-
trols if they can build them elsewhere and not be subject to price
controls?
Second, it appears that the bills are intended to exempt munici-
pally owned utilities from price controls. If that is true, with only
part of the wholesale power market subject to price regulation,
loopholes and market distortions certainly could be created. I would
note that California ordered its investor-owned utilities to divest
their fossil fuel fired generation and to purchase power exclusively
from the spot market but, in doing so, exempted or they opted out
Californias municipally owned utilities from doing the same thing.
It is my understanding they were given a choice. The independent
utilities could not have that choice.
I think it is interesting to wonder and speculate that the Los An-
geles Department of Water, which is owned by the city of Los An-
geles, has made hundreds of millions of dollars of profit from sell-
ing electricity to the power-short investors and the investor-owned
utilities during this crisis. I think there should be some account-
ability there.
Third, imposing price controls on existing contracts may result in
their abrogation. It is my understanding that the Governors of
California, Washington, and Oregon support the legislation in gen-
eral; yet, the Governors of eight other Western States are opposed
to price controls. We will hear from some of those Governors today.
So, what is the solution? Well, first and foremost, California
itself must act responsibly. We must assist California in every pos-
sible way.
4
But on the supply side, California must get over its aversion to
new powerplants and transmission lines. California has not al-
lowed a new major powerplant to be built in almost a decade. Cali-
fornias extremely limited transmission capacity, the so-called Path
15 problem, directly contributes to the shortage problem in Califor-
nia.
On the demand side, California must get over its unwillingness
to pass through wholesale costs. As a result, California utilities
owe banks some $13 billion, which continues to grow daily. Califor-
nias legislature has also authorized the issuance of $10 billion in
bonds to purchase power, and it has already spent $3 billion before
they have even been issued. So, Californias taxpayers are certainly
at risk.
California is driving independently owned utilities to the brink
of bankruptcy. There is a lot of finger-pointing going on, which is
understandable. Everybody wants to duck when the flack is flying.
They are having the State buy power, take over transmission lines,
seize utility assets. I do not think this necessarily resolves the
problem of supply and demand. The demand is there; the supply
is not. It only prolongs the agony. It reminds me of busily rearrang-
ing the deck chairs.
The recent survey, according to I believe the Washington Post
so we can all question the accuracy
[Laughter.]
The CHAIRMAN [continuing]. Allegedly found that two out of
three people in California would rather have the lights go out than
have any price increase. I will leave it up to the witnesses to com-
ment on that. But in any event, if they continue to oppose power-
plants and transmission lines, they might get their wish.
There is no question that California faces serious problems, but
we must work together to find a meaningful solution. We do not
want a band aid patch that just creates different problems that are
going to have to be addressed by different people sitting in this
same chair in a different month or a different year.
Last week FERC took action to rein in wholesale prices in Cali-
fornia by declaring high prices unjust and unreasonable and order-
ing millions of dollars in refunds. It may not solve the problem, but
it is certainly going to get the attention of those that sold power
at extremely high rates.
Likewise, California has taken some tentative steps, I think in
the right direction, by trying to expedite powerplant permit ap-
proval. But the first real test is the start-up of an existing 450
megawatt gas powerplant for this summer, and I understand it is
already encountering several areas of local opposition. If that pow-
erplant is prevented from going on line, I wonder what can save
California.
Again, I would encourage that we be sympathetic to recognize
that we are all somewhat in this together in the sense that we are
intertied, but nevertheless, I think we have to recognize patterns
here that suggest that we are not really addressing adequately the
issue of supply.
One other thing that occurs to me. We were looking at some mat-
ters the other day relative to where is the energy going to come
from. If we look at the moratoriums that exist on the east coast,
5
roughly from Maine to Florida, look at the moratoriums that exist

on the west coast, roughly from Canada down to the start of Mex-
ico, and the withdrawal of the overthrust belt and the roadless
areas in the forests where some 23 trillion cubic feet of commercial
gas have been put off limits, I think it is time we came to grips
with just where the energy is going to come from.
I look forward to hearing from the witnesses on whether they
think this legislation is going to solve Californias problems and en-
sure an adequate and reasonable supply and price of electricity
over the long term. I think that is the real question before the com-
mittee.
I want to commend my friends from California and Oregon and
the other States that have been most affected initially by this, but
as the Wall Street Journal points out, it is going to move right
across the country and do not think New York and the east coast
corridor is not going to be exposed to this because it is a reality.
It is coming and we better take action.
Senator Bingaman.
STATEMENT OF HON. JEFF BINGAMAN, U.S. SENATOR
FROM NEW MEXICO
Senator BINGAMAN. Thank you very much, Mr. Chairman.
At the last hearing we had on this subject, we learned that there
is a variety of suggestions for what has caused the problem in Cali-
fornia: structural flaws in the restructuring plan in California, high
natural gas prices, hot summers, cold winters, insufficient rainfall,
too few powerplants, too few transmission lines, too many environ-
mental laws, and price gouging. Those were all suggested as
causes.
But whatever the cause is, the result has been runaway whole-
sale power rates that have brought the California system to the
point of collapse and have driven its largest utilities into debt and
is rapidly draining Californias State treasury to the tune of some
$45 million a day, as I understand it.
The California electricity crisis is, as the Federal Reserve Board
Chairman testified 2 months ago, a national concern. Obviously,
California represents a very large part of our economy and its prob-
lems are the Nations problems.
The Federal Energy Regulatory Commission and the Bush ad-
ministrations response to this crisis have been largely to let the
market resolve the problem. The senior Senator from California
has argued forcefully that the market forces are not solving the
problem and that we at the Federal level have an obligation to step
in and to fix the problem.
Californias wholesale rates first started spiking about 10 months
ago in May. The Federal Energy Regulatory Commission, which is
the agency charged with regulating those rates, found them to be
unjust and unreasonable in November. That was 5 months ago.
The law is quite clear, as I read it, on what the commission is
required to do when it finds a wholesale rate to be unjust and un-
reasonable. The Federal Power Act says the commission must set
a just and a reasonable rate. The commission has yet to do so. It
has, instead, taken a number of half-hearted actions to try to bring
down Californias wholesale rates. It is clear that these actions
6
have yet to bring those rates down to a just and reasonable level,
as the law requires.
Both the commission and the Bush administration have offered
various explanations and excuses for why a rate cap or a cost-of-
service rate would not work. They indicate that it would send the
wrong signals to generators and consumers. It would discourage
generators from building more powerplants and more transmission
lines. It would discourage consumers from saving energy. The com-
mission has said that the cost-of-service rates will take too much
time and be too difficult to calculate. The commission and the ad-
ministration embrace an economic theory, the theory that an un-
regulated, competitive market will cause supply to increase, will
cause demand to fall until those two are in balance, and this will
necessarily lead to reasonable prices.
But the Federal Power Act does not, obviously, enact an eco-
nomic theory. It does not provide an exception for administrative
difficulty. It simply says if wholesale rates are unjust and unrea-
sonable, the commission is required to make them just and reason-
able. This has not been done. To the contrary, by its action last Fri-
day, the commission appears to have given its approval to many
millions of dollars of manifestly unjust and unreasonable charges.
Perhaps a cost-of-service rate mandate is not the ideal solution
to the problem and perhaps the bills that have been introduced and
referred to by Senator Murkowski are not perfectly drawn, but they
are a proposed solution. If the administration objects to carrying
out its obligations under the Federal Power Act, then I believe it
must come forward with a credible alternative solution if it is not
anxious to embrace these.
Why do we not go ahead and have short statements from any of
the committee members who want to make them, and then we will
go to our witnesses. I am advised that according to the order that
people arrived here, Senator Campbell is next.
Senator CAMPBELL. Mr. Chairman, I will just introduce a state-
ment for the record. Thank you.
Senator BINGAMAN [presiding]. Very good.
[The prepared statement of Senator Campbell follows:]
PREPARED STATEMENT OF HON. BEN NIGHTHORSE CAMPBELL, U.S. SENATOR
FROM COLORADO
Thank you, Mr. Chairman. I would like to thank you for holding this hearing and
all of the witnesses here to testify, especially my friend, Secretary Abraham. This
hearing will delve into the ongoing problems in California and some of the bills that
are attempting to fix portions of the problem. This should be an interesting discus-
sion on how we are going to proceed on the electricity crisis in California, especially
since it is affecting the entire West.
As you all know, many Western states are joined together in one enormous power
grid. We are so interdependent that the breakdown of a generator in one part of
the grid will affect power in another part. The entire Western grids electric system
is under severe stress. High prices and insufficient supplies of energy are likely to
burden many Western states for months to come. But, the long-term problem is the
supply of electricity which is smaller than the demand in the region. Also, California
has not built a new power generation facility in years which would help alleviate
the increasing demand for electricity.
The Western power grid is already overworked because of the energy needs cre-
ated by booming economies and population growth, but not just in California. My
home state of Colorado, along with other Western states, has increased demand for
electricity as well.
7
Also, with the soaring price of electricity and the environmental concerns sur-
rounding coal-fired generation plants, natural gas will play a key role in supplying
our nation with sufficient power. But, we have certain problems with natural gas
as well. In California, they have been experiencing particularly high natural gas
pricesmore than twice as high as recent national averages.
There are some proposals being offered to help address this power crisis like S.
26, S. 80 and S. 287 which my friends from California have introduced. But, con-
cerns have already been voiced regarding these bills. Regardless of the controversy,
whichever way we decide to go, we have to consider all proposals so that the prob-
lem can be solved, even if that means consideration of an electricity ballot initiative
in California.
I am approaching the California crisis debate very carefully so that the best inter-
ests of my home state are not compromised and hurt. I have some questions for the
witnesses that I would like them to address so that we can further explore this issue
during the time for questions.
Thank you Mr. Chairman.
Senator BINGAMAN. Senator Craig.
STATEMENT OF HON. LARRY E. CRAIG, U.S. SENATOR
FROM IDAHO
Senator CRAIG. Mr. Chairman, thank you very much.
Ladies and gentlemen, witness this marvelous act of bipartisan-
ship that the U.S. Senate is now working in. We think it can work.
It is working and you are seeing it firsthand this morning, Mr.
Chairman.
[Laughter.]
Senator CRAIG. And I appreciate that.
Senator BINGAMAN. I will ask for another 45 minutes I expect.
[Laughter.]
Senator CRAIG. But I do want to thank Chairman Murkowski for
holding these hearings. I think they are tremendously important to
address the current energy crisis that the West is experiencing.
But first, Mr. Chairman, I want to commend Senator Feinstein
for her diligence and I believe honest effort to both define and re-
solve the difficult energy-related problems that are crippling the
economies of California and the West. Senator Feinstein I think
has been tireless in her search for answers.
I will also say she has been bold against considerable political
odds as it relates to rate caps on retail sales to consumers. She has
publicly acknowledged the critical need for California to expedite
permitting of new powerplants that need to be sited in her State.
That goes against some of the political mainstream in her State,
but again, when you are in a crisis, it is time to lead.
As she has candidly stated in recent Investor Daily articles, with-
out expedited permitting for new powerplants and true market
pricing, there is no incentive to conserve. And we are finding in
polls coming out of California today that the average California
consumer does not recognize that they are in an energy crisis.
Mr. Chairman, these are not easy decisions for a California Sen-
ator to make or to acknowledge and the actions she has taken and
legislation introduced and these hearings today are important for
all of us.
Mr. Chairman, I am sure that it is largely because of her willing-
ness to be honest and openly address these issues that these hear-
ings have been scheduled and that we will move forward as we
work on this very difficult problem. I am committed to giving this
legislation attention.
8
However, I hasten to add, Mr. Chairman, that I am fundamen-

tally skeptical of the ability to price cap in any way and to call that
a solution to an energy problem in the West. Price caps have not
had much economic success in years past. They have always proven
to be very difficult to remove once in place. Moreover, they have
often proved to be a distraction that creates short-term chaos in
balancing load and resources.
Mr. Chairman, I am grateful that our Energy Secretary is here,
the Chairman of FERC is here. Clearly, this issue has their atten-
tion, as it should. I think we all look forward to their insights in
it.
I must say I am also grateful to the Governors who are here
today to speak. We in the West are experiencing the California cri-
sis in rather dramatic ways. In fact, rates are going up much faster
outside California than inside California. That is true in the State
of Oregon. It is true in the State of Washington. It is true in the
State of Idaho. It is true in the State of Montana because, as you
said, Mr. Chairman, we are all linked together and that grid and
wholesale rates and Californias inability to get itself under control
is driving us into a very real crisis.
Mr. Chairman, let me ask unanimous consent that a letter from
my Governor, Governor Dirk Kempthorne of Idaho, become a part
of the record, as well as a letter of February 6 from the Governors
of Arizona, Colorado, Idaho, Montana, Nevada, New Mexico, Utah,
and Wyoming, very clearly expressing that price capping is not the
issue to solve the problem. It only creates a greater problem.
Siting, regulation, getting on with the business of building produc-
tion capability is the issue. They obviously express concern about
California and the decision it is making, but they also recognize the
importance of actions taken. This is a letter to Secretary Spence
Abraham as a result of his trip out there and his expressions of co-
operation of help, but at the same time, a recognition to stand true
to the market and let the market forces work. And I ask that those
become a part of the record.
Senator BINGAMAN. Those will be included in the record.
Senator Feinstein.
STATEMENT OF HON. DIANNE FEINSTEIN, U.S. SENATOR
FROM CALIFORNIA
Senator FEINSTEIN. Thank you very much, Mr. Chairman. Let
me thank you and the chairman for holding this hearing. I would
also like to thank my colleague from Idaho for his remarks. I ap-
preciate them very much.
Earlier Senator Gordon Smith of Oregon and I held a press avail-
ability, and what we announced was essentially agreement on a
piece of legislation which would, in essence, say that once the Fed-
eral Energy Regulatory Commission finds that rates are unjust and
unreasonable, that that commission would be bound to either set
a temporary regional wholesale price cap, one, or two, set cost-
based rates, provided that the State would then respond and pass
on those rates to the consumer.
Now, the State would have the option of setting the timing and
the manner in which those rates would be passed on. That could
be tiered pricing, real-time pricing. It would include a baseline for
9
those on the lowest part of the economic ladder. It would give the
State flexibility in that regard. But it would seek to correct what
in California today is a broken market.
That brokenness really came from a bill passed in 1996 which
deregulated the wholesale end and yet kept regulated the retail
end, which forced California to buy electricity on the day-ahead
market, 95 percent of it, and required the utilities to divest them-
selves of their generating facilities. In hindsight, all of this came
together in a catastrophic scenario so that today California buys
power at what are, if you look at rates 5 years ago, astronomic
prices.
We believe that FERC should act, but we believe that FERC
should act in a way that it can be sure that the market also will
have a chance of responding correctly.
Let me just quickly take a look at electricity prices in California.
In 1998 and 1999, the average energy price for a megawatt of elec-
tricity consistently averaged about $30. The green bar is 1999 and
the purple bar is 1998. The red bar is the year 2000. You clearly
see what happened. The price of electricity jumped to $150 a mega-
watt hour in the summer, and then in December it increased to
over $350 per megawatt hour. The late fall/early winter season is
normally the time of the year when demand is low, and California
has such an ample supply of electricity, that it usually exports its
surplus. This season, however, there were serious shortages of
power.
Chart number 2 compares the hourly prices of electricity for two
July days in 1999 and 2000. The line graph and the number on the
right indicate the available power supply for that day. As you can
see, the demand is the same for these two days. However, the pur-
ple bar represents the hourly prices for the day in 1999, and the
red bar represents the price for 2000. Again, you can look at those
price differences.
The discrepancy in price exists in the early morning and it exists
late at night. So, even though the supply is the same and we know
that there should be ample supply to meet demand late at night,
prices for energy still skyrocketed. The only way to explain the dif-
ferences in price is to conclude that someone is gaming the market
and the market is broken.
Now, I am not going to spend a lot of time on natural gas prices.
The ranking member and I had the privilege of meeting with El
Paso, and I think both of us saw one of the problems and I want
to quickly state what it is. The real cost of transporting natural gas
is less than $1. Based on cost, when natural gas is selling for $5
in San Juan, New Mexico, directly adjacent to the California bor-
der, it should not be selling for anything more than $6 in southern
California.
But as you can clearly see from the second spike on the graph,
at the end of last year when natural gas was averaging $5 to $7
nationally, it was as much as $37 in southern California. That is
additional evidence that the market was not working.
Now, the Federal Power Act gives the exclusive authority to reg-
ulate the interstate transmission of power, and I think the statute
is pretty clear. Let me quote from it. Whenever the Commission,
after a hearing had upon its own motion or own complaint, shall
10
find that any rate, charge, or classification demanded, observed,

charged, or collected by any public utility for any transmission or
sale subject to jurisdiction of the Commission, or that any rule, reg-
ulation, practice, or contract affected such rate, charge, or classi-
fication is unjust, unreasonable, unduly discriminatory, or pref-
erential, the Commission shall determine the just and reasonable
rate, charge, classification, rule, regulation, practice, or contract to
be thereafter observed and in force, and shall fix the same by
order.
Now, I agree California has to fix the brokenness of its market
on its own. It has to build additional generation. It is moving in
that direction and anticipates at the end of 2002 there should be
greatly increased power generation within the State.
So, what is the appropriate Federal role? The appropriate Fed-
eral role in my view is, at a time of crisis, to provide a period of
reliability and stability in the marketplace. This in my view FERC
has refused to do. So, this unusual price market has continued.
The State has spent nearly $4 billion of its surplus to date buy-
ing power. It spends about $45 million a day. About $30 million of
that is lost forever. That is an extraordinarily difficult situation to
sustain into time, and I would suspect that by the end of this year,
the State will probably spend close to $10 million buying power.
That is gone. It does not buy a school. It does not repair a road.
It does not build the water system many of us believe the State
needs. As a matter of fact, some of that money has also gone to buy
power.
This is one of the reasons that I feel so strongly that any legisla-
tion that comes out of this body must also fix the brokenness of
that market. Thanks to Senator Smith of Oregon, we have come to-
gether I believe now with a bill that says, FERC, do your job but,
California, you also must do your job and fix your market. So, we
hope that this bill will have favorable consideration by this commit-
tee and that we will be able to move it forward. I think long term
it is the right thing to do.
There is a program of conservation now asking for 10 percent
conservation in the State. But what is the greatest incentive to con-
servation is if the retail market functions so that when supply is
limited, people have incentive to control their use. They can use
smart meters. They can buy new refrigerators which save a lot.
The computer industry has indicated that if people just take their
computers and instead of putting them on sleep, put them on off,
that saves totally about 7 percent of the States supply. That was
amazing to me to find out. But people have to respond and the
marketplace is one of the ways in which people can respond.
I want to thank Senator Smith. I believe we now have a piece
of legislation that can fix the brokenness of the market and also
demand, in effect, that FERC provide this period on a temporary
basis, a period of reliability and stability in prices which can be a
big help.
I would like to take this opportunity just to welcome those people
from California who have come a long way, Mr. Chairman, to tes-
tify this morning.
Senator BINGAMAN. Thank you very much.
11
Let me just alert Senators here. We have six more Senators who
are here and ready to make statements. I would urge that people
keep the statements short so we can get to our witnesses as quickly
as possible.
Senator Smith.
STATEMENT OF HON. GORDON SMITH, U.S. SENATOR
FROM OREGON
Senator SMITH. Thank you, Mr. Chairman.
Mr. Secretary, welcome. Thank you for being here.
I believe in free markets, but truly we have never had a free
market in electricity, not one that is truly free. What we now have
is a broken market and a duty to do something.
When this crisis erupted, many rushed to re-regulate. I have
withheld any impulse to do that, believing that until California
fixed the fundamental flaw in its law, a re-regulation would
amount to little more than putting a band aid on cancer.
Senator Feinstein and I have reached a conceptual agreement.
We are going to advance it as legislation. We believe the adminis-
tration should respond and favorably and help us to do this be-
cause truly what you have now is converging a perfect storm, both
environmentally and economically, for the States in the Western
United States.
I think it is important that everyone understand the fundamen-
tals of the agreement that we are going to pursue.
The legislation should direct the Federal Energy Regulatory
Commission, FERC, to impose a just and reasonable wholesale cap
that could be load-differentiated or cost-of-service based rates in
the Western energy market. That market is comprised of the States
in the Western Systems Coordinating Council: Arizona, California,
Colorado, Idaho, Montana, Nevada, New Mexico, Oregon, Utah,
Washington, and Wyoming.
The wholesale price cap or cost-of-service based rate will not
apply to wholesale sales for delivery in a State that imposes a price
limit on the sale of electric energy at retail that precludes a regu-
latory utility from recovering costs under the price cap or on a cost-
of-service based rate or precludes a regulatory utility from paying
its bills.
The ratemaking body of a State can determine, however, would
be allowed to determine how and when the wholesale rates will be
passed on to ratepayers, including the setting of a tiered pricing,
real-time pricing, and baseline rates. With respect to the Bonne-
ville Power Administration, BPA will be encouraged to seek to re-
duce rate spikes to economically distressed communities, while en-
suring costs are recovered by the end of the next contract period
in 2006.
Three, the wholesale rate cap or cost-of-service based rates shall
remain in effect until such time as the market for electric energy
in the western energy market reflects just and reasonable rates, as
determined by the Commission, or until March 1, 2003, whichever
is earlier.
In addition, as to natural gas transmission costs, the legislation
would reimpose FERC tariffs for natural gas transportation into
California and require natural gas sellers to declare separately the
12
transportation and commodity components of the bundled rate for

gray market transactions.
Additionally, after the date of the enactment of this legislation,
utilities should not be ordered to sell electricity or natural gas into
a State without a determination by FERC that the seller will be
paid.
Finally, in the event that a State in the Western energy market
does not meet the criteria described in this agreement, State public
utilities commissions in the western energy market should be able
to ensure that regulated utilities within their jurisdiction meet de-
mand for electric energy in the utilitys service area before making
sales into any such State.
Mr. Chairman, I believe that this approach, while temporary,
will help us to avert an economic and environmental catastrophe.
I hope that we can pass this on a bipartisan basis and I hope the
administration will be a party to it because we would be unwise
servants if we just sat while Rome got ready to burn.
Thank you.
Senator Hagel, did you wish to make a statement?
STATEMENT OF HON. CHUCK HAGEL, U.S. SENATOR
FROM NEBRASKA
Senator HAGEL. Very briefly, Mr. Chairman. Thank you.
This issue of energy is the most pressing issue America faces, bar
none. This is an issue that crosses all boundaries, all walks of life,
all socioeconomic dynamics of our country. It affects our national
security. It affects our productivity, our economic growth. It affects
agriculture. It affects the environment.
I find it a bit ironic, Mr. Chairman, that there are some who are
shrieking around America this morning who are concerned that
this President has decided not to cap carbon dioxide emissions for
utility plants when we are here today about a most urgent issue
and that urgent issue is about energy supply. It is not complicated.
It is a very clear case of energy demand outstripping energy sup-
ply.
As Chairman Murkowski said before Chairman Bingaman took
the gavel, we are all in this together. This is a national problem.
It is not going to get better. It is only going to get worse. We are
here today because of that problem.
We need a national energy policy. We need a short-term and a
long-term policy. We need energy supply. We need a broad, deep
portfolio of energy supply. That is connected to the environment. It
is connected to every part of our lives.
We can talk about amendments to energy legislation and we can
talk about quick fixes for particular States, and that is of great im-
portance and great urgency and we understand that. But we must
also understand we have an obligation here to take a bigger view
and a national responsibility because if we do not, the con-
sequences of this will be catastrophic. We think we have market
problems today. It will be nothing compared to the economic down-
turn that will essentially spread to all of the globe if we do not fix
this and we do not have a market that believes we are going to fix
it both for the short term and the long term.
13
So, I am obviously like all of us on this committee, Mr. Chair-

man, appreciative of the leadership that you are giving and Chair-
man Murkowski, obviously our colleagues, Senator Feinstein and
Senator Smith and others who are grappling with the immediacy
of this. It is difficult and we understand that. But my only point
is this is a big issue that is going to require big-time, long-term so-
lutions and we should not tinker around or just edge around the
bush on this with the American public. We need to tell them
straight out we are in trouble.
Thank you.
Senator Landrieu.
STATEMENT OF HON. MARY L. LANDRIEU, U.S. SENATOR

FROM LOUISIANA
Senator LANDRIEU. Thank you. I waive my right to an opening
statement because I am anxious to hear the testimony and actually
have another hearing in a few minutes. Let me just state this in
three questions really.
I commend my colleagues for working together in a bipartisan
way to try to address this difficult situation in the West.
My first question would be, what would be the potential effects
on prices in other regions of the Nation as a result of this bill?
Second, will we address the authority of FERC to site new pow-
erplants, require the expansion of powerplants and to require
transmission lines, possibly even over local opposition, which has
been a real stumbling block to any solution to this problem?
Third, would the legislation allow those States that are aggres-
sively pursuing new supplies of energy such as oil and gas and
coal, to be compensated for our good efforts in trying to increase
the Nations supply? States such as Louisiana and Texas should be
recognized for their efforts.
So, I throw those three questions out for right now and I will
have others as we debate this legislation. Thank you.
Senator Cantwell.
STATEMENT OF HON. MARIA CANTWELL, U.S. SENATOR

FROM WASHINGTON
Senator CANTWELL. Thank you, Mr. Chairman, and I would like
to thank Chairman Murkowski for holding this hearing.
As stated by my colleague from Idaho, this is truly a bipartisan
effort, in the sense of this hearing and the committee working to-
gether, the legislation being offered by my colleagues from Califor-
nia and Oregon, and in the testimony that we are going to hear
from two Governors from the West.
We in Washington want to make sure that the point is not lost
today that we are seeing both economic impacts to industries and
to consumers. The Northwest continues to suffer the harsh con-
sequences of this market instability, obviously exacerbated by our
below-average rainfall and snowpack. This is the worst drought in
our State since 1977, and it is only March. So, there is much to
do to address this issue.
14
BPA is predicting more than a 45 percent water flow shortfall

this summer and predicts rate increases of over 200 percent this
fall. Rates are already up 43 percent with residential users and 75
percent for some industrial customers in Tacoma, and up 28 per-
cent in Seattle.
Northwest officials and we in the Northwest congressional dele-
gation continue to look for mid- and long-term answers to this
problem. I congratulate FERC on their press release yesterday in
which they went through a variety of issues that I believe are mid-
term and long-term answers to increasing energy supply by expe-
diting processes and procedures.
But I think it is very important that we look at not just the mid-
term and long-term solutions to this issue, but the immediate con-
sequences to the economy of the Northwest. We need to stop the
bleeding first before we look for a cure for this disease. That is why
I join in support of my colleagues from California and Oregon in
S. 287, which will try to address these issues.
I cannot emphasize enoughand I am very proud that our Gov-
ernor, Gary Locke, is here today to talk about these economic con-
sequences to our region. The effect of these energy prices could
mean 23,000 fewer jobs in Washington State over the next few
years, and that is on top of a 20,000-job loss in water and energy-
intensive businesses such as aluminum smelting. This was referred
to in a Wall Street Journal article that I would like to submit to
the record.
I would also like to submit to the record an article that appeared
in the Seattle Post Intelligentser about the fact that this is not just
about California bashing. While there have been problems created
by distorted spot market pricing, this is a larger issue that we need
to address if we are to help the Northwest economy survive these
high prices.
I appreciate the attention of the committee to this issue. I appre-
ciate the fact that our Governor has flown across the country, I
think on a red-eye, to be here today to give testimony on this. And
I appreciate the Secretarys immediate attention to these North-
west issues.
Senator Burns, did you have a statement?
STATEMENT OF HON. CONRAD BURNS, U.S. SENATOR

FROM MONTANA
Senator BURNS. May I just say to the Senator from California
that the last time we sat in these chairs, I said that we have to
address this nationally. Californias economy is so largeand I
think they are still a member of this Unionthat it affects all of
us. We want to be a part of the solution, not a part of the problem.
I want to congratulate her and Senator Smith for working out
this arrangement. It is not a knee-jerk approach to this. It has
been given great forethought.
Rather than standing and shouting and worryingI worried ever
since I was in Las Vegas and picked up that newspaper. The Los
Angeles Times on the front page about a month ago, Senator Fein-
stein, said 54 percent of the people in California do not believe
15
there is a power shortage. Now, that told me we have got some

credibility gaps here. So, we have to address those.
Senator Hagel is right. This is a national problem. It is just not
local. But we are situated such in relevancy to the Northwest that
it impacts our State of Montana.
I want to congratulate our Governor for being here. And do not
worry about Governors taking red-eyes. They are no better than we
are. They can take them just like everybody else.
[Laughter.]
Senator BURNS. So, I am not going to feel sorry for Governor
Locke because my Governor did the same thing. She is here today
and will offer her points.
I want to thank the chairman for calling this hearing. I plan to
be part of the solution rather than part of the problem. I congratu-
late them for it. Thank you.
Senator Thomas, you are the cleanup hitter here. Do you have
a statement?
STATEMENT OF HON. CRAIG THOMAS, U.S. SENATOR
FROM WYOMING
Senator THOMAS. Yes, sir, very briefly.
Mr. Secretary, glad to see you. I thought I was going to miss you,
but I see you are still here. You have not had a chance yet.
[Laughter.]
Senator THOMAS. What we really need to focus on is our energy
policy, and this local thing is a little different. I think we need to
deal with it. I am ready to deal with it.
But I have to tell you I want to see from California some deci-
sions made out there, some changes made out there. There were
market messages coming out for a number of years. You cannot ac-
cept the notion that your use is going up and your production is
going down and not know it. So, I am anxious to hear of some of
the decisions with regard to caps on retail and so on that have been
made out there.
Then we need to move and our emphasis needs to be on the
broader emphasis in my view. The national problems are quite dif-
ferent than the California problem. We tend to put them together,
but I think there is quite a difference and we need to deal with it
that way. So, I am anxious to hear.
Thank you, sir.
Secretary Abraham, we are glad to have you before the commit-
tee today and we look forward to hearing from you.
STATEMENT OF HON. SPENCER ABRAHAM, SECRETARY,
DEPARTMENT OF ENERGY
Secretary ABRAHAM. Mr. Chairman, thank you. I could not help
but reflect upon my first months in the Senate when, as the most
junior member, 100th in seniority, I used to wait at committee
hearings to get a chance to make my opening statement, and I see
that things have not changed much since I moved from the Senate
to the administration.
[Laughter.]
16
Secretary ABRAHAM. Mr. Chairman and members of the commit-

tee, I just want to thank you all for having me here today. I look
forward to this testimony and to continuing to work with all of you
on the challenges that we face in the energy arena.
I would just say at the outset I agree strongly with the points
that have been made that this is not an isolated situation or a
short-term challenge. The approach we intend to take as an admin-
istration is to look at this in a broad, national, and long-term
sense.
However, over the past year, as we know, California has experi-
enced three major blackouts that affected hundreds of thousands of
Californians in progressively larger numbers. The problem will get
worse and blackouts this summer appear inevitable when peak de-
mand is expected to be about 61,000 megawatts while supplies are
anticipated to be only about 56,000 megawatts. Consequently, some
analysts project that California may experience up to 20 hours of
rolling blackouts this summer, while others project 200 or more
hours of blackouts.
The clear cause of this electricity crisis, as has been stated here
today, is an imbalance between supply and demand. Over the past
5 years, electricity demand in California grew by 6,300 megawatts
while generating capacity has, as a result of regulatory and other
impediments, decreased by 1,200 megawatts due to plant retire-
ments and no new sources of power generation.
I believe Governor Davis has acknowledged that California has
principal responsibility to address this crisis, and thus, he has
taken a variety of actions designed to increase supply and reduce
demand. If these measures prove successful, the situation this sum-
mer will be improved. In a variety of ways, this administration has
been trying to help California in those efforts, as I will later dis-
cuss in my testimony.
Unfortunately, the national focus and the focus of this hearing
has been diverted away from the challenge of inadequate supply to
price controls. Yes, it is true that California is paying high prices
for energy, but California is not alone. The rest of the West, as we
have heard today, as well as other regions of the country, have also
experienced significantly higher energy costs, particularly this win-
ter.
Although other areas of the country are confronting energy sup-
ply and pricing challenges, the problems in California are unique
because of the aforementioned lack of new generation and the elec-
tricity purchasing constraints the State itself applied to its own
utilities. By refusing to permit its utilities to buy power except on
the spot market, can set into motion the process which drove its
costs through the roof.
For example, last summer Duke Energy offered to meet the sup-
ply needs of San Diego Electric and Gas Company for 5 years at
a price of $55 per megawatt-hour. This is just a fraction of the av-
erage price of $376 per hour paid on the spot market in December
and $314 paid in January. If the State had approved new genera-
tion in a timely manner or had allowed utilities to enter into long-
term contracts, such as the one offered by Duke, we would not be
here today discussing price caps.
17
This administration is absolutely and certainly concerned about

high energy prices, whether they are in California or anywhere else
in the United States. We believe that energy prices should be just
and reasonable and we support the recent action by the Federal
Energy Regulatory Commission to order refunds to Californians
charged unjust and unreasonable rates instead of market rates.
And this administration will continue working closely with Califor-
nia and the West to develop measures to help reduce its projected
energy shortages.
But let me make one point clear. Any action we take must either
help increase supply or reduce demand because that is real chal-
lenge. If a proposal does not increase supply or reduce demand, it
is not a real solution. If it decreases supply or increases demand,
it will only make the current crisis worse, especially as we go into
the peak summer season.
And it is within that framework that the administration opposes
the imposition of price controls. Price caps will not increase supply
or reduce demand. In fact, in our view they will seriously aggravate
the supply crisis since they will discourage investment in new gen-
eration while eliminating incentives to reduce demand.
Now, this is not a theory. It is the product of experience. Price
caps have already been tried and have already failed. California
has long had a ceiling price for electricity sales into the State. That
price was steadily lowered throughout last year from $750 to $500
to $250 to finally $150 per megawatt-hour. Proponents of price caps
then made the same arguments the proponents make today, that
price caps will control high prices without diminishing electricity
supply.
They were wrong. Price caps failed because some power suppliers
were subject to the price cap while others were exempt. The result
was market distortion. Price caps gave in-State generators every
incentive to sell power out-of-State and power exports from Califor-
nia rose 85 percent. As a consequence, 3,000 megawatts of power
were exported.
And what happened to prices? The lower the price cap was set,
the higher average electricity prices rose.
Notwithstanding that failure, we are here today discussing price
caps for the entire West. However, these proposals I think suffer
from the same flaws contained in previous ones.
Regional cost-based price caps will discourage investment in new
generation at exactly the time it is needed the most.
Furthermore, imposition of cost-based price caps will also split
the electricity market in the West into two markets, one that is
subject to price controls and the other which is exempt, much as
has been the case in California. This will occur for a very simple
reason. FERC only has jurisdiction over 47 percent of the elec-
tricity generation in the Western Systems Coordinating Council.
The other 53 percent, municipals, cooperatives, and so on, fall out-
side of the Federal Governments power to regulate.
Now, a cost-based price cap that applies to only half the region
has four fundamental flaws.
First, the California experience with price caps, where part of the
market was subject to the cap and part was exempt, will be re-
peated. We believe the result will be the same: distortion of elec-
18
tricity markets, reduction in electricity supply, shifts in electricity

supply from capped markets to uncapped markets, and most impor-
tantly, failure to control prices.
Second, because of this separation or division, we believe that
electricity exports to the United States from Canada and Mexico
will almost certainly decrease, since these producers could get a
higher price selling electricity within their own countries. And we
cannot control the price that it is sold extraterritorially.
Third, a split electricity market would create winners and losers.
Winners would be large municipal utilities in the West that have
significant surplus generation, since they would be exempt from
the price caps, and the losers, of course, would be buyers that can-
not purchase electricity from an entity subject to the price caps.
Fourth, a creation of two electricity markets will likely induce
cheating and circumvention like that which occurred in the days of
oil price controls. That will occur because as the prices in the two
markets diverge sharply, prices in the unregulated market will be
increasing and rising higher than existing levels, whereas prices in
the regulated market will not. Electricity is like oil: it is a fungible
commodity. Some unscrupulous parties could easily take advantage
of the split markets and sell capped electricity at market-based
prices. In fact, that is exactly what Marc Richs company is accused
of doing under oil price controls.
The only way to apply price controls to all generation in the West
would be to amend Federal law and grant FERC authority to set
rates for wholesale power sales by State and municipal utilities
and rural electric cooperatives. However, if we did that, it would
be inconsistent with 70 years of Federal electricity legislation, and
I would just make it clear that the administration would not sup-
port such a proposal.
Finally, I would just like to note that one popular variation on
the cost-based price cap idea, which has been espoused by several
Governors and a recent FERC chairman, would actually reduce
electricity supplies in the most immediate sense. This approach
would actually not even guarantee cost recovery because basically
it would set a rate at variable cost plus 10 percent or $25 per
megawatt-hour, whichever is less. Since powerplants would fix
costs in excess of $25 per megawatt-hour, presumably not elect to
operate at a lost, the regions electricity supply in those cases
would be immediately reduced if we adopted this approach.
Last month, 8 of the 11 Western Governors sent me a letter ex-
pressing opposition to price caps. In that letter they stated: Caps
will serve as a severe disincentive to those entities considering the
construction of new electric generation at precisely the time all of
us, and particularly California, are in need of added plant construc-
tion. We share this view and we believe that our responsibility is
to help minimize electricity shortages and the blackouts and the re-
sultant economic and security dislocations such shortages produce.
So, for those reasons, we do not favor price controls.
Regrettably, I think our opposition to price caps has been
claimed by some to suggest that the administration either does not
care about California and the West or is doing nothing to help.
That is simply untrue.
19
One day after being sworn into office, President Bush asked me
to call Governor Davis to see how we could help address Califor-
nias power shortages.
Three days after taking office at Governor Davis request, we ex-
tended the emergency electricity and gas orders to give California
time to enact reform legislation aimed at maintaining electricity
supplies.
Last month, President Bush issued an executive order directing
Federal agencies to expedite permits relating to construction of new
powerplants in California. The U.S. Environmental Protection
Agency has issued air permits for three powerplants in the past 3
weeks.
President Bush and I have engaged in extensive discussions with
the Government of Mexico about increasing electricity imports from
Mexico to California.
Last week, at the behest of Governor Davis, we sent a letter to
FERC asking that the agency act on his request for an extension
of the waiver for qualifying facilities from certain fuel require-
ments. Yesterday that waiver was granted.
Also last week, FERC determined that some suppliers had
charged unjust and unreasonable rates and then compelled them to
refund those overcharges to California buyers. And new FERC or-
ders, intended I think to again address these issues, were just an-
nounced yesterday.
Moreover, today we will be responding favorably to Governor
Davis request that we review his plan for ensuring the financial
health of the California utilities.
Mr. Chairman, we are committed to working with California and
the West to develop effective solutions to this crisis and we will
continue to do so. Moreover, the administration, under the leader-
ship of Vice President Cheney, has embarked on a multi-depart-
mental task force project, much as was recommended by members
of this committee to me during my confirmation hearing, to try to
look at our energy challenges on a broad, interdepartmental, na-
tional, long-term and short-term basis. And as results from that
task force effort are completed, we will be taking additional action.
The only action the administration will not take is the implemen-
tation of price caps.
In that each of the legislative proposals before this committee
today basically are premised on the types of price controls I have
just addressed and for the reason which I have just outlined, we
do not support them. There are, however, additional concerns
which we have with each proposal and I will address those con-
cerns as part of the fuller written testimony which we submit
today.
Mr. Chairman, that concludes my testimony. I look forward to
answering any questions you or the other members of the commit-
tee might have and look forward to working with people as we ad-
dress these various energy challenges on a very broad-based ap-
proach in the future. Thank you very much for having me here
today.
[The prepared statement of Secretary Abraham follows:]
20
PREPARED STATEMENT OF HON. SPENCER ABRAHAM, SECRETARY,
DEPARTMENT OF ENERGY
Mr. Chairman and Members of the Committee, I welcome the opportunity to tes-
tify before you today on various electricity measures pending before the Committee,
namely S. 26, S. 80, S. 287, and the Smith amendment to S. 287.
All of these legislative proposals address the electricity crisis in California and the
West. Before I get into the Departments specific comments on these bills, it may
be useful to step back and offer our views on how this crisis developed, the real na-
ture of the problem, and an analysis of proposed solutions.
ELECTRICITY CRISIS IN CALIFORNIA AND THE WEST
As everyone knows, California is in the middle of a serious electricity crisis. Over

the past year, the State has experienced three major blackouts that have affected
hundreds of thousands of Californians in progressively larger numbers. The problem
will get worse, and blackouts this summer appear inevitable when peak demand is
expected to be 61,125 megawatts, while supplies are anticipated to be only 56,159
megawatts. Consequently, some analysts project California may experience up to 20
hours of rolling blackouts this summer, while others project 200 or more hours of
blackouts.
The clear cause of this electricity crisis is an imbalance between supply and de-
mand. Over the past five years, electricity demand in California grew by 6,300
megawatts while generating capacity decreased 1,200 megawatts due to plant retire-
ments. The State siting process constituted a barrier to entry for power producers
that sought to build new generation. Over the last four years, independent power
producers tried to build new generation, filing applications to build 14,000
megawatts of new generating capacity. None of this new generation is operating yet.
Moreover, anticipated political resistance undoubtedly discouraged serious consider-
ation of other new generation options.
Governor Davis understands the nature of the problem and recognizes the State
of California has principal responsibility to address this crisis. As the Governor stat-
ed in January: The problem is primarily of Californias making, and we will solve
the mistakes we made in 1995.
To that end, Governor Davis has taken a variety of actions designed to increase
supply and reduce demand. The Governor proposed a series of executive orders in-
tended to increase supply by 5,000 megawatts and reduce demand by 10 percent
this summer. If these measures prove successful and the weather is mild the situa-
tion this summer will be improved.
We are helping the State in its efforts, and the Administration has taken a num-
ber of actions to support the State in recent weeks. I will discuss the actions taken
by the Administration later in my testimony.
Mr. Chairman, the national focus, and the focus of this hearing, has unfortunately
been diverted from the challenge of inadequate supply to price controls. It is true
that California is paying high prices for energy, although, because of retail rate
caps, consumers have been largely protected from these price increases. But Califor-
nia is not alone.
The rest of the West and other regions of the country have also experienced high-
er energy costs, particularly this winter. Unlike in California, where retail rates are
frozen, higher wholesale electricity prices have impacted consumers in other West-
ern States. Heating oil prices are at near-record levels, which affect consumers in
the Northeast. Regions that rely heavily on natural gas for home heating have also
experienced sharp price increases. In every instance, these problems arise from an
imbalance between supply and demand triggered by an inadequate development of
new generation, unique climate factors and/or higher natural gas prices that have
resulted from recent, significant increases in demand for natural gas as a preferred
energy source.
Yet, although other areas of the country are confronting energy supply and pric-
ing challenges, the problems in California are unique because of the electricity pur-
chasing constraints the State itself applied to its own utilities. By refusing to permit
its utilities to buy power except on the spot market, California set in motion the
process that drove its costs through the roof.
For example, last summer, Duke Energy offered to meet the supply needs of San
Diego Electric and Gas Company for five years at a price of $55 per megawatt-hour.
This is a fraction of the average price of $376 paid on the spot market in December
and $314 in January. Even the average $69 per megawatt-hour price of the con-
tracts announced by Governor Davis compares unfavorably to prices available last
summer. If the State had approved new generation in a timely manner or allowed
utilities to enter into long-term contracts, we would not be here today discussing
21
price caps. Instead, California utilities have until recently been required to buy huge
quantities on the spot market, driving up wholesale costs for themselves and others
in the West. Hence, the effects have extended beyond Californias borders.
This Administration is certainly concerned about high energy priceswhether in
California or anywhere else in the United States. We agree that energy prices
should be reasonable and support the recent action by the Federal Energy Regu-
latory Commission (FERC) to order refunds to Californians charged unjust and un-
reasonable rates. And this Administration will work closely with California and the
West to develop measures to help the State and the region meet its projected energy
shortage.
The Task Force chaired by Vice President Cheney will soon make a series of rec-
ommendations on meeting Americas energy demands. In the meantime, we will con-
tinue helping expedite Californias efforts to increase generation and reduce de-
mand.
But let me be clear on this, any action we take must either help increase supply
or reduce demand. If a proposal does not increase supply or reduce demand, it is
not a solution. If it decreases supply or increases demand, it will only make the cur-
rent crisis worse.
It is with that framework in mind that the Administration opposes imposition of
price controls such as those proposed in the legislation that is the subject of this
hearing. Price caps will not increase supply or reduce demand. In fact, they will ag-
gravate the supply crisis, since they will discourage investment in new generation
while eliminating incentives to reduce demand.
This is not theory, but the product of experience. Price caps have already been
tried and have already failed. California has long had a price cap that set a ceiling
price for electricity sales into the State. That ceiling price was steadily lowered
throughout last year, from $750 per megawatt-hour to $500 to $250 to finally $150.
Proponents of price caps then made the same arguments that proponents make
today: price caps will control high prices, while guaranteeing adequate electricity
supply.
They were wrong.
Price caps failed in California in part because they only applied to part of the
marketsome power suppliers were subject to the price cap, while others were ex-
empt. The result was market distortions. Price caps gave in-State generators every
incentive to sell power out-of-State and power exports from California rose 85 per-
cent. Price caps reduced Californias electricity supply, since 3,000 megawatts of
power were exported. The lesson was clear: price caps on only part of the market
will distort the market and drive supply out of markets with price controls into un-
regulated markets.
And, what happened to prices? The lower the price cap was set, the higher aver-
age electricity prices rose.
Notwithstanding that failure, we are here today discussing a different kind of
price cap on a broader scale: the entire West. Proponents argue that a price cap that
limits power producers to cost-recovery plus a fixed rate of return, if imposed across
the entire West, will succeed where price caps that set a ceiling price failed. How-
ever, these proposals suffer from the same flaws contained in previous proposals.
First, imposition of cost-based price caps will reduce electricity supplies in the
short-term. Governors Davis, Locke and Kitzhaber, along with a former Chairman
of FERC, have proposed a version of cost-based price caps that would actually not
even guarantee cost recovery, but instead set a cap at variable costs plus ten per-
cent or $25 per megawatt-hour, whichever is less. Since power plants with fixed
costs in excess of $25 per megawatt-hour will presumably not elect to operate at a
loss, the regions electricity supply will be immediately reduced.
Regional cost-based price caps will also discourage investment in new generation
at a time when it is most needed. If cost-based price caps are imposed, independent
power producers that are building most of the new power plants will simply decide
to build new generation in another region or country.
Imposition of cost-based price caps will also split the electricity market in the
West into two markets, one subject to price controls and the other exempt. This will
occur because FERC only has jurisdiction over 47 percent of the electricity genera-
tion in the Western Systems Coordinating Council. FERC has no jurisdiction over
wholesale sales by State and municipal utilities, rural electric cooperatives, and
does not have authority to impose cost-based rate on Federal power marketing ad-
ministrations.
A cost-based price cap that applies to only half the region has four fundamental
flaws. First, the California experience with price capswhere part of the market
was subject to the cap and part was exemptwill be repeated. The result will be
the same: distortion of electricity markets, reduction in electricity supply, shifts in
22
electricity supply from capped markets to uncapped markets, and, most importantly,
failure to control prices. Power producers would seek to make sales through entities
not subject to price caps and independent power producers would have an incentive
to build projects in the service areas of entities not regulated by FERC and make
exempt sales through those entities.
Second, electricity exports to the U.S. from Canada and Mexico will almost cer-
tainly decrease since these producers could get a higher price selling within their
own countries. In short, we would lose supply just when we are encountering short-
ages.
Third, a split electricity market would create winners and losers. Winners would
be large municipal utilities in the West that have significant surplus generation,
since they would be exempt from price caps. These utilities have been collecting sub-
stantial revenues from sales at market-based levels. Indeed, according to FERC
most of the excess power costs that the California Independent System Operator
claims were collected in January 2001 were collected by entities not regulated by
FERC. These utilities are not subject to refund orders and would be exempt from
price caps. Not surprisingly, some of these utilities are advocates of price caps that
would apply only to others.
The losers, of course, would be buyers that cannot purchase electricity from an
entity subject to the price cap that must resort to the unregulated market where
prices will be extremely high.
Fourth, the creation of two electricity markets recalls the days of natural gas
price controlswith old gas and new gas. Prices in the two markets will diverge
sharply, with prices in the unregulated market rising higher than existing levels.
A buyer that needed more power would obviously look first to the market subject
to price caps. However, if the buyer could not purchase power in the capped market,
he would have to resort to the uncapped market, and pay even higher prices than
current market levels. Since electricity is a fungible commodity, some unscrupulous
parties would take advantage of the split markets and sell capped electricity at mar-
ket-based prices, as occurred under oil price controls.
Some advocates of cost-based price caps have proposed exempting new generation
from the cap, which implicitly concedes that price caps discourage investment in
new generation. A more practical concern, however, is that this scheme would also
fail because of the fungible nature of electricity.
Although FERC lacks authority over the Federal power marketing administra-
tions, the Secretary of Energy has authority to impose a cost-based price cap on the
Federal power marketing administrations. Such a step would be highly risky. A
cost-based price cap would reduce Bonnevilles ability to generate revenue through
seasonal surplus sales outside the region, since Bonneville would be forced to sell
electricity at a rate far below market levels, foregoing revenues that could have been
used to defray Bonneville costs and lower rates charged to preference customers.
At the same time, Bonneville must purchase power at certain times of the year.
There is no reason to assume that Bonneville will be fortunate enough to purchase
power from only those entities subject to the price cap, and Bonneville may well
have no choice but to purchase power at extremely high prices from nonjurisdic-
tional entities. Cost-based price caps would thus put Bonneville in a position where
it also sells low and buys high, and could force Bonneville to raise wholesale rates
charged to regional customers.
The only way to apply price caps to all generation in the West is to amend Fed-
eral law and grant FERC authority to set rates for wholesale power sales by State
and municipal utilities and rural electric cooperatives. However, doing so would be
inconsistent with nearly 70 years of Federal electricity regulation. FERC has never
had authority over these sales, and any such proposal would be opposed by many
in the West, including presumably members of this Committee. I certainly would
not support such a proposal.
These are the reasons for the Administrations opposition to imposition of cost-
based price caps in the West. The Administration is not alone in its opposition to
price caps. Last month, eight of the eleven Western governors sent me a letter ex-
pressing opposition to price caps. In that letter, the eight governors stated caps will
serve as a severe disincentive to those entities considering the construction of new
electric generation, at precisely the time all of usand particularly Californiaare
in need of added plant construction.
By contrast, advocates of price controls have failed to indicate how price caps
would increase supply, decrease demand, or prevent blackouts this year.
In that price controls and power shortages are inversely related, the ultimate
question thus becomes whether our goal is to control prices or lessen the frequency
of blackouts. This Administration believes our responsibility is to help minimize
23
electricity shortages and the blackouts and the economic and public health and safe-
ty problems such shortages produce. Therefore, we do not favor price controls.
Regrettably, our well-founded opposition to price caps has been claimed by some
to suggest the Administration either does not care about California and the West,
or is doing nothing to address the problem. This is simply untrue. One day after
being sworn into office, the President directed me to call Governor Davis to discuss
the crisis and ask how we could help address the power shortages. Three days after
taking office, at Governor Davis request, we extended the emergency electricity and
gas orders to give California time to enact reform legislation aimed at maintaining
electricity supplies. Last month, also at the request of Governor Davis, President
Bush issued an executive order directing Federal agencies to expedite permits relat-
ing to construction of new power plants in California. The U.S. Environmental Pro-
tection Agency has issued air permits for three power plants in the past month.
President Bush and I have engaged in discussions with the Government of Mexico
about increasing electricity imports from Mexico. Last week, at the behest of Gov-
ernor Davis, I sent a letter to FERC asking that the agency act on his request for
an extension of the waiver for qualifying facilities from certain fuel requirements.
In response to a request by the State of California, the U.S. Environmental Protec-
tion Agency has provided other assistance, clarifying rules relating to operation of
backup generators. And FERC recently required suppliers who charged unjust and
unreasonable rates to refund those payments to California buyers, as provided by
the Federal Power Act. We will continue to work with California and the West to
develop effective solutions to this crisis.
In short, the only action the Administration has opposed is price caps.
LEGISLATIVE PROPOSALS
I would like to offer some comments on the legislation that are the subject of this
hearing. All of these bills provide for imposition of cost-based rate caps in California
and the West, so the general arguments against price caps detailed above apply to
all four proposals. Following are our views on the major provisions of these bills:
S. 26
This bill, introduced by Senator Feinstein, would amend the Department of En-
ergy Organization Act to compel the Secretary of Energy to impose price caps on
wholesale power sales in the Western Systems Coordinating Council by jurisdic-
tional entities whenever FERC or the Department make certain findings, although
the findings the two agencies can make to trigger price caps are entirely different.
The Western Systems Coordinating Council is a region composed of eleven Western
States (Arizona, California, Colorado, Idaho, Montana, Nevada, New Mexico, Or-
egon, Utah, Washington, and Wyoming), Baja California, and western Canadian
provinces that share an interconnected transmission system.
In effect, the bill directs the Department to take over FERCs ratemaking role,
although the Department has no capacity to discharge FERCs responsibilities. Un-
like FERC, the Department does not have expertise in ratemaking.
The standards used in S. 26 are unclear. The bill compels the Secretary of Energy
to impose price caps whenever he determines rates exceed marginal costs by a sig-
nificant amount or for a significant length of time and continued existence of such
rates threatens public health and safety or the economy of any State or region and
FERC has otherwise failed to act to improve the situation. None of these terms
are defined and none have meaning in Federal electricity law.
The bill would diffuse Federal authority over wholesale power sales, giving both
FERC and the Department authority to set wholesale power rates. It would be a
mistake to bifurcate Federal authority to establish rates under the Federal Power
Act. Under S. 26, both FERC and the Department could set price caps, but under
very different statutory standards. FERC would retain its discretion under the Fed-
eral Power Act to impose price caps if it finds rates are unjust and unreasonable,
a standard that has governed Federal rates for wholesale power sales for nearly 70
years. Under S. 26 the Department would have no discretion, but would be com-
pelled to impose price caps if it finds rates exceed marginal costs, either by a sig-
nificant amount or by a significant length of time. Since rates can be just and
reasonable while exceeding marginal costs the situation could arise where FERC de-
termines rates are just and reasonable and declines to impose price caps, the De-
partment agrees with that determination, but concludes rates exceed marginal cost
by an insignificant amount but for a significant length of time. The Department
would have no choice but to impose price caps, since S. 26 affords the agency no
discretion. Since electricity is traded in both real-time and hour-ahead markets, a
significant length of time could be a very short period.
For these reasons, the Department opposes S. 26.
24
S. 80
This legislation, introduced by Senator Boxer, would require FERC to order re-
funds of rates and charges for wholesale power sales or transmission if it finds such
rates or charges are unjust, unreasonable, unduly discriminatory or preferential.
The bill significantly expands FERCs authority to order refunds. Under current
law, the effective refund date is limited to no earlier than 60 days after the filing
of a complaint. S. 80 provides for retroactive refunds extending back two years.
S. 80 also mandates that FERC establish cost-based price caps in the Westand
only the Westif it determines that rates charged for wholesale power sales are un-
just, unreasonable, unduly discriminatory or preferential. The bill does not expressly
grant FERC authority to remove price caps. S. 80 compels FERC to impose treble
penalties on any person who violates these new refund and price cap provisions.
S. 80 would significantly discourage investment in new generation in the West.
The independent power producers that are building most generation in the U.S. are
unlikely to expose themselves to refunds that stretch back as far as two years. In
addition, there is significant uncertainty about the duration of price caps. Since the
refund and price cap provisions only apply to the eleven States in the Western Sys-
tems Coordinating Council, investment in new generation would shift away from
those States and towards the rest of the United States and other countries.
Notably, the refund provisions of the bill are limited to jurisdictional entities.
Nonjurisdictional entities such as State and municipal utilities, rural electric co-
operatives, and Federal power marketing administrations have also sold power at
market-based rates. According to FERC, most of the excess power costs that the
California Independent System Operator claims were collected in January 2001
were collected by nonjurisdictional entities. To the extent those entities sold power
at market-based rates, they received the same rates as jurisdictional entities. How-
ever, they would be exempt from both the refund provisions and price caps. Two
classes of wholesale power sellers who made sales under same rates are treated very
differently under S. 80.
S. 287
This measure, introduced by Senator Feinstein, directs FERC to impose cost-of-
service based rates on wholesale power sales by jurisdictional entities in the west-
ern energy market within 60 days. The term western energy market is defined
to include the States of Arizona, California, Colorado, Idaho, Montana, Nevada, New
Mexico, Oregon, Utah, Washington, and Wyoming.
Under this bill, the Congress would assume FERCs authority under the Federal
Power Act to set just and reasonable rates. The bill makes a legislative finding
that current wholesale power rates are unjust and unreasonable and compels
FERC to implement a ratemaking decision made by Congress. With all due respect,
Congress has no expertise to make ratemaking decisions. If this bill were to be en-
acted, we would find ourselves on a slippery slope. Decisions regarding rates would
be made in a political environment by a political body, not by an independent regu-
latory commission that relies on nearly 70 years of experience, is guided by a stat-
ute whose meaning is well-understood, and whose decisions are subject to judicial
review.
S. 287 will significantly discourage investment in new generation in the West at
a time when it is most needed. The duration of the price caps is uncertain, and may
be more permanent than temporary. The fact that price caps only apply to the West
will likely encourage investment in new generation to shift from the West to other
regions of the U.S. and other countries. Moreover, the fact that price caps would
apply to only 47 percent of the electricity supply in the West guarantees that price
caps will create two electricity markets, distorting the market and driving up prices
in the uncapped market even higher than current levels.
Smith Amendment to S. 287
The Smith amendment waives application of price caps imposed by S. 287 on
wholesale power sales in States that prohibit public utilities fro m either (1) passing
wholesale power costs through to retail consumers or (2) paying for such purchases.
Since California has not permitted State-regulated utilities to pass these costs
through to retail consumers, the amendment waives price caps on wholesale power
sales in California by public utilities. The Smith amendment also prohibits the De-
partment or FERC from ordering electricity and natural gas sales in States that
prohibit public utilities from either passing wholesale power costs through to retail
consumers or paying for such purchases unless there are guarantees the full pur-
chase price will be paid when due.
25
The Smith amendment authorizes States in the Western Systems Coordinating
Council to prevent public utilities from selling electricity in States that prohibit pub-
lic utilities from either passing wholesale power costs through to retail consumers
or paying for such purchases if a public utility is not meeting electricity demand
in its service area. In effect, the amendment authorizes Western States to regulate
interstate commerce, a power otherwise reserved to the Congress and the Federal
government by the U.S. Constitution. This authorization is inconsistent with nearly
70 years of Federal electricity law.
The Smith amendment reflects the concerns of the Pacific Northwest about the
impact that the failure of the California electricity regulatory scheme has had on
the region. The impact of this regulatory failure has been felt more in the Pacific
Northwest than in California, as a result of the retail rate caps in California. I ap-
preciate these concerns of Senator Smith and his colleagues from the Pacific North-
west.
The Department opposes the Smith amendment, for the reasons stated above.
I appreciate the opportunity to share the Departments views on the legislation,
and look forward to responding to your questions.
Senator BINGAMAN. Well, thank you very much for being here.
I think we will have 5-minute rounds of questions, each Senator
asking questions for 5 minutes. Let me start.
I take it from your testimony that the bipartisan bill that Sen-
ator Feinstein and Senator Smith talked about in their opening
statements is something that will not get the support of the admin-
istration and is opposed by you in any variation that you can envi-
sion.
Secretary ABRAHAM. Mr. Chairman, what I would say is this. I
have not, obviously, looked at the new legislation. I heard the re-
port that Senator Smith outlined, and so there seemed to be a lot
of components to it. I would not say, without studying it, that every
part of the bill would be something we would oppose.
But to the extent, as I have tried to outline in my remarks, that
we move in the direction of price controls, then we are going to find
ourselves I think in clear opposition to legislation, especially if it
is at a time like this where we are trying to deal with shortages
that present real immediate crises in terms of blackouts, in terms
of resultant economic and other sorts of consequences. That is our
view.
Senator BINGAMAN. Let me ask about the real immediate crises
that you are referring to. This idea that we are going to resolve
this or to some extent resolve it by increasing electricity imports
from Mexico. I do not know. I have not made a real study of it, but
that is not a solution to an immediate problem, is it? Maybe long
term there is some benefit we could gain from increasing imports
from Mexico, but there is no infrastructure to accomplish that at
the current time.
Secretary ABRAHAM. Actually it is interesting, Mr. Chairman.
Right now in the State of California, as I outlined, we are dealing
with an immediate challenge for the summer of trying to address
an approximately 5,000 megawatt differential between projected
peak demand and supply. Every megawatt counts in that kind of
setting, or else we will find ourselves with the sort of rolling black-
out projections coming through that I mentioned in my statement.
Last week at a hemispheric energy ministers conference in Mex-
ico, I followed up earlier discussions which we have had with the
Mexican Government about the possibility, over the next 6 to 9
months, of increasing the possible imports of power generation,
electricity generation, from facilities in Baja. The Mexicans and our
26
administration feel there is actually a very significant possibility of

increases.
The biggest problem we have with respect to infrastructure is on
our side of the border between the border and San Diego where
right now we cannot bring very much power beyond what is cur-
rently being sent. But there is the potential for some increase.
Right now we are looking for every possible way that we can pro-
vide assistance to increase Californias capabilities for the summer.
So, in fact, there is that possibility for the next 6 months that we
would see increases.
Senator BINGAMAN. I guess what I am still unclear on is, if the
Feinstein and Smith legislation is unacceptable and all of the other
proposals that have been developed here are unacceptable, what is
the solution that the administration offers for this problem of a $45
million a day cost being charged to the treasury of California? I do
not see that coming to an end. If anything, as we get into the sum-
mer and electricity use increases, I would expect that the crisis
could worsen, and I do not see any solution being offered to deal
with it.
Secretary ABRAHAM. Mr. Chairman, let me say this. There are
two issues here. As I said in my testimony, I am afraid we have
diverted attention away from what I believe to be and what the ad-
ministration believes to be the central crisis facing California this
summer, which is people without power at periods of time when
this would have significant lifestyle impact, significant impact in
terms of the potential health of residents of the State, impact on
the economy of California. That is what we are trying to work on
primarily.
Now, I am not in any way suggesting we do not care about high-
er prices. We do. I believe the action which was taken by FERC
last week in its decision to follow up on earlier decisions it had
made with respect to the reasonableness and the justness of prices
being charged was an important step within the context of Federal
actions that can be taken about prices.
But our primary goal right now is to try to make sure that Cali-
fornia does not start a wave of blackouts that could reach beyond
its borders. What we are doing in that respect, as I outlined, is a
variety of things we have been working with the Governor of Cali-
fornia on to try to address either an increase in supply or a de-
crease in demand. I am not saying that people in California do not
want lower energy costs, but I know that for sure they do not want
to be sitting this summer without electricity at all, and our goal is
trying to avoid that as the primary public interest responsibility of
this administration.
Senator BINGAMAN. My time is expired. Mr. Chairman, it is your
turn I guess.
The CHAIRMAN [presiding]. Thank you, Senator Bingaman.
Mr. Secretary, are you familiar with the situation in Pennsyl-
vania where they have wholesale caps, retail caps, but they are
quite high? So, there is a lot of flexibility in there. It is my under-
standing that in their deregulation plan, they made sure that there
was plenty of supply within the State of Pennsylvania before they
tied into this. So, unlike California where I understand about 25
percent of the power comes from outside the State, they have a sit-
27
uation that seems to be working, at least in the realm of price caps

on wholesale and retail. Is there an application for that concept
that would be workable in your opinion?
Secretary ABRAHAM. Well, as I indicated in my opening state-
ment, there has been a soft price cap in California. There was
throughout the year 2000. Every time it was brought down, it was
allegedly going to lead to lower prices. The average price for elec-
tricity actually went up, even as the price cap was reduced.
At the end of the day, the biggest challenge, as I said in my com-
ments, that California faces I think is the decision that was made
that did not permit the California utilities to have an ability to di-
versify the means by which they acquired power which they had
to purchase beyond that which they generated themselves. When
last summer they had the opportunity to enter into long-term con-
tracts, as I mentioned, for instance, one with Duke power at $55
per megawatt-hour, they were in a situation where they would
have been paying a price lower than that which the Governor of
California today is able to pay for long-term contracts. Instead,
they were forced to buy all of their wholesale power on the spot
market without sufficient generation within the State to be able to
keep prices under control. But the real escalation in the prices was,
in large measure, a result of the unique limitations that were
placed on Californias utilities with respect to the purchase of
power.
The CHAIRMAN. Now, let us follow that through a little bit be-
cause, as Senator Bingaman suggested, what we want is a solution,
and the long-term solution sought, obviously, is more power avail-
ability within the State of California as opposed to outside the
State of California. Now that is, of course, a decision that Califor-
nians should make as to where they want to get their power. But
if they are dependent on outside the State, unless they have long-
term contracts, they have some real exposure on price spiraling,
which they have already experienced rather dramatically.
My question to you though, is, is there enough available power
outside of California that would come in if, if you will pardon the
bottom line expression, they were assured they were going to get
paid? Right now we have got a difficult time understanding the sit-
uation in California because they have not passed on the true cost
of that peaking power to the consumer. It has been first the capital
of the three major utilities that have basically seen their capital
base exhausted, and now it is a combination of loans and bonds
that the State is prepared to guarantee.
The question is, of course, is the State going to bear that respon-
sibility, or ultimately are they going to pass it on to the consumer,
or is there any difference really between the consumer and the tax-
payer? It may be politically a little easier to finesse it off to the tax-
payer than the consumer.
But we are looking at trying to address Californias need to get
through this crisis, and I am wondering what role you might rec-
ommend of FERC or whatever agency to ensure that the outside
power that has to supply California until they can generate more
capacity within the State would come in and what assurances do
they need from the standpoint of getting payment? Because when
you order payment, what does that really mean? Is that an obliga-
28
tion of the Federal Government ultimately if California ratepayers

do not pay or the State of California does not pay the producers
of that power? Whose obligation is it?
So, we have got everybody kind of drifting around here trying to
look for a solution, but if there is enough power out there to supply
California during this interim and they get assurance that they are
going to pay for it and the representatives from California know
that their consumers are not going to be gouged by necessarily
peaking prices, we ought to be able to work through this thing.
Secretary ABRAHAM. Well, Mr. Chairman, we are working with
the State of California, as I indicated in my testimony. I called the
Governor of California on the Sunday after the inaugural to find
out what immediate things we could do. I believe you will recall
that one of those actions, which I also mentioned, was to extend for
2 weeks the orders that were in place with respect to the sale of
electricity, natural gas because Governor Davis indicated that if he
had those 2 weeks and Senator Feinstein and others who talked to
me about that indicated that that would give them time to get the
State in a position to begin buying on long-term contracts to have
the whole faith and credit, if you would, of the State behind the
purchases so that out-of-State sellers would have the confidence
and assurance they could make those sales.
We have since then worked with the Governor on a variety of
other issues that relate to expediting the permitting processes with
respect to new power generation to try to find additional sources.
The Governor I know is trying to initiate a variety of conserva-
tion measures. Senator Feinstein recently wrote to me with regard
to the issue of conservation as it might affect the Federal Govern-
ment, and the fact that quite a significant amount of Federal Gov-
ernment activity goes on in the State of California at our facilities.
We are looking into that as another way to try to make the supply
level that will be available at peak points this summer meet the
demands that are anticipated.
I cannot tell you today, as I indicated in my testimony, that we
are at the point where we can guarantee that there will not be
blackouts. There still is a gap. But if the various actions that the
Governor is taking are all successful, then that gap can be closed.
The CHAIRMAN. Along with FERC.
Secretary ABRAHAM. Yes, FERC has played a role. In fact, FERC
made several decisions last week, which I suspect Chairman
He bert will explain in greater detail, that related both to the prices
that had previously been charged in the month of January. I sus-
pect and understand there will be another ruling with respect to
prices that were charged in December.
The one thing that I would just note also, because it was touched
on by others and in my testimony as wellI believe you also men-
tioned itis that many of the very entities which we do not have
jurisdiction over are responsible for some of the most excessive
charges that have recently been outlined in FERCs rulings. Now,
those are State entities.
It would seem to me that as we talk about what the Federal Gov-
ernment should do, it has at least been interesting guidance to me
that no efforts have been undertaken to address any changes with
respect to the pricing policies of those entities. I am not rec-
29
ommending that. I think it would have the same negative effect to

the extent that I have outlined price controls effects can be. I am
just saying I think we need to look at this in a broad context and
understand what the Federal Government role can be and what it
cannot be.
The CHAIRMAN. But the implication is the power is out there if
there is some degree of certainty that they are going to get paid.
Secretary ABRAHAM. We are working with California. I again do
not want to make any assertion today that there will not be rolling
blackouts this summer. I indicated the difference that exists as we
project it today. I saw indications in the California press this morn-
ing, in fact, that there may have been an underestimation of the
magnitude of the delta between supply and demand. We will con-
tinue to monitor it very closely.
The CHAIRMAN. Thank you very much.
In the order of attendance, Senator Craig.
Senator CRAIG. Well, Mr. Chairman, thank you.
Mr. Secretary, first of all, let me congratulate you for the work
you have done to come up to speed on this issue very rapidly. Obvi-
ously, by your testimony today, you have demonstrated your will-
ingness to do so by the very facts that you put forward and the
knowledge you are displaying on this situation.
I am not going to ask a question. I am going to make a state-
ment. You may choose to respond to it.
First of all, I agree if we create an artificial market, we will send
the wrong signals without doubt. It has happened in the past. You
have cited those situations, and clearly the greatest example is now
the catastrophe facing California.
In my State of Idaho, a week ago I suggested to its citizens that
they may have to turn off their air conditioners this summer, ex-
cept for those elderly who truly need a cooler environment in which
to live. The reason that message might be heard in Idaho is be-
cause most citizens are going to be looking at 25 to 35 percent rate
increases, and they can correspondingly react by saying, yes, if I
do that, I may save myself some money. Tragically enough in Cali-
fornia, that same suggestion probably would not follow through. It
will follow through in Oregon if a variety of options are given and
citizens are allowed to see how they can effectively conserve and
lower or at least sustain the cost of their power bill as prices go
up. But again, in a false market, those kinds of signals mean little
to nothing, especially if you do not have to make those kinds of
choices.
Idaho is not unlike Washington, and we heard those figures this
morning. We are going to hear from Governor Locke, who was on
national television this morning standing in a middle of a dry lake.
There are many dry or drying-up reservoirs in the State of Idaho.
Our watershed is at 38 to 50 percent of normal. Our utility people
are talking about the rolling brownouts of California being the roll-
ing brownouts of Idaho. And yet, we have got to retain a stable
power supply, a quality power supply for some of our industry that
cannot afford to shut down or turn off or intermittently bring them-
selves on line.
If we work together, we can get through this summer, but work-
ing together does not mean to send a false signal to the market.
30
Clearly, our utilities are hustling now to try to see where they can
bring additional energy on line in the future. But in the immediate,
cooperative actions on the part of both the consumer and the pro-
ducer are going to have to be, in large part, I believe some of the
solution we deal with, Mr. Secretary.
But I would suggest for those of us in the Pacific Northwest
and you have heard from Senator Smith this morningone of our
major players is Bonneville, of course. We will sit with you very
quickly to see where we can offer them optimum flexibility to deal
with the market. They are doing a reasonable job now as it relates
to market pricing and how they handle it and how they respond
and what consumer has flexibility to go off line to allow greater use
of that resource somewhere else. That will affect Oregon, Washing-
ton, Idaho, and part of Montana.
But I do agree with you that to suggest that we just simply fix
the market now by freezing the market or shoving it down does not
a message send to produce and to solve a problem. So, thank you
very much for what I think is an important and direct statement
in that regard.
Also, let me thank you and the President for being bold and cor-
recting or clarifying a point that is so essential as it relates to CO2
and how we deal with that emission. We cannot continue to send
false signals to the market. The market deserves stability of deci-
sion making at the Federal level. They deserve to know where this
Congress and this President will go, as it relates to Federal regula-
tions, so they can adjust and adapt appropriately to it. I think that
statement yesterday was key toward heading us in that direction.
It is important that the country understand that we are truly, as
I think the Senator from Nebraska said, in an energy crisis of sub-
stantial proportion, and if we fail to deal with it responsibly, we
will fail our country and our country will fail.
Thank you very much, Mr. Secretary.
The CHAIRMAN. Thank you, Senator Craig.
Now we will hear from and be enlightened by the Senator from
California, whom we are very pleased to have on the committee.
Senator Feinstein.
Senator FEINSTEIN. Thank you very much. Thanks, Mr. Chair-
man.
Mr. Secretary. I was really surprised by the ideologic hardness
of your statement. I must tell you that.
I happen to agree with you that we are going to be about 5,000
megawatts short in California this summer. It is enough power for
5 million homes. It is a lot of shortness.
How do we keep prices down this summer? You addressed supply
and demand issues mostly long term. My question is, what do we
do right now?
California, as you know, is expediting permits, is expediting
peaker plants, is moving as rapidly as it can to build additional
power sources. The 5,000 megawatt shortfall is not going to be the
only shortfall. They are going to be charging $5,000 a megawatt
this summer. What does California do about that if it is not going
to get any help to provide that stability and reliability over that pe-
riod of time?
31
Secretary ABRAHAM. Let me begin by saying that our position is

not a hard ideological position. It is a common sense position I be-
lieve.
Let me tell you what I do not think we should do. I do not think
that we should impose through FERC or the Federal Government
or through congressional action, in the form of a bill that simply
mandates it, the kinds of price controls that will make the delta
between supply and demand worse. And that is exactly what I
think will happen. If we tell people who generate power in Canada
that there is going to be a price cap on what they can sell that
power for in the United States, then they will not sell it here and
your summer differential between supply and demand will get
worse. So, then you will be back and we will all be back here talk-
ing about what do we say to the people who now are subject to
even more energy shortages that we currently contemplate.
Senator FEINSTEIN. But you are sending a signal that it is okay
to charge $5,000 a megawatt-hour. We know they charged as much
as $3,000 in the past.
Secretary ABRAHAM. Actually I believe the signal that was sent
last Friday by FERC is a signal that you cannot charge unjust and
excessive rates. I think that as people realize that they are going
to be, in fact, forced to respond to FERC orders and to refund those
rates that are above market level, that they in fact will respond ac-
cordingly.
Now, again, this administration is not for unjust and unreason-
able and excessive rates. In fact, we have authority through FERC
to address that. They did that last week with respect to January.
They will be doing it again, I assume fairly soon, although Chair-
man He berts testimony will probably comment on this more spe-
cifically, with respect to December. That is the way to address
prices that are excessive and unreasonable.
But in my view to take an action that places an artificial cap in
place is going to cause the shortage problem this summer to get
worse. Moreover, it is going to send a signal, I think, with respect
to new generation that is going to make it much harder for Califor-
nia and the rest of the West to encourage people to develop new
generation in that region. Companies who build generation have a
choice. They do not have to build it in the West. They can build
it anywhere they want, and they are more likely, I would think, to
build it in areas where they believe they are not going to be, after
they have made major investments, significant changes in policy
with regard to what the likely return on their investment is going
to be.
At the same time, I would just say this. If we impose a price con-
trol that fails to work effectively with respect to the demand side
of the equation, right when the goal of the Governor of California
is to reduce demand, then I think again you are likely to see the
differences between supply and demand even greater at exactly the
time the greatest threat is posed to the people of your State.
Senator FEINSTEIN. Let me just say this. The Governor of Califor-
nia is also asking for the help. He is asking for the help to just cre-
ate a reliable and stable situation for a short period of time so that
California can get through this crisis.
Let me put it another way.
32
Secretary ABRAHAM. Can I just comment on that, though? The

Governor of California and I have had a number of meetings and
conversations. The first and foremost thing that he has made clear
to us I believe that he wishes help with is to try to meet the crisis
he sees forthcoming this summer with regard to shortages, black-
outs, and the resultant economic and security challenges they pose.
That is our top priority. I am not in any way suggesting high prices
are a good thing. What I am saying is that our first priority, ac-
cording to what your Governor have indicated to me, is to try to
address the shortages and the blackouts, because I think they
would be catastrophic.
I am sorry to have interrupted, but I did want to clarify that.
Senator FEINSTEIN. Let me just put it in another way. I would
agree with you that the California Public Utilities Commission was
wrong to prohibit long-term contracts. Let me give you an example.
In November, Duke was offering power at $50 to $55 for 5 years.
Today, 3 months later, the State has had to sign contracts for dou-
ble that amount and double that length of time. Why in a span of
3 months has this changed so dramatically?
Secretary ABRAHAM. Well, again, I think that is a long-term con-
tract. I do not know whether they were identical contracts, and I
am frankly going to have to defer to the experts at FERC to try
to distinguish that.
But let me point out just a simple fact which you made. If the
State of California had simply allowed its utilities to purchase ei-
ther last summer or fall contracts at the $55 per hour rate, we
would be in a whole different situation. We would not be here
today. Again, the question becomes after these consistent decisions
that were made that have precipitated and forced the purchase of
wholesale power on the spot market that got us into this situation,
it is not going to be that easy to get out of it under any condition.
I would just urge everybody to consider what the first challenge
we have is. The question is not how do we undo bad contracts that
were entered into last year. It ought to be how do we protect the
citizens of California this summer from the blackouts and the
shortages.
Senator FEINSTEIN. Let me just say one thing.
Secretary ABRAHAM. Maybe that is not important to others. To
me it seems to be the primary consideration.
Senator FEINSTEIN. Just one quick comment. I agree with you it
is the States problem to resolve its bad law. I agree with you that
the market should be able to fluctuate freely. All we are asking for
is help to prevent price gouging.
Secretary ABRAHAM. And I share that view.
Senator FEINSTEIN. And it is taking place.
Secretary ABRAHAM. Senator, I share that view and I believe that
FERC has the responsibility and has last Friday demonstrated the
willingness to address excessive and unjust prices. That is the
proper way to do it.
I do not think the right way to do it is to impose price caps that
will exacerbate the problems the State faces. I am telling you, I
think this summer, if California has worse blackouts than cur-
rently projected, that that would have been a disservice to the peo-
ple of your State. If the rest of the West finds the Canadian energy
33
providers refusing to sell at the same levels because of price caps

and the shortages that are projected in other States are increased
because of that, I think that is, in my judgment, an irresponsible
carrying out of our public responsibilities here.
So, I just think we have to look at these in terms of priorities.
To me our first priority to the American people ought to be to try
to ensure that there is a reliable availability of energy this summer
when we know there is a crisis for a variety of factors from the cli-
mate issues to the issues that relate to supply and demand dif-
ferentials.
Senator BINGAMAN [presiding]. Senator Smith.
Senator SMITH. Spence, I understand supply and demand very
well from many years in a commodity business, but I want to asso-
ciate myself with Senator Feinsteins questions because I am afraid
this summer we are going to be in the middle of a dry lake bed
explaining to very angry farmers and homeowners and former fac-
tory workers the lessons of supply and demand. I do not think they
are going to listen. I think we need to increase our effort to help.
I do not want to send the wrong signals to the marketplace to
produce or to conserve. I do not want to send the wrong signals,
but I will tell you the wrong signal is a recession. Nobody is going
to be investing in an environment when you have not just energy
rates going up, but unemployment rates going up.
Let me go to where Senator Feinstein was questioning you as to
the ruling that FERC issued in January. It set the just and reason-
able rate at $273 per megawatt, but I think you are saying that
that will discourage investment. I do not think that will discourage
investment. Can we not do that?
We heard lots of economists in an earlier hearing saying that
short-term temporary caps at a high enough rate would not retard
investment. All I am saying is I think we need to give you more
authority and I think you need to use it to mitigate a catastrophe.
The Wall Street Journal says Washington State is going to lose
43,000 jobs. My State will not be far behind. I do not want to be
seen as giving economics lessons when we have our States heading
southward in every direction in every economic indicator.
Can you help me a little more?
Secretary ABRAHAM. Well, of course. Let me just say this. First
of all, I know that people who are concerned about economic con-
sequences recognize the relationship between blackouts and eco-
nomic recessions very clearly. I think that it would be important
and I recommend that the members of this committee make it very
clear to their constituents what we are trying to make clear, which
is that our first goal is to prevent them from seeing their busi-
nesses close down because there is no electricity, because we see
Canadian imports disappear, because we find, because of price
caps, in the long-term sense there is not enough generation being
built in your region because people decide they ought to build it in
the Southeast.
Now, I am concerned about that. In my judgment there could be
immediate economic consequences if a price caps regime is placed
in effect that makes the summers shortages even worse. In my
view that should be the primary goal of all of our efforts here, to
deal with the summer crisis in terms of power shortages.
34
Now, what do we do about prices? That is a separate issue. It

is not unrelated, but it is a different crisis than the crisis that I
think should occupy our primary focus.
With regard to prices, I believe FERC acted properly last week
in the decision that it rendered, and I believe it has an ongoing
duty to monitor prices to determine if they are unjust and unrea-
sonable. And we will support that effort. The refunds that will be
required under their order with respect to Januaryand I assume
there will probably be some kind of decision, as I have said, made
fairly soon with respect to Decemberwill be ones that I think
send a very strong signal to those who might try to exploit or take
advantage of a situation that we all recognize to be a serious one,
that they are not going to be allowed to get away with it.
In my judgment, that is a way to balance the issue of making
sure prices that are excessive and unjust are not charged with the
separate issue of making sure that the power does not go out. In
my view we have got to try to make sure, as we approach this, we
do it in a way that balances those two considerations. I do not
think you want to say to your constituents: Good news, FERC just
ordered a price cap; bad news, you are not going to have power for
the whole summer. Now, obviously that is an extreme rendition.
But our goal is to try to address the power shortage crisis first and
foremost.
Senator SMITH. Spence, I think some of the refund you hope will
be there will be there too late for a lot of small businesses and a
lot of northwesterners. I think we need to show them we are doing
more than I am hearing that we are prepared to do.
Many have already rushed out and criticized President Bush to
regulate us into safety. I have not done that. I have waited until
I got a signal from a California official that said I understand the
central problem in California is a law that is broken and it is bro-
ken because it caps the retail rate so there is no conservation sig-
nal being sent. If you want to send a lot of signals to conserve, Sen-
ator Feinstein has just done that or opened up that possibility
whereby California, on a rate they determine, can allocate retail
rates that will pass through costs. That will conserve power.
I believe the capswe are literally talking about 20 months
will not discourage incentive if the rate is put high enough and we
can go home to very angry people and say we are helping short
term and long term the future is very bright.
But the worst signal in the world, in my opinion, is that we are
unwilling to exhaust every measure, overturn every stone to try
and find a way to help through this crisis because I think it is
going to be very serious.
Secretary ABRAHAM. Senator, as you well know, even before I ap-
peared for my confirmation hearing and since, you and I have had
numerous conversations with respect specifically to the Northwest
about a variety of issues, especially those that relate to the Bonne-
ville Power Administration. We have had meetings with various
folks from the region, some of which you and I both participated
in, and our office has, on a regular and ongoing basis, been working
with BPA to try to address the rate issues that are confronting it
as a consequence of a variety of the factors we have talked about
today, the climate issue in particular.
35
We are doing our best to try to address that. We hope to have

a plan which will take into account a number of different kinds of
ways of trying to focus on the rate issues that are particularly sig-
nificant and sensitive to you. And your leadership on that in bring
these issues to our attention and making sure we keep focused on
them is extremely important.
With respect to the broader issue of price caps, I would only say
this. It is our view that, in fact, the signals will be very substantial
if we move in a direction that suggests that caps are not only in
place, but that a regime now exists that will significantly affect fu-
ture investment decisions. We are trying to look at it for the sum-
mer. We are trying to look at it in terms of how to keep prices
under FERCs authority within the just and reasonable category.
And we are also trying to see how at BPA we can make changes
in terms of policy that will address some of the rate increases pro-
jected there. We will do our best.
We may have a difference of opinion on the effect of rate caps.
Obviously we do, but it is not because of lack of sensitivity about
higher prices.
Senator SMITH. Long term we do not. I agree with you com-
pletely. Rate caps are the wrong signal long term. But we have a
short-term emergency. And if California is willing, under a Federal
directive, to change its law, we will conserve more and we will still
incentivize producing more, and that is what we have to do. Any-
thing less than that is going to leave the West higher and dryer
than it has ever been before.
Senator BINGAMAN. Senator Cantwell.
Senator CANTWELL. Thank you, Senator Bingaman.
I too would like to join my colleagues in encouraging the admin-
istration to think more openly about this policy. We seem to be try-
ing to draw a conclusion here today that somehow, by not ensuring
that FERC does its job on reasonable rates, that the opportunity
to make sure that Californians or others are not left in the dark
this summer, that that is the flag that we are waving, when in fact
the reality is, with triple digit increases, there will be people in the
Northwest sitting in the dark. There will be aluminum facilities
that will be shut down. There will be small businesses that will be
shut down. So, while we are talking about protecting people from
blackouts, the reality of inaction here is going to cost us those same
consequences.
I would like to ask a couple of specific questions, and I appreciate
your attention and newness to the job. But understanding where
the administration is as it relates to the Northwest on a couple of
different policies.
First of all, you mentioned the FERCs decision to order power
producers to refund millions to utilities. That was directed specifi-
cally at California. The Northwest and Washington, even though
some of those same providers do business in Washington, was not
included. What about including those refunds to the Northwest?
Secretary ABRAHAM. This would be a decision that I think ought
to be, obviously, directed at the next witness here who is the Chair-
man of the Federal Energy Regulatory Commission.
Senator CANTWELL. Do you support including Washington State,
Oregon?
36
Secretary ABRAHAM. I believe that there is a process by which

any allegation of unjust rates can be addressed by FERC, and if
there is an allegation that that has taken place in any region, I be-
lieve that there is a mechanism in place for that to be judged by
the agency. If they concluded that with respect to Washington,
then they are empowered, as I understand it, to make similar dec-
larations there.
I am not sure what the process has been that has led to the deci-
sions so far in terms of whether or not Washington has sought an
appeal or whether or not this was exclusively brought to their at-
tention by the California ISO. I honestly do not know the process
enough to tell you whether that is why it was exclusively limited
to that one State.
Senator CANTWELL. We will certainly ask the question when he
comes up but would seek an opinion from the administration on
that as well.
The second issue, you mentioned the Canadians a couple of
times. Are you currently engaged in the supply side with the Cana-
dian Government on helping the Northwest on supply?
Secretary ABRAHAM. As a matter of fact, last week in Mexico City
at the hemispheric energy ministers meeting, we had the first of
what I suspect will be an ongoing and growing trilateral set of
meetings with Mexico, Canada, and the United States to discuss a
North American energy strategy or initiative. We hope to work
more closely with the Canadian and the Mexican Governments
with regard to broad continental energy challenges.
Prior to that, I actually had a separate bilateral set of meetings
with my counterpart, Ralph Godale, who is the energy minister for
Canada. We are in active discussions in terms of future opportuni-
ties to expand the relationship between the two countries on a bi-
lateral basis.
Senator CANTWELL. But those are long-term discussions? Nothing
for the immediate
Secretary ABRAHAM. No.
Senator CANTWELL. Do you expect any results out of that on the
supply side in the next 6 to 7 months?
Secretary ABRAHAM. Because of the nature of the history of the
relationships between Canada and the United States, there have
not been quite as many immediate issues as we have had in terms
of working with our counterparts in Mexico in terms of power ex-
portation issues. But we intend to continue those discussions with
both Canada and Mexico. I am not prepared today to make any
prediction with respect to a Canadian/American change in terms of
levels of support. That is something still in discussion.
Senator CANTWELL. The third question, if I can. I am running
out of time here. The picture of our citizens from Washington and
Oregon and other parts of the Northwest standing in dry lakes has
been conjured up a couple of times here. I guess the fact that we
are facing these triple digit increases brings, I think, a very impor-
tant point to be put on the table, and that is that sometime this
spring we will be facing the choice about what to do about the
shortfall in water supply as it relates to the biological opinions
about salmon. What is the administrations position on what we
should do and options?
37
Secretary ABRAHAM. At this point, as we examine a variety of op-

tions which confront us with regard to BPA, we are still in the pol-
icy development stage. We, I think, have made it very clear that
the administration does not support the breaching of dams as a so-
lution. We do not believe in foregoing treasury payments from BPA
as a way of solving the problem either because I think that would
lead to serious reconsideration of the relationship. And we do not
support at this time some of the proposals we have had to somehow
turn Bonneville into a regional facility.
But we are looking at a variety of other options that range from
voluntary conservation, to purchasing load reductions, to other
sorts of things, and the use of fish mitigation credits as we try to
develop a policy. But when we have a more concrete proposal to
offer, we will be submitting it.
Senator CANTWELL. Mr. Chairman, I know my time has run out,
but it would just like to leave the point that I think some of these
questions show that the problems for the Northwest, without im-
mediate action here, only get worse. So, we are trying to work in
a constructive way to give relief to the individuals, businesses, and
to the environment in the Northwest.
I would also, at some other point in time, like to ask you about
the DOEs proposed cutting on the energy efficiency program and
what we need to do to make sure that that investment level gets
restored.
Secretary ABRAHAM. I am confident that this committee will have
a number of budget related questions to pose to me when we finally
release our specific budget information in the next couple of weeks,
and I will be glad to try to address all of them.
Senator CANTWELL. Thank you, Mr. Chairman.
The CHAIRMAN [presiding]. Thank you, Senator Cantwell.
Senator Thomas.
Senator THOMAS. Thank you, Mr. Chairman. I know there are
many witnesses remaining.
One of the important things if we are to get support for the Cali-
fornia idea of some of these kinds of things is I think we need to
be more assured that California is doing some of the things that
clearly need to be done. I must tell you I am not certain. For in-
stance, the powerplants that are now down could be brought back
into service with some repairs and some maintenance. Do you
know, is that being done?
Secretary ABRAHAM. Senator, I do not know specifically what
might be going on at every facility. I know, as I commented earlier,
that Governor Davis understands or has at least reflected in state-
ments he has made that the principal responsibilities with respect
to getting Californias energy problems resolved lie in California.
They are now targeting new generation and conservation as part
of that solution. But I am not sure, and I would have to get back
to you.
Senator THOMAS. I understand. But I think we need to be a little
more assured, if we are going to make some changes and put some
impact on some of the rest of us that will be impacted. Implement-
ing emergency demand for reduction in use. Have they done that?
I do not know the answer. I do not know what has been done on
the retail pricing for sure.
38
So, I am sympathetic to the problem. I know that it is a very dif-

ficult one, and obviously the answer is somewhat over time. But I
tell you what. Before I am willing to go ahead with a great deal
of support for doing things there, I want some assurance that they
are going to do some of the things, that clearly should not have
been done in the first place, to find a remedy for those kinds of
things. I will not take more time, but I can tell you that I am inter-
ested in that response.
Thank you.
The CHAIRMAN. If I may, before I call on Senator Domenici. We
got into a situation in the last administration where there were six
or seven coal-fired plants that EPA alleged the life was being ex-
tended rather than the position of the operators who claimed that
they were simply maintaining the plant up to the level of permit-
ting which was required. EPA indicated that they were prepared
to file criminal charges against the management if these plants
were allowed to continue. Now, I do not know the factual informa-
tion, but clearly when you are faced with that kind of a threat, it
becomes a full employment act for many lawyers to make a deter-
mination of was the maintenance done to simply extend the life of
the plant or simply to operate.
It seems to me, Mr. Secretary, that these are some areas that we
need some enlightenment on because if, indeed, those plants have
a capability of producing energy and are not, we ought to be able
to settle that differential because they clearly can make a signifi-
cant difference.
We have seen the administrations position on CO2 which is pret-
ty definitive. They said it was not a pollutant. Period. I think those
of us in the Northwest would encourage the rest of you to go out
and grow some trees because that helps too.
Senator Domenici.
Senator DOMENICI. Mr. Secretary, it is good to be with you. First
of all, I want to compliment you. I always knew that you were a
quick learner and certainly you have learned in this field in enor-
mous leaps. Your statement today is very interesting in terms of
its comprehensive nature, and I compliment you.
What I want to talk about here today is I want to tell you a little
history. To the Senator from California, I would like to tell you I
have been here long enough to where the price of natural gas was
7 cents a million cubic feet. You are talking about $60. Well, that
was because the entire natural gas fields of America in production
were regulated by a strange interpretation of a case that held that
the National Government had authority to regulate, so a group reg-
ulated it. We did not have any natural gas, literally none. A trickle.
We started deregulating. The first bill we did we deregulated
only new gas, deep gas, and gas in wells that you could easily de-
termine if you put another well in, you do not hurt anything. We
eventually deregulated.
The United States does not know how many million cubic feet of
gas we have it is so many. But, Mr. Secretary, something is wrong
when a producer in New Mexico gets $5 and the gas is sold to
somebody at $60. Somebody has to find out what is happening.
Since I am not going to be here for the FERC Chairman, I am
39
going to ask the chairman if he could ask him to study that and
give us a report as quickly as he can on what is happening.
The CHAIRMAN. Yes.
Senator DOMENICI. Now, this is not just a California problem. So
you will know, Mr. Secretary, in Senator Bingamans and my State,
we have 990 workers, the most highly paid workers in one part of
New Mexico, working in a copper mine. They may be laid off within
the next month because their cost of electricity went from 3 to 4
cents to 21 to 22 cents, and they are not sure they can produce cop-
per and pay the workers. There is another one close at hand with
similar proportions. Now, that is on the one hand.
On the other hand, the Senator from California, there are two
major, major powerplants being considered in the State of New
Mexico. One is already completed and New Mexico has given the
go-ahead in a little town of Deming, New Mexico. That is $250 mil-
lion to $300 million. Over on the east side of the State in the city
of Clovis, they are looking at another one and it is bigger.
I get the rumble that the companies that are doing that have
every option to go to California, but they are not going to go to
California because I would suggest to you that there are still regu-
lations and rules that inhibit the investment as it is being made
in other States that have less of that. And that may be Californias
desire. When you talked to me, it was not. You said we want to
build new powerplants in California.
I suggest we ought to find out the reality of it. Is California
today really willing, by its regulatoryand this will not solve your
temporary problem. I know you would immediately say, Senator,
that will not help that. I know that. But I think we ought to find
out. The State of California went 12 years without a powerplant,
and while demand went up, it peaked out. I think we ought to
know as a Nation if they are really ready to let natural gasthat
is the simplest one. It is pure white. Are they really letting them
come in or are they going to expect powerplants to be built around
the country and go in there because they want to keep rules that
are harder than other States have and they are still complying
with the ambient air standards of America?
So, those are my two observations. One, how come the producer
is getting so little and the market is getting so much? Somebody
ought to follow that gas from the panhandle in New Mexico and
Texas or Wyoming and just see what is happening to it. It comes
out at $4, $5 from your field. Where does it get to $60? I think that
would be an interesting thing for us to find out.
I also want to say to FERC you have to be concerned. Where is
the FERC leader sitting? I cannot be here, but you have got to be
concerned. If you have some regulatory power, you have got to say
there is a number of States getting hit by this because eventually
the price of natural gas in California seeps through the system. It
does not get there overnight, so the Northeast is not going to get
hit with it yet. But New Mexico may because it is close, and even-
tually that little piece of gas that has mobility to move around in
the system, which needs it, is going to feel this extraordinary price
that is being paid in California.
Now, I do not have an answer, Mr. Secretary. But I respect your
statement and I truly respect your concern that we do not cut off
40
supply and investment and make things worse. But I do suggest

for many States it is pretty bad right now, and can everything stay
as it is for the next 3 or 4 years while we finally get some natural
gas on board? Long term, it may take 10 years to get the supply
up. So, I leave that before you. I say that is a problem. I believe
everybody understands that is a problem.
If you care to comment, I would very much appreciate it. The
Chairman asked for that study and I would certainly hope that you
would pay extra attention to the fact that a number of us are going
to get hit by it and what is the solution to that.
Thank you, Mr. Chairman. Thank you, Senator Bingaman.
The CHAIRMAN. Thank you very much, Senator Domenici.
Would you care to respond?
Secretary ABRAHAM. It is obviously an area that we will be glad
to work together with you on, Senator.
The CHAIRMAN. In deference to the agenda, I would hope that we
could conclude our questioning with one round. But as a con-
sequence of the concern of the Senator from California and the
Senator from Oregon, I would be prepared to allow them one ques-
tion, should they wish. Then I would like to move on to the other
panel. As you have observed, you have taken much more time than
we thought.
I want to commend you for your forthright answers and I think
particularly the lack of equivocation, which we have been exposed
to from time to time. You have been very responsive and very
knowledgeable, recognizing the fact you have been aboard a very
short time. So, I must commend you.
Senator Feinstein, do you have in conclusion one question? I am
just extending this courtesy to the two of you.
Senator FEINSTEIN. If I may, I would just like to enter into the
record the March 9 letter, signed by the three Governors, Governor
Davis, Governor Locke, Governor Kitzhaber, essentially asking
FERC to help them with the prices.
The CHAIRMAN. It will be entered into the record.
Senator Smith.
Senator SMITH. Mr. Secretary, would you agree with me that the
central problem of our current crisis is the retail cap in California?
Secretary ABRAHAM. I believe that the combination of a half-reg-
ulated and half-unregulated California market, combined with the
decisions that were made to prevent the utilities in California to
diversify the way that they obtain that electricity they needed to
purchase beyond what they generated themselvesthose two fac-
tors combined with one last factor, which I talked about, and that
is the fact that over the last 5 years, there has been approximately
6,300 megawatts of new demand in California while simulta-
neously the total generation in the State declined. Those combined
in large measure, I think, to precipitate the crisis.
Senator SMITH. I believe Senator Feinstein and I are working on
a bill that fixes those short term without hampering the long-term
vision that you and President Bush have for energy in the West
and throughout the country. I would just invite you to work with
us on this and see if there is not something that we cannot do to
fix those two issues short term and long term.
41
Secretary ABRAHAM. Senator, I would just say that since I took

this job, I have spent a substantial amount of every single day
working on the issues that confront us in California and the rest
of the West, and I do not foresee at least any days in the near fu-
ture, probably the long term either, where we will not have, as part
of our agenda, working with you all on these issues.
Senator SMITH. Thank you.
The CHAIRMAN. Thank you very much. I want to thank you
again, Mr. Secretary, and wish you a good day. You have got more
than a half a day left.
What I would like to do now is call panel 2 and 3 together to ex-
pedite our time sequence. That would be the Honorable Gary
Locke, Governor of the State of Washington, along with the Honor-
able Curt He bert, Chairman of the FERC, and the Honorable Judy
Martz, Governor of the State of Montana. We trust we have got a
compatible group here that will proceed as they see fit.
I understand that two of the Governors are catching airplanes.
I always thought Governors had their own airplanes. But, never-
theless, if they do not, they ought to, at least from the West. Who-
ever has the tightest schedule, please respond by going first. You
drew the straw. Governor Locke, please proceed.
STATEMENT OF HON. GARY LOCKE, GOVERNOR,

STATE OF WASHINGTON
Governor LOCKE. Governor Martz indicates that she has her own
airplane.
[Laughter.]
The CHAIRMAN. Good for you.
Governor LOCKE. Chairman Murkowski and members of the com-
mittee, I want to thank you very much for the opportunity to ad-
dress you about an issue that is of fundamental concern to the eco-
nomic health of the State of Washington and, in fact, all the West-
ern States.
The so-called California energy crisis is really a Western United
States crisis, with high energy costs causing serious economic harm
to citizens, farmers, businesses, schools, universities, as well as
local and State governments. We share the same electric grid
which enables us to share power but also each others misfortunes.
Now the crisis is hurting irrigators in Arizona, resort hotels in Ne-
vada, industries in Oregon, and homemakers in Idaho.
In Washington alone, Georgia Pacific, a woods product giant, laid
off 850 workers just before Christmas. And just a few days ago, a
Tacoma chemical company laid off 80 workers and cut production
in half. They make chemicals for hospitals and other institutions.
Last summer, I had to invoke emergency powers to help the
States largest cold storage facility remain open and keep over
1,000 workers employed, as well as to protect frozen fish that had
been caught in Alaska and vegetables and fruit harvested in our
State of Washington.
Public agencies, hospitals, schools are being forced to cut pro-
grams, and homeowners and businesses have experienced in our
State increases in their electricity bills of up to 75 percent, with
more increases expected.
42
The Bonneville Power Administration has already announced

that it will have to raise rates by at least 100 to 200 percent, and
many rural co-ops are 100 percent customers of Bonneville Power
and will have to pass on those price increases to irrigators, farm-
ers, and food processing plants in eastern Washington. It will crip-
ple the agricultural economy of our State of Washington.
I have seen estimates that merchant powerplant operators are
extracting $1.4 billion per month from the Pacific Northwest econ-
omy, $1.4 billion that was not extracted just a year ago because
just a year ago wholesale power prices were ranging anywhere
from $20 to $40 a megawatt-hour. And now they are in excess of
$300 to $400 a megawatt-hour, and a few weeks ago or a few
months ago were as much as $2,000 a megawatt-hour.
The situation is untenable and simply cannot continue. It cannot
continue without permanent damage to the economies of Washing-
ton State and, indeed, the other Western States of America. Our
crisis is getting worse in Washington, in fact, the Pacific North-
west, because our hydroelectric dams are threatened by one of the
worst droughts in Washington State history.
The drought notwithstanding, the Western energy crisis is a Fed-
eral problem, and we in our individual States have been doing all
that we can to alleviate the crisis. For example, I have directed
Washington agencies and local government agencies to reduce their
use of consumption by 10 percent, and our State and local agencies
have, in fact, taken up the call and have responded.
We have also asked residents and businesses to reduce energy
consumption. We received reports that some of our largest utilities
from Seattle to Tacoma have, in fact, cut energy consumption by
6 to 10 percent in just 1 month alone.
I have used the emergency powers to allow utilities and indus-
tries to operate diesel engines and other temporary generators to
produce the electricity they need.
I have reached agreements that allow operators of older peaking
plants to run continuously 24 hours a day, 7 days a week, and we
have done it with the cooperation of Region 10 of EPA.
And I have asked the legislature to dedicate funding for low in-
come assistance to augment Federal block grants to help people in
eastern Washington pay very, very high utility and electricity bills.
We have a legislative package that offers tax incentives for the
cogeneration of electricity, as well as tax incentives for the pur-
chasing of energy efficient appliances and lighting.
We have, in fact, over the last several years, sited, permitted
both local and State permits for about a half a dozen powerplants
which, when completely completed, will produce electricity that will
power some 3.5 million households in the State of Washington. And
more are in the process of seeking approval.
But the real key to reducing outrageously high energy costs is for
the Federal Government to repair the broken wholesale market
structure. We need short-term, temporary wholesale price caps, or
the western economy will remain in jeopardy.
The FERCs cautious actions have brought no relief to the State
of Washington and the Pacific Northwest. Moreover, FERC is rely-
ing on market mechanisms to resolve the problem even though it
43
has formally found that the markets are dysfunctional and unable
to produce just and reasonable prices for wholesale energy.
I commend President Bush and the administration for its efforts
to produce a national energy policy, a policy which will focus on
conservation, renewables, tax incentives for renewables, as well as
developing more energy supply.
It is a question of supply and demand, and with a growing popu-
lation, we must have more supply of energy. But we in the West
cannot wait 7 to 10 years until new energy sources are discovered
and tapped and brought to market. Washington States economy
and the economies of the other Western States must be stabilized
and protected now to prevent permanent, irreparable damage, not
in 5, not in 7, not in 10 years.
I believe that we must have short-term, temporary price caps so
that California can get its energy house in order and so that other
States can get more generation on line. I support cost-of-service
based rates, cost-of-service based rates that ensure full reimburse-
ment for both direct and indirect costs of producing power, plus an
adequate rate of return. Setting the caps high enough will enable
producers to recoup their full cost of producing power, whatever it
might be, and a sufficiently high rate of return so that it is also
an incentive to continue to pursue additional generation plants.
We simply need a time out. We need a time out for California
to correct its flawed deregulation scheme, but a time out to allow
other Western States to protect their economies and to get their
citizens back to work. We hope that the Senate and this committee
will act favorably on the legislation that is before it. Thank you
[The prepared statement of Governor Locke follows:]
PREPARED STATEMENT OF HON. GARY LOCKE, GOVERNOR, STATE OF WASHINGTON
Thank you, Chairman Murkowski, and members of the Committee. I am pleased
to be here to speak to you today about the energy situation in the Pacific Northwest
and the challenges that are facing the citizens and businesses in my state as the
result of continued volatility in the wholesale energy markets.
You have heard a great deal about the California energy crisis. But by now you
know that what some still call the California energy crisis is really a region-wide
energy crisis, with high energy costs impacting citizens, farms and businesses,
schools and universities, and state and local governments throughout the western
continental United States.
It impacts irrigators in Arizona, resort hotels in Nevada, industries in Oregon,
and residential ratepayers in Idaho.
Let me give you some idea of what is happening in Washington State, where
wholesale energy prices have gone up from ten to twenty times the prices of a year
ago:
High energy costs have forced several businesses to curtail operations and lay
off hundreds of workers. Georgia Pacific laid off 850 workers in Bellingham just
before the Christmas holiday. Pioneer, a chemical manufacturer in Tacoma, has
curtailed operations by 50 percent and taken steps to lay off 80 employees. Nine
of the ten aluminum plants in the Northwestand thousands of aluminum
workersare now idle. There are many other examples.
High energy costs are hurting our agricultural sector. Many farmers worry that
they wont be able to afford to pay the pumping costs for irrigation. And last
summer, high energy prices forced the states largest cold storage facility, Bel-
lingham Cold Storage, to curtail operations just as peak harvest season was
under way for both berries and ocean fish. Only by invoking emergency powers
was my office able to secure an affordable power supply to the facilitynot only
keeping 1,200 employees at the facility on the job but keeping hundreds of
ocean fishers and family farms from bankruptcy due to lack of cold storage for
their products.
44
Public agencies, schools and universities are faced with the possibility of curtail-
ing programs to meet unexpected energy costs that are double or triple the lev-
els of a year ago.
And utility ratepayers are now facing surcharges as high as 75 percent of their
monthly retail power bills. This is not just a problem for residential customers
on a tight budget. For many small and medium-size businessesrestaurants,
coin-operated laundries, and retail shopsthis can be the difference between
profitability and bankruptcy. And the continued high costs of wholesale power
threatens the very solvency of some of our utilities.
This situation is untenable. The Pacific Northwest is losing as much as $1.4 bil-
lion a month due to high wholesale power costsmoney flowing out of our economy
into the pockets of merchant power plant operators.
Clearly, high energy costs affect not just individual companies, but all the compa-
nies with which they do business. Wood products manufacturers worry that they
will no longer have a steady supply of sodium hydroxide. Hospitals worry that they
no longer have a steady supply of bottled oxygen and nitrogen. Farmers worry that
frozen food processors will not be around to purchase their crops.
And it is not just an economic issue. The high cost of wholesale electricity is forc-
ing many businesses and utilities to look at diesel generation as an alternative
source of power. While this may help utilities make it through the winter, it carries
an environmental price tag of hundreds of tons of particulates polluting our air. And
forcing the Bonneville Power Administration to increase generation to make up for
the power being withheld from the market damages our fish runs and undermines
federally-mandated salmon recovery efforts.
WASHINGTON STATES RESPONSE
Unlike other states, Washington declined to deregulate its energy markets. Yet
it has been affected by Californias flawed experiment in deregulation as well as the
federal wholesale deregulation that severed wholesale power generators from utili-
ties traditional obligation to serve. The problems created by these market struc-
tures are now compounded by the record low rainfall and snowpack this year in the
Pacific Northwest, where we are reliant upon hydropower. So while we did not cre-
ate the problems with the market structure, we are nonetheless forced to respond
to them.
In Washington, we are taking several steps at the state level. First, I have called
on the citizens and businesses of my state to reduce energy use by 10 percent.
Thats an ambitious goal, but citizens are responding to my call and we are nearing
that target. I have also directed state agencies and local governments to reduce en-
ergy use by 10 percent. By reducing demand, we are doing what we can to put
downward pressure on price and help utilities from having to purchase power on
the high-priced wholesale spot market.
Second, we are taking steps to increase power generation, both long-term and
short-term. In January, I declared an energy alert under state law to allow utilities
and industries to install and operate temporary generating facilities this winter. We
have also reached agreements with our utilities to allow continual operation of older
peaking plants that are usually limited to a few hundred hours a year. These ac-
tions have brought several hundred megawatts of power on-line to address the im-
mediate need for additional power supplies.
Third, we asked the Washington State Legislature to dedicate funding for low in-
come assistance to augment the federal block grants we currently receive. The de-
mand for assistance this year has far outstripped the federal funding available. The
Legislature recognized this need when it passed its first bill of the 2001 session last
Saturday.
Fourth, we are continuing to site and approve construction of new power plants,
just as we have for the past decade. The state and local authorities have already
approved power plants that will produce more than 3,200 megawatts of power.
Many of these projects are now under construction or ready to break ground. And
the state is in the process of reviewing proposals for plants that can generate an-
other 4,000 megawatts. Clearly, we are taking appropriate steps to increase gener-
ating capacity in our region.
But there is only so much a state government can do. The key to reining in energy
prices is to fix the wholesale market structure. And thats a federal, not a state,
matter. Without federal action to bring high energy costs down to just and reason-
able levels, the prosperity we have worked so hard to achieve during the past dec-
ade could be undermined in a matter of months.
45
FEDERAL POLICY MUST ENSURE JUST AND REASONABLE WHOLESALE PRICES
I am pleased that President Bush has appointed Vice President Cheney to chair
an energy task force, and I hope that the task force will work with western gov-
ernors as it develops its strategies. However, based on what I read in the press, I
am concerned that the administrations response to the energy crisis so far is simply
to focus on the exploration and development of new oil and gas supplies in the Arc-
tic and elsewhere.
Such a strategy ignores our immediate problems. It will take several years before
that oil and gas will reach consumers in my state. Because we face potential energy
shortages this summer and fall, and because our utilities and businesses and citi-
zens continue to face volatile energy prices, it is imperative that the administration
and Congress direct their attention to those actions they can take to bring stability
to the wholesale energy market as soon as possible.
I have also been disappointed by the lack of action by the Federal Energy Regu-
latory Commission (FERC), the federal agency charged with overseeing the whole-
sale energy markets. FERC is required by law to ensure that prices for the whole-
sale energy are just and reasonable. On November 1, 2000, and again on Decem-
ber 15, 2000, FERC found that prices for the sale of short-term energy were unjust
and unreasonable. It also found that Californias wholesale short-term energy mar-
kets were severely flawed, and that those flaws provide sellers both the ability and
incentive to exercise undue market power.
Yet, FERCs response has been to rely on market mechanisms to solve the prob-
lem, even while acknowledging that the markets themselves were dysfunctional and
would not by themselves produce just and reasonable prices.
Indeed, last Friday FERC essentially said that any costs at or below $273 per
megawatt hour during a Stage 3 alert would be deemed just and reasonable. In my
opinion, prices in this range are exorbitant and clearly unjustified. They have no
bearing on the costs of energy productioneven with todays high natural gas
pricesand are more than ten times the costs of wholesale power from those of a
year ago.
Moreover, where FERC has imposed modest price caps, they have done so on
wholesale power sales in California only, once again ignoring that the problems of
high energy costs are a problem affecting the entire western United States.
Frankly, I think FERC has been asking the wrong questions. The issue is not
whether we can make energy deregulation work in the long run. The issue is not
whether deregulated markets can be improved. The issue is not whether we should
have patience during a long transition to deregulation.
The issuethe only issue which FERC should now be addressingis how to bring
wholesale energy prices down now. We cant afford to waitnot a month, not six
months, not a year. We need action now.
It is unfortunate that FERC has resisted calls for direct action to bring price sta-
bility to the wholesale energy market. Yet with each passing day, the economy of
my state and all of the western states continue to suffer as the result of high energy
costs. I am hopeful the new members of FERC less trusting of market mechanisms,
and will be more open to taking strong actions to address these adverse economic
impacts.
I applaud this Committee for considering strong measures to bring stability to the
wholesale energy markets in the months to come. I look forward to working with
members of the Committee as it moves forward in its deliberations.
The CHAIRMAN. Thank you very much, Governor Locke.
Governor Martz.
STATEMENT OF HON. JUDY MARTZ, GOVERNOR,
STATE OF MONTANA
Governor MARTZ. Thank you, Mr. Chairman and members of the
committee. For the record, my name is Judy Martz and I am the
Governor of the Big Sky State of Montana.
I appreciate the interest of this committee that you have shown
in the struggles of the Western States to deal with this emerging
energy crisis.
I would like to frame my testimony around a simple concept
which is supply. As you know, the Western United States has expe-
rienced substantial growth in population and energy needs in the
46
past decade. While we have seen increasing power needs for eco-
nomic development and other consumptive uses, we have seen
nearly zero development in sources to provide additional power.
The primary reason that we have not seen interest in developing
power generation is what we have been living in, the regulated en-
ergy market. There have been no incentives to develop additional
power, and to make matters worse, while we have not developed
additional power generation, there also has been a move to disman-
tle existing power generating facilities.
Montana entered into deregulation in 1997 in an effort to stay
ahead of the curve. Our industrial customers have been deregu-
lated since 1997 and our residential customers will enter into a
free market in 2004.
Unforseen circumstances hit the Western States last summer
with historically low winter snow packs and drought continuing to
present time. This gave us less water to produce electricity through
hydroelectric facilities while maintaining stream flows to comply
with mandates under the Endangered Species Act.
California compounded our problems, both as the largest user of
electricity and as a partially deregulated electricity market. Cali-
fornia capped retail prices and did nothing to address wholesale
generating prices. Adding to the problem, they had not built a gen-
erating plant within the past decade.
With this scenario on place, there was almost no incentive for in-
vestment of additional power nor an investment for California con-
sumers to conserve. The result was a power drain from all North-
western States to meet the demands of the California consumers.
This chain of events has hit Montana hard. Montana industri-
alists that gambled on declining future power prices have been
hurt by the resulting power prices. I could go on over the same lit-
any that Governor Locke has of lost businesses. We have seen sev-
eral closures in Montana, a State whose economic base cannot af-
ford to lose even one single job.
Montana currently has significant or sufficient energy supplies to
meet our own needs. However, because we are tied into the West-
ern grid, any excess energy is pulled to other States. This past
summer, industries that chose to shop for energy found their tradi-
tionally low rates of about $30 per megawatt rise to about $300.
The artificially high prices brought closed for business signs to
several businesses in Montana.
While Montana is facing one of the biggest challenges we have
ever experienced, we are looking at one of the biggest opportunities
we have seen for quite some time.
Montana is a resource rich State. From vast super-compliant coal
fields to miles of timberland in the west, Montana has the natural
resources to quench the thirst for energy across Nation. Montanans
are anxious for the opportunity to contribute to the economic
health of this country through responsible and environmentally
sensible development of these resources.
This Nation has the ability to generate affordable and reliable
energy. But we must be careful that we do not stifle the increasing
interest to development with additional power caps. An overly
heavy-handed Federal Government can stymie efforts to address
the long-term solution for our current energy problem. Capping
47
prices regionally will take away individual States flexibility to ad-

dress the problem. Capping does not take into consideration the
difference in economies or per capita income. A reasonable cap to
California may be prohibitive to Montana. And importantly, it ex-
tinguishes incentives to invest not only in conservation methods,
but also additional generating capabilities.
Just yesterday before coming here, I had a conversation with a
representative of an out-of-State interest that is considering invest-
ing $200 million in a power generating facility in Montana. Now,
$200 million may not be a lot of money to this body because you
always talk in billions, but to Montana that is a tremendous invest-
ment. And the beauty of this proposal is that it helps address gen-
eration concerns not only for Montana and the West, but also helps
create good paying jobs.
It is important to note that I had a simple message delivered to
me in that very conversation, and it was this. Just keep govern-
ment out of the way. They want to compete.
Mr. Chairman and members of this committee, all of us in the
Western States are struggling to deal with a situation that has no
easy answers. While I recognize the intent of the price caps is to
protect the consumers, I believe it will only exacerbate an already
difficult situation. We need to address our energy needs for the
long run. Short-term responses such as this will only deter serious
efforts to come up with long-term solutions. The ultimate long-term
solution is the creation of additional power sources and trans-
mission. Capping prices does not provide incentives to conserve.
And capping prices does not provide incentives for additional gen-
eration.
The Western Governors Association recently reviewed possible
solutions to the Western crisis, including capping electricity rates.
However, some of the Western Governors, 8 out of 10 that were at
the meeting in Portland, voted ultimately and delivered a letter to
the President opposing price caps. And as Governor of Montana, I
signed that letter, recognizing that capping prices creates disincen-
tives for long-term solutions for our State.
While we do not want the Federal Government to come down on
Western States with a heavy regulated hand, we do want to work
with the Federal Government to arrive at meaningful solutions. So,
I ask you to work with us in an effort to address problems associ-
ated with the Western grid straining to keep electricity flowing.
Work with us by allowing individual States the flexibility to ad-
dress the energy shortage by creating new generating facilities and
transmission capabilities, and work with us to create incentives to
conserve existing resources while developing new resources. Work
with us, please, not against us.
Thank you.
The CHAIRMAN. Thank you, Governor.
The hour is about 11:25 and we have got other witnesses. So, I
am going to ask you to try to summarize your statement. We will
try to be brief with our questions.
The Honorable Curt He bert of FERC, good morning. Please pro-
ceed.
48
BERT, JR., CHAIRMAN,
STATEMENT OF CURT L. HE
FEDERAL ENERGY REGULATORY COMMISSION
Mr. HE BERT. Good morning, Mr. Chairman. I will certainly do
that. I have a brief summary here on a couple of pages. I would
ask at the conclusion of that that my summary, as well as my en-
tire statement, be entered into the record, please.
The CHAIRMAN. Without objection.
Mr. HE BERT. Thank you for the opportunity to appear here today
to discuss the topic of Western energy markets and possible legisla-
tive reforms.
Wholesale and retail electricity markets in California and
throughout much of the West are in a state of stress. Wholesale
prices have increased substantially for a variety of reasons. Con-
sumers are implored to conserve as much as possible, and utilities
are facing growing financial difficult. As a result, many now argue
that we need to return to cost-based regulation instead of relying
on market-driven solutions.
First, in my view price caps are not a solution. We need to pro-
mote new supply and load reductions. Market prices are sending
the right signals to both sellers and buyers, at least those not sub-
ject to a rate freeze over which the FERC has no control. Market
prices will increase supply and reduce demand, thus correcting the
current imbalance in the system. A price cap imposed through reg-
ulation or legislation will have exactly the opposite effect.
Second, infrastructure improvements are greatly needed through-
out the West and especially in California. We need to create the ap-
propriate financial incentives to ensure that new generation is
built, that the transmission system is upgraded, and that new gas
pipelines are built as well.
Finally, we need a regional transmission organization, an RTO
for the West. California is not an island. It depends on generation
from outside of the State, as the two Governors to my left have
made clear. The shortages and the prices in California have af-
fected the supply and prices in the rest of the West. A West-wide
RTO will increase market efficiency and trading opportunities for
buyers and sellers throughout the West.
Consistent with these three points, the FERC has been aggres-
sively identifying and implementing market-driven solutions to the
problems: by stabilizing wholesale energy markets, by identifying
additional short-term and long-term measures that will increase
supply and delivery infrastructure, as well as decrease demand, by
promoting the development of a West-wide regional transmission
organization, and by monitoring markets and market conditions.
Let me highlight the commissions most recent actions.
Last Friday, the Commission took further steps to mitigate prices
in California, specifically the prices charged in Californias spot
markets during stage 3 emergencies in January of this year. After
examining prices charged in these periods, the Commission identi-
fied many transactions that warranted further investigation. The
Commission required these sellers to either refund certain amounts
or offset these amounts against amounts owed to them or provide
additional justification for those prices. Specifically, the Commis-
sion required potential refunds or offsets of approximately $69 mil-
lion based on the market clearing price that would have occurred
49
if sellers had bid their variable costs into a competitive single price
auction.
The ISO and the California Electricity Oversight Board asked
the Commission to require larger refunds. However, the Commis-
sions order explained the difference between their approach and
the FERCs.
First, they include over $170 million for refunds for non-public
utility sellers, such as the Los Angeles Department of Water and
Power. The Commission has no authority to order any refunds from
those sellers.
Second, they include refunds for sales during all hours of Janu-
ary. The Commission limited its approach to stage 3 emergency
hours when supply and demand imbalance is most severe and sell-
ers know their power is most needed.
Third, they use a pay-as-bid approach instead of the Commis-
sions proxy market clearing price approach and they use bids only
slightly above variable costs.
Finally, they include refunds for December 2000. The Commis-
sion will address the December transactions in a separate order.
The Commissions approach fully protects consumers from exercises
of market power during emergency conditions while still providing
clear price signals encouraging sorely needed new generation and
load reductions.
Also last Friday, the Commissions staff issued a proposal on how
the Commission should monitor and mitigate prices in Californias
wholesale spot power markets. This proposal is based on monitor-
ing and mitigating prices on a before-the-fact basis instead of
through after-the-fact refunds.
After receiving and considering public comment, the Commission
intends to implement appropriate changes to its current market
monitoring and mitigation requirements by May 1st of this year.
Yesterday, the Commission issued an order seeking to increase
energy supplies in California and the West. It is our intention to
squeeze absolutely every megawatt out of the California system
that is possible for this summer.
The Commission implemented certain measures immediately.
For example, the Commission streamlined regulatory procedures
for wholesale electric power sales, expedited certification of natural
gas pipeline projects in California and the West, and urged all li-
censees to review their FERC-licensed hydroelectric projects in
order to assess the potential for increased generating capacity.
The Commission also proposed and sought comment on other
measures such as incentive rates for new transmission facilities
and natural gas pipeline facilities completed by certain dates this
year or next.
Let me close, Mr. Chairman, by emphasizing that the Commis-
sion remains willing to work in a cooperative and constructive
manner with other Federal and State agencies. The Commission
will continue to take steps that, consistent with its authority, can
help to ease the present energy situation without jeopardizing
longer-term supply solutions. As long as we keep moving toward
competitive and regional markets, I am confident that the present
energy problems, while serious, can and will be solved. I am also
50
confident that market-based solutions offer the most efficient way

to move beyond the problems confronting California and the West.
I cannot emphasize enough to you, Mr. Chairman and members
of this Senate committee, the importance of our RTO process and
order 2000 and how we understand what both of these Governors
just told us, that in fact we are in this together and that we sink
or swim together, that we cannot survive it alone.
We do remain at the Commission vigilant in monitoring the mar-
ket. Yesterdays show cause order of Williams and AES, which is
the first show cause order against generators and marketers in the
312 years that I have been with the Commission, proves our vigi-
lance and the fact that we do not approve of unjust and unreason-
able rates and are willing to look into those.
Mr. Chairman, you, as well as the other members of this commit-
tee, know that the Commission is willing to work with you. Senator
Feinstein and I had a meeting. Senator Boxer and I have had
meetings. And I have heard their approaches and I do have an
open mind and the Commission has an open mind. We will con-
tinue to be vigilant. We will continue to work and we look forward
to your comments and questions.
[The prepared statement of Mr. Hebert follows:]
PREPARED STATEMENT OF CURT L. HE BERT, JR., CHAIRMAN, FEDERAL ENERGY
REGULATORY COMMISSION
Wholesale and retail electricity markets in California and throughout much of the
West are in a state of stress. Wholesale prices have increased substantially for a
variety of reasons, consumers are constantly implored to conserve as much as pos-
sible, and utilities are facing growing financial problems. As a result, many now
argue that we need to return to cost-based regulation, instead of relying on market-
driven solutions.
First, price caps are not a long-term solution. We need to promote new supply and
load reductions. Market prices are sending the right signals to both sellers and buy-
ers (at least those not subject to a rate freeze). Market prices will increase supply
and reduce demand, thus correcting the current imbalance. Lowering prices through
regulation or legislation will have exactly the opposite effect.
Second, infrastructure improvements are greatly needed throughout the West and
especially in California. We need to create the appropriate financial incentives to
ensure that new generation is built, that the transmission system is upgraded and
that new gas pipelines are built.
Finally, we need a regional transmission organization (RTO) for the West. A
West-wide RTO will increase market efficiency and trading opportunities for buyers
and sellers throughout the West.
Consistent with these three points, the Federal Energy Regulatory Commission
has been aggressively identifying and implementing market-driven solutions to the
problems: (1) by stabilizing wholesale energy markets; (2) by identifying additional
short-term and long-term measures that will increase supply and delivery infra-
structure, as well as decrease demand; (3) by promoting the development of a West-
wide regional transmission organization; and, (4) by monitoring market prices and
market conditions.
Other regions that have not adopted California-type restrictions on electricity
competition have demonstrated that consumers can and do gain from electricity
competition and restructuring. California and Western consumers similarly can
share in these gains, once market rules are in place that will make California and
other Western states an attractive place for investment.
I. OVERVIEW
Mr. Chairman and Members of the Committee:

Thank you for the opportunity to appear here today to discuss the topic of West-
ern energy markets and possible legislative reform. Wholesale and retail electricity
markets in California and throughout much of the West are in a state of stress.
Wholesale prices for electricity have increased substantially for a variety of reasons
51
in the last year. California power consumers face near-daily pleas to conserve. Cali-
fornia load-serving utilities are under severe financial stress. Companies supplying
wholesale power into California are unsure how much, or even whether, they will
be paid for their supplies.
While the situation in California is not representative of other parts of the coun-
try that are successfully developing competitive markets, it nevertheless under-
scores the fundamental infrastructure problems facing the country. The demand for
electricity continues to expand while supply fails to keep pace. The development and
licensing of new hydroelectric capacitywhich provides much of the existing power
supply in the Westis nearly exhausted. Very little fossil-fired generation has been
added in many regions of the country over the last few years, and in California no
major plants have been added in the last decade. And the existing electric trans-
mission grid is often fully loaded and, absent necessary expansion, is often incapable
of delivering power to those regions where it is valued the most.
I would like to make three main points with respect to these problems and to
identify the steps the Commission is taking to address these problems.
First, price caps are not a long-term solution. We need to promote new supply and
load reductions. Market prices are sending the right signals to both sellers and buy-
ers (at least those not subject to a rate freeze). Market prices will increase supply
and reduce demand, thus correcting the current imbalance. Lowering prices artifi-
cially will have exactly the opposite effect.
Second, infrastructure improvements are greatly needed throughout the West and
especially in California. We need to create the appropriate financial incentives to
ensure that new generation is built, that the transmission system is upgraded and
that new gas pipelines are built.
Finally, we need a regional transmission organization (RTO) for the West. Califor-
nia is not an island. It depends on generation from outside the State. The shortages
and the prices in California have affected the supply and prices in the rest of the
West. The Western transmission system is an integrated grid, and buyers and sell-
ers need non-discriminatory access to all transmission facilities in the West. A West-
wide RTO will increase market efficiency and trading opportunities for buyers and
sellers throughout the West.
Consistent with these three points, the Commission continues aggressively to
identify and implement solutions to the problems:
First, in recent months, the Commission has issued a number of orders intended
to restore market stability. The Commission has acted to move utilities out of vola-
tile spot markets to enable them to develop a portfolio of risk reducing and credit-
worthy contracts.
Second, my fellow Commissioners and I are working to identify and adopt addi-
tional measures that will increase supply and delivery infrastructure, as well as re-
duce demand for electricity in the Western Interconnection.
Third, the Commission is continuing to work with market participants on develop-
ing, as quickly as possible, a West-wide regional transmission organization. Such an
organization will bring a regional perspective and offer regional solutions to regional
problems.
Fourth, the Commission is monitoring market prices and market conditions with
the goal of ensuring long-term confidence in Western markets. Moreover, the Com-
missions staff has proposed a new plan to monitor and, when appropriate, mitigate
the price of electric energy sold in Californias spot markets on a before-the-fact
basis, instead of addressing prices through after-the-fact refunds. The Commission
intends to act on this proposal by May 1, 2001.
By itself, however, the Commission can contribute only a small part of the solu-
tion to todays energy problems. A more comprehensive and permanent solution re-
quires the involvement of the states and other federal agencies and departments.
I am encouraged by all of the hard work and effort undertaken in recent months
by the State of California and other Western states. The issues are difficult and the
stakes are high. While reasonable minds can differ over the appropriate solutions
to these problems, the Commission is committed to resolving these problems delib-
eratively.
An attachment to my testimony provides an analysis by Commission staff of the
specific provisions of pending bills (S. 26, S. 80, S. 287, and amendment No. 12 to
S. 287) that are the focus of todays hearing.
II. HOW DID WE GET INTO THIS SITUATION?
A. Legislative Design
The State of California has been widely questioned for its restructuring legislation
(A.B. 1890), enacted in 1996. While mistakes were made, California is to be com-
52
mended for realizing that consumers are better off if supply and pricing decisions
are based on market mechanisms, not bureaucratic fiat. The premise of this legisla-
tion is that consumers will enjoy lower rates and increased service options, without
compromising reliability of service, if electricity providers are motivated to serve by
market forces and competitive opportunities.
There were two major flaws in Californias market design. First, the three utilities
were forced to divest almost half of their own generation, and buy and sell power
exclusively through the spot markets of the California Power Exchange (PX). This
prevented the utilities from hedging their risks by developing a portfolio of short-
term and long-term energy products. Second, the State mandated a retail rate re-
duction and freeze, eliminating any incentives for demand reduction, discouraging
entry by competitors for retail sales and, more recently, threatening the financial
health of the three utilities by delaying or denying their recovery of billions of dol-
lars in costs incurred to provide service to retail customers.
However, Californias situation does not demonstrate the failure of electricity com-
petition. To the contrary, it demonstrates the need to embrace competition fully, in-
stead of tentatively. Other states, such as Pennsylvania, have been successful in im-
plementing electricity competition. California needs to move forward on the competi-
tive path it has chosen, allow new generation and transmission to be sited and built,
and allow its citizens to benefit from the lower rates, higher reliability, and wider
variety of service options that a truly competitive marketplace can provide.
B. Other Factors
Until last year, Californias spot market prices were substantially lower than even
Californias mandated rate freeze level. This allowed the California utilities to pay
down billions of dollars of costs incurred during cost-of-service regulation. However,
several events resulted in higher spot electricity prices beginning last summer.
Those events included one of the hottest summers and driest years in history, as
well as several years of unexpectedly strong load growth. Other factors influencing
prices recently include:
Unusually cold temperatures earlier this winter in the West and Northwest;
California generation was unavailable to supply normal winter exports to the
Northwest;
Very little generation was added in the West, particularly in Washington, Or-
egon and California, during the last decade;
Environmental restrictions limited the full use of power resources in the region;
Scheduled and unscheduled outages, particularly at old and inefficient generat-
ing units, removed large amounts of capacity from service; and
Natural gas prices increased significantly, due to higher commodity prices, in-
creased gas demand, low storage, and constraints on the delivery system.
Taken together, these factors demonstrate that the present problems in electricity
markets are not just California problems. Normal export and import patterns
throughout the West have been disrupted. Reserve margins throughout the West
are shrinking. Already this winter, when the demand for electricity is relatively low,
Stage 3 emergencies in California have become commonplace.
III. THE COMMISSION HAS TAKEN IMPORTANT STEPS TO HELP
These problems require bold and decisive action. Both the federal government and
state governments have critical roles to play in promoting additional energy supply
and deliverability and decreasing demand. Through its authority to set rates for
transmission and wholesale power and to regulate interstate natural gas pipelines
and non-federal hydroelectric facilities in interstate commerce, the Commission can
take a range of measures to promote a better balance of supply and demand, but
its jurisdiction is limited. The Commission can set pricing policies which encourage
entry, but it is state regulators that have siting authority for electric generation and
transmission facilities, as well as authority over local distribution facilities (both for
electricity and natural gas). These authorities can go a long way in improving the
grid for both electricity and natural gas. More importantly, state regulators have the
most significant authorities to encourage demand reduction measures, which can
greatly mitigate the energy problems in California and the West.
A. Promoting Market Stability
In an order issued on December 15, 2000, the Commission adopted a series of re-
medial measures designed to stabilize wholesale electricity markets in California
and to correct wholesale market dysfunctions. The Commission recognized that the
primary flaw in the California market design was the requirement for the three
California utilities to buy and sell solely in spot markets. The Commission con-
53
cluded that the foremost remedy was to end this requirement and allow the utilities,
first, to use their own remaining generation resources to meet demands and, second,
to meet much of their remaining needs for power through forward contract pur-
chases. This measure freed up 25,000 MW of generation that the utilities owned or
controlled, which could be used directly to serve their load without having to sell
it into the Power Exchange and buy it back at a much higher spot price. Our action
returned to California the ability to regulate over one-half of its peak load require-
ments.
B. The Commissions Latest Efforts
Last Friday, the Commission took further steps to mitigate prices in California,
specifically the prices charged in Californias spot markets during Stage 3 emer-
gencies in January of this year. After examining prices charged in these periods, the
Commission identified many transactions that warranted further investigation. The
Commission required these sellers to either refund certain amounts (or offset these
amounts against amounts owed to them) or provide additional information justifying
their prices. Specifically, the Commission required refunds or offsets of approxi-
mately $69 million dollars, or all prices charged during Stage 3 hours in excess of
$273 per megawatthour. This analysis seeks to use a proxy price based on the mar-
ket clearing price that would have occurred had the sellers bid their variable costs
into a competitive single price auction.
The ISO and the California Electricity Oversight Board (California parties)
asked the Commission to require larger refunds. However, the Commission ex-
plained the difference between their approach and the Commissions. First, they in-
cluded over $170 million for refunds from non-public utility sellers, such as the Los
Angeles Department of Water and Power. The Commission has no authority to order
any refunds from these sellers. Second, they included refunds for sales during all
hours of January; the Commission limited its approach to Stage 3 Emergency hours,
when the supply/demand imbalance is most severe and sellers know their power is
most needed. Third, they used a pay-as-bid approach instead of the Commissions
proxy market clearing price approach and they used bids only slightly above (10 per-
cent) variable costs. Finally, they included refunds for December 2000; the Commis-
sion will address the December transactions in a separate order. In sum, the Com-
missions approach fully protects consumers from possible exercises of market power
during emergency conditions while still providing clear price signals encouraging
sorely needed new generation and load reductions.
Also last Friday, the Commissions staff issued a proposal on how the Commission
should monitor and mitigate prices in Californias wholesale spot power markets.
This proposal is based on monitoring and mitigating prices on a before-the-fact
basis, instead of through after-the-fact refunds. Comments on the staffs proposal
are due on March 22nd. After receiving and considering public comment, the Com-
mission intends to implement appropriate changes to its current market monitoring
and mitigation requirements by May 1, 2001.
IV. OTHER WAYS IN WHICH THE COMMISSION CAN HELP
Since the supply of electricity in California and the West this summer may be sig-
nificantly less than the demand, we must do more than just hope for mild weather
and rain. We must focus on measures that will promote electricity supply and deliv-
erability and decrease demand. Such measures are critical if we are to meet our goal
of ensuring an adequate supply of power for consumers at reasonable prices.
An important element in this effort is upgrading energy deliverabilitythrough
enhancements to electrical transmission and natural gas pipeline systems. Without
these upgrades, constraints and bottlenecks increasingly will block energy supplies
from reaching load.
With these concerns in mind, the Commission must remove obstacles to increased
generation and supply in Western markets. Similarly, the Commission must identify
and develop strong incentives to build necessary electric and natural gas infrastruc-
ture. The Commission, by itself, cannot solve all of the energy problems facing Cali-
fornia and the West. But, we may be able to offer valuable short-term contributions
to help ease the current shortages, as well as medium- and long-term contributions
to help avert future recurrences. My fellow Commissioners and I have discussed
such steps and we hope to implement a wide range of such steps in the near future.
V. PRICE CAPS WOULD MAKE THINGS WORSE
Some advocate price caps or cost-based limitations as a temporary way to protect

consumers until longer-term remedies alleviate the supply/demand imbalance. The
issue of price caps in the West has been raised on rehearing of the Commissions
54
order of December 15, 2000, and, accordingly, is pending before the Commission. For
this reason, I cannot debate the specific merits of price caps for California or the
West. However, I will reiterate briefly the views I have stated publicly on this issue.
As a general matter, I do not believe that price caps promote long-term consumer
welfare. Price caps will not increase energy supply and deliverability or decrease de-
mand. Instead, price caps will deter supply and discourage conservation. At this
critical time, legislators and regulators need to do everything they can to promote
supply and conservation, not discourage them.
My belief is based on experience, not just economic theory. The summer of 1998
demonstrates my point. Then, wholesale electricity prices in the Midwest spiked up
significantly. The Commission resisted pleas for immediate constraining action, such
as price caps. Subsequently, suppliers responded to the market-driven price signals,
and today the Midwest is not experiencing supply deficiencies.
In short, price caps can have long-term harmful effects because they do not pro-
vide appropriate price signals and may exacerbate supply deficiencies. Supply and
demand cannot balance in the long-term if prices are capped.
With respect to the bills that are the subject of todays hearing, I do not believe
Congress should mandate specific ratemaking standards for the Commission to
carry out. The Commission already has sufficient authority to implement price caps
if the Commission determined they were needed.
S. 26 and S. 287 would require cost-of-service based rates, while S. 80 would
require cost-based rates. Either of these cost standards likely would require on-
the-record, trial-type procedures which would be lengthy, costly and contentious.
Litigating such a rate case for one seller requires a significant commitment of re-
sources. Concurrently litigating such cases for scores of sellers in the West would
be overwhelming both for the Commission and the industry. Moreover, neither buy-
ers nor sellers would be sure of the prices until the conclusion of this litigation. This
delay in price certainty would be unfair to customers and discourage new invest-
ments by suppliers.
Many leaders share these views. In a letter to the Secretary of Energy, dated Feb-
ruary 6, 2001, eight Western governors expressed their opposition to regional price
caps. They explained that [t]hese caps will serve as a severe disincentive to those
entities considering the construction of new electric generation, at precisely the time
all of usand particularly Californiaare in need of added plant construction.
In the face of the current challenges, we all must have an open mind to any pro-
posals that may mitigate the energy problems in the West. I remain unconvinced
that price caps will help solve the problems and I do not believe they are in the
long-term interest of consumers.
VI. CONCLUSION
The Commission remains willing to work in a cooperative and constructive man-

ner with other federal and state agencies. The Commission will continue to take
steps that, consistent with its authority, can help to ease the present energy situa-
tion without jeopardizing longer-term supply solutions. As long as we keep moving
toward competitive and regional markets, I am confident that the present energy
problems, while serious, can be solved. I am also confident that market-based solu-
tions offer the most efficient way to move beyond the problems confronting Califor-
nia and the West. Thank you.
The CHAIRMAN. Thank you, Chairman He bert.
Let me ask you just very briefly on your show cause investigation
on the peaking power price that you just mentioned. What is your
specific authority if you find, indeed, that these are deemed to be
unrealistic peak prices that were charged? On the other hand, you
offset that with whatever the traffic will bear, which may be the
case and may not. What enforcement authority do you have? Do
you have authority for refunds, penalties, fines?
Mr. HE BERT. As you know, the penalties themselves are not
something that we possess. We do have market-base rate authority.
We do have the ability to issue refunds. This matter itself, Mr.
Chairman, to be clear, is a non-public matter and is something that
I am not at liberty to discuss. The record will speak for itself.
The CHAIRMAN. Do you have authority to do it?
Mr. HE BERT. Yes, sir.
55
The CHAIRMAN. Why have you not moved on it sooner?

Mr. HE BERT. Well, we just issued the order yesterday, Mr. Chair-
man.
The CHAIRMAN. I know but this has been around for a while. We
have heard from our California friends about the tremendous price
of this peak power once they deregulated and the shortage became
evident.
Mr. HE BERT. As you know, Mr. Chairman, I have been Chairman
for about 6 weeks and that is about as quickly as I could move.
The CHAIRMAN. That is a good answer. You better quit there.
[Laughter.]
The CHAIRMAN. Governor Locke, you talk about the conservation,
the emergency orders, the other aspects of action that have to be
taken, including the increase in the supply. From the standpoint of
one unique case that I have always kind of wondered about, the
theory of Bonneville was to recognize the tremendous hydroelectric
resource that you had there for the region, to serve the region. It
was paid for by all the taxpayers of the United States, but it bene-
fits primarily your State, Oregon, to a degree Idaho and a few
other States. But over the period of time we have seen Bonneville
go down, say, to California. It benefits California. It does not bene-
fit Washington.
A case in point is your municipal utility, Seattle Power and
Light. It contracts with Bonneville because they can buy long term
and then they wheel down to southern California and contract with
the Nordstrom stores and displace investor-owned power in Califor-
nia. That causes a shortage in the Pacific Northwest and higher
rates. Is that, in your opinion, appropriate procedure for Bonneville
to follow? Or does charity begin at home?
Governor LOCKE. Some of this is beyond my expertise, but let me
just say that Bonneville has always been part of a region-wide sys-
tem. Bonneville has sold electricity and produced electricity nor-
mally in the wintertime for California when the needs of electricity
are very low for our customers. Excuse me. In the wintertime, we
normally receive power from California because our nights are
longer and it is a colder temperature. So, we normally receive
power from California in the wintertime, and then when our days
are warmer in the summer and the days are longer, we use that
water from the reservoirs and the runoff from the snow to supply
electricity to California as they experience heat waves and need air
conditioning and so forth. We have always had this exchange.
The CHAIRMAN. Are you buying power from California now?
Governor LOCKE. Except this time, this winter we had to send
California electricity and we had to really conserve as much as pos-
sible to free up that electricity to help California avoid the rolling
blackouts.
The CHAIRMAN. But as you help California, you do so at the ex-
pense of your own constituents.
Governor LOCKE. Many of our utilities, private-owned utilities,
investor-owned utilities, have sold power to California without any
guarantee of repayment. Our utilities are owed tens of millions of
dollars. Now, Bonneville has been able to ship electricity down to
California, but actually has gotten that electricity back on an ex-
change basis. But because we are not receiving that electricity that
56
we normally do in the wintertime, it has caused considerable angst

amongst our citizens because it is otherwise power that we could
be using for ourselves. But we realize that we are part of the grid
and we have to help each other out.
The CHAIRMAN. This is a parallel and it is a little closer to home,
but in view of the limited time and the fact that we only get one
round, I want to present you with a parallel that I think affects
your State, Washington, of course, Oregon and California to a de-
gree. The parallel is this. California has found itself dependent on
outside energy by about 25 percent of what it consumes. As a con-
sequence, because of that shortage, they have had to buy outside
and prices have spiraled.
The entire west coast is dependent on Alaskan oil. Washington.
Oregon does not have any refineries. Certainly California. As our
oil production declines, if it is allowed to decline, these three States
particularly are going to get their oil anyway. They are going to get
it from foreign sources in foreign tankers. It does not create the
jobs or the U.S. flag vessels that carry Alaskan oil from my State
to your State or the State of California.
I just wonder if the residents of those areas really care where
their oil comes from, whether it comes from the scorched earth of
a Columbian rain forest where there is no environmental oversight.
There just does not seem to be a conscious awareness, Governor,
of whether or not they care where their oil comes from or what en-
vironmental sensitivity is associated with the development of that.
As you know, you have been to Alaska. You know that Prudhoe
Bay has supplied this Nation with about 20 percent of the total
crude oil for the last 27 years. It is in decline. We have opportuni-
ties to open other areas. The question is can we do it safely.
But there does not seem to be much awareness or consideration
as to where the oil comes from, as long as it comes. My point in
making this statement is if you do not get it from us, you are going
to get it. And you are going to be dependent not on a neighboring
State; you are going to be dependent on the whims of foreign gov-
ernments and foreign parts of the world. So, I would encourage the
ladies from Washington and California, as well as the Governor
and others, to spend a little time and consideration of the merits
of where you want it to come from.
My time is up. Senator Bingaman.
Senator BINGAMAN. Thank you very much. Let me ask Commis-
sioner He bert a couple of questions.
As I understand it, the commission last fall set $150 per mega-
watt-hour as a so-called breakpoint or a benchmark for wholesale
rates. I believe that was agreed to by the commission. Then last
Friday, you came out with the decision that charges in excess of
$273 per megawatt-hour would be unjust and unreasonable or
would be required to be refunded.
I guess I am having trouble figuring out how this calculation is
made. Is it just every month or every few weeks? How do you make
the decision as to what is unjust and unreasonable?
Governor Locke made, I thought, a pretty good point where he
said that your decision Friday essentially said that any costs at or
below $273 per megawatt-hour during a stage 3 alert would be
deemed just and reasonable. Is that what you decided on Friday?
57
Mr. HE BERT. Senator, what we decided, consistent with what I

believe to be the December 15 order, was that the $150 breakpoint
was never intended to set a proxy price. It was in fact to set the
bid at which anything above that, reporting information would be
required to the FERC on a weekly basis. We envisioned an oppor-
tunity to use those reportings that were made to the FERC so if
we did see problems in the market breaking down at some point.
What we deemed necessary with the $273, which is a separate
order, which we had the opportunity to look at those reporting re-
quirements that were brought to us, is that the proxy of the $273
is what we believe to be an accurate reflection of a clearing price
under competitive conditions. And that is how we came up with
that amount.
So, the $150 and the $273 are not inconsistent. If anything, they
are very consistent with each other.
Senator BINGAMAN. So, your idea of just and reasonable is that
you look at essentially what the market will pay for the power, and
that is the price. Is that how you determine what is just and rea-
sonable? You say if there is a competitive market, the market will
pay the $273 and so that is all we are going to allow people to
charge.
Mr. HE BERT. What we said, Senator, is anything over the $273,
that we would require them either to refund those amounts or ex-
plain to us why and how they can cost justify those amounts.
Senator BINGAMAN. There is some cost determination in your cal-
culation, though.
Mr. HE BERT. Absolutely. The $273 indicates what we believe the
amount to be, what the staff believes the amount would have been
had there been a competitive market. And we are going to look at
anything above that.
Senator BINGAMAN. It is not tied to the cost of providing the
power. It is tied, instead, to what the market will pay for the power
at that time and place.
Mr. HE BERT. What it accurately reflects is an inefficient, high-
cost generating unit on the margin in California. It is tied to
cost
Senator BINGAMAN. You think it is tied to the cost.
Mr. HE BERT. It is tied to the cost of the generation of that unit.
Senator BINGAMAN. Why did the Commission limit the refunds to
sales during stage 3 alerts? Last November, the Commission said
prices were unjust and unreasonable. That was before there were
any stage 3 alerts. So, why did you limit the refunds to the stage
3 alert?
Mr. HE BERT. The Commission wanted to make certain that, as
we move down this road of trying to correct this market in Califor-
nia, that we distinguish between scarcity and high prices and a
point at which supply would end and the lights would go out. In
doing that, when the margins get at around 1.5 percent at a stage
3, we deem that is the point that the FERC should inject itself into
the process.
I know it leads into a conversation, Senator Bingaman, about
how far do we go here. How much farther are you willing to go in
coming in and injecting yourself into price mitigation? We have to
58
be very careful through this process because, quite frankly, the one
thing that we must give to this industry is certainty.
Senator BINGAMAN. Which industry is that?
Mr. HE BERT. The energy industry. We have got to give certainty
because it is only fair to give certainty so that the consumers in
the end can get not only the supply they deserve but the supply
at a cost that they deserve to receive it at. If we get this out of
balance and if we start injecting ourselves anytime prices might get
high, we are going to cut off any conservation measures, we are
going to cut off price indications which, quite frankly, would bring
in needed infrastructure to regions like California.
Senator BINGAMAN. Why did you limit your order to January? Do
you intend to address other months?
Mr. HE BERT. We are addressing February by the end of the
week.
Senator BINGAMAN. But you are not going to address anything
prior to January?
Mr. HE BERT. Well, we are. The problem that we are running into
right now, as far as turning it around as quickly as we did Janu-
ary, when we set the December 15 order into motion, when we
issued it, the $150 breakpoint which required the reporting re-
quirements, which this will prove the necessity of that and the ben-
efit of it, did not kick in until January 1. So, we did not automati-
cally get the information that is required to make that type of deci-
sion. We are gathering that now. I have instructed the staff to
move at all deliberate speed and we are going to turn this around
quickly I assure you. So, we are looking at December as well and
we are looking at the other months.
Senator BINGAMAN. The other months being prior to December.
Mr. HE BERT. Forward. The other months are subject to rehearing
at this point and we will rule on that later.
Senator BINGAMAN. Thank you very much, Mr. Chairman.
The CHAIRMAN. Senator Bingaman, we have got a vote on. We
have two votes, as I understand it. I believe you have agreed to be
kind enough to come back after the votes. I have an annual com-
mitment that occurs today beginning at noon. So, I would encour-
age the Senators to probably recess and come back and catch both
votes. I was under the impression that there was one vote, but now
there are two.
Senator CRAIG. Mr. Chairman, you have got a time crunch with
these Governors.
The CHAIRMAN. I understand. Let us go ahead and ask a ques-
tion. Perhaps we can conclude with the Governors at least. I do not
know how else to play it.
Senator FEINSTEIN. Mr. Chairman, I think it is extraordinarily
important to hear from the utilities. That is where there is $13 bil-
lion of debt.
The CHAIRMAN. We will ensure that. Let us finish with the Gov-
ernors.
Senator Craig.
Senator CRAIG. Thank you, Mr. Chairman. I will be brief. I ap-
preciate our circumstance and the circumstance of the Governors.
Governors, as a neighboring State, do not think I am not sen-
sitive to this problem. Oregon and Washington quite often get men-
59
tioned in this. Idaho is under the same circumstance, as is Mon-

tana, at this moment. We are all inside that market and we are
at the headwaters of the problem, if you will. At the same time,
it is a very similar situation.
Obviously, you two are at conflict as to how we approach this
short term as it relates to price caps. I have already entered into
the record the statement of my Governor, Mr. Chairman, Governor
Kempthorne as it relates to his agreeing with the Governor from
Montana and other Governors of the West that price caps send a
wrong signal.
At the same time, Governor Locke, I do not dispute the imme-
diacy that obviously the Senator from Oregon is attempting to re-
spond to at this moment, as is the Senator from California. My
guess is, absent price caps, that we have got to come together on
a short-term approach toward this difficulty. My guess is that we
have to send some pretty bold signals to the consumer out there
to get them to do some things for us, including reduce their power
usage substantially so we can keep our industries operating.
It is unique that we have industries in your State whose employ-
ees often live in my State. Industries have put their folks on fur-
lough and turned their pots offand I am talking about the alu-
minum industryand are selling the power and making more
money than operating their industry. That is a tragedy in the mak-
ing. Soon those contracts will no longer be in existence, and that
will have to change dramatically.
So, I hear you. I have no questions for you, but we must get this
resolved short term, at least to get us through the summer. I flew
out of Boise the other day and the tops of our mountains are
brown. That means there is no snow on them. When there should
be 10 and 12 feet of snow, there is no snow. Therefore, our runoff
this spring at the headwaters of the Columbia is going to be very,
very sparse. As a result, there will be little hydro or less hydro.
Commissioner He bert, let me thank you very much for the lead-
ership that is emerging out of the FERC at this moment to deal
head on with this within the confines of the Federal law that you
have to deal with and the decision making that you are moving on.
We appreciate that.
I guess it is a request more than it is a question because we have
got 4 minutes left in this vote and we have all got to get there to
vote.
We have got a crisis in the West. Let me suggest to you that you
bring the Commission West. Sit down and listen to our people and
listen to our utilities. Get out there on the ground with us and see
where we are. I think it would be extremely valuable, and I would
recommend you do it sooner than later. Within the confines of your
authority, I think that would be extremely valuable. We under-
stand the California situation: You can deal with 50 percent of it
but you cannot deal with the other 50 percent. We understand
that. But there is a great deal you can deal with, and I think it
can be very helpful. You can send the right signals to the market,
absent the kind of capping that could go on at the request of some
that might send the wrong signals. So, would you consider that in
behalf of us westerners? We think it would be extremely valuable
to have you and your other commissioners on the ground.
60
Mr. HE BERT. I would do that, Senator Craig. What I will make

certain and do as well, because as a part of our E-1 docket that
we issued yesterday in trying to come up with some short-term
remedies, as well as some long- and medium-term remedies, one of
the things that we discussed in there was having a conference of
some type, a Commission conference, in the Northwest. I will make
certain that it is understood that it would be your request that we
do so quicker rather than later, and at the same time, I am assum-
ing that that would be an invitation to have it in Idaho.
Senator CRAIG. Well, it certainly is. We would be more than
proud to facilitate that. I am not quite sure, but we could probably
open up one of our rodeo stadiums. The crowds will be rather large.
[Laughter.]
The CHAIRMAN. Let me call on Senator Feinstein, followed by
Senator Cantwell. We are basically out of time. I apologize, ladies,
and I apologize to the two Governors and the Commissioner, but
that is just the way it is. So, please proceed.
When you leave, the hearing will be recessed until Senator
Bingaman comes back and we will start on the last panel.
Senator FEINSTEIN. Excellent. Thank you very much.
Mr. He bert, I have real differences with your commission. I do
not think the commissions responsibility is only to provide cer-
tainty for the industry. I think it is also to provide certainty to the
people that they can afford electricity.
I would like to get your explanation of this chart. This chart
shows that in the last 2 years in California demand has remained
essentially the same. Here there is a 4 percent differential between
lines. Also during this period, natural gas prices were low. Look
over the 2-year period. This is November 1999 into the year 2000.
Look at the price spike. What is your explanation for that price
spike?
Mr. HE BERT. Well, I think there can be a lot of different reasons
for it. If you understandand I know we dothat certainly supply
was tight during that time period, demand was high
Senator FEINSTEIN. Demand was the same over the 2-year pe-
riod.
Mr. HE BERT. Show me your demand curve. I am sorry.
Senator FEINSTEIN. This is the demand curve between the 2
years. Right in here there is a 4 percent differential. That is all.
Mr. HE BERT. Could I read the bottom of the chart, please? I am
sorry.
Senator FEINSTEIN. What it says is: Markets do not produce
competitive prices. Under similar medium load conditions, 2000
prices have increased 700 percent over 1999 levels.
Mr. HE BERT. I think it is clear that the market was working in
1999. I think that is probably the first assumption we could make.
I guess the question that we come up with is what is broken about
the market. Why is it not at competitive levels? Or is it, in fact,
at competitive levels for 2000?
Senator FEINSTEIN. This has nothing to do with putting price on
consumers. This is just straight demand and price.
Mr. HE BERT. I am sorry. I thought he was saying something.
Senator FEINSTEIN. No. Well, clearly there is no fast explanation.
This is a 700 percent increase in electricity wholesale prices during
61
that period of time. That is what we are trying to get FERC to ad-
dress, to not have this happen this summer because I believe it will
happen absent some control. I can relate this directly. I do not be-
grudge anybody making a profit, but the profit is extraordinary.
Mr. HE BERT. Let me say this. I will be glad to give you a formal
answer, as I have done on some other measures that you have re-
quested, on this chart.
Let me just say I do want to make it clear obviously to you and
for the record itself, I have never felt like, nor do I currently feel,
that we should not be very clear in what we are trying to do for
consumers as well. Actually my comment a moment ago said that.
Give certainty to the industry and consumers as well when it
comes to not only getting adequate supply and having it delivered,
but having it delivered at a reasonable price.
Now, we are moving forward with measures right nowI know
you have seen the orders. I have forwarded them to your office
where the staff is recommending market mitigation. It will be ex
ante mitigation, so we will do it immediately as opposed to coming
back and dealing with refunds. It would certainly give the type of
certainty that you are looking for I believe.
I do not think there is any question. I think you and I agree we
had a great conversation in your office. The market has problems
certainly during periods. We have seen some price volatility. We
are going to figure out a way to get through that. I think we are
doing that right now.
I know that you know the commitment of the Commission and
that the Commission is working very hard to respond to these
problems. We have almost issued something on a weekly basis in
trying to respond and correct this. I will give you a further com-
ment on it, but I want you to know we are resolving it.
Senator CANTWELL. I want to thank the panel as well, and I
think I will submit my question in writing, Mr. He bert, about your
decision as it relates to last Friday on power producers, on refunds,
and specifically consideration of Washington State and the North-
west.
Unfortunately, we have to go and vote and I want to make sure
our Governor has a chance to talk to some of the Northwest folks
who are here before adjourning. We will be back and would love
to, if you are still available, either individually respond to some of
these questions. But I do want to thank the Governors for being
here as well.
Notwithstanding the previous comment about the red-eye, I want
to thank Governor Locke. Given that our States earthquake has
caused significant damage to the State capital, your office is not
without a home but is not in the State capital right now and we
have been greatly displaced. So, your time and focus on this issue,
as well as that, is much appreciated. Thank you.
[Recess.]
Senator BINGAMAN [presiding]. Could we find the witnesses and
we will go ahead with this next final panel.
[Pause.]
Senator BINGAMAN. Why do we not go ahead. What we would
like to do, if we could, on this panel is to have everybody summa-
rize their statement, make the points that they believe are most es-
62
sential, and we will try to limit every witness to about 5 minutes

here in summarizing their statement. We will have this light to in-
dicate when your 5 minutes are up. Then Senator Feinstein and I
and any other Senators who have shown up will have a few ques-
tions.
So, why do we not start with you, John Bryson with Edison?
Please go right ahead. Welcome. Welcome to all of you. We are glad
you are here. Sorry it has taken so long to get to this panel.
STATEMENT OF JOHN E. BRYSON, CHAIRMAN, PRESIDENT
AND CEO, EDISON INTERNATIONAL, ROSEMEAD, CA
Mr. BRYSON. Senator Bingaman, Senator Feinstein, thank you
very much for this opportunity and thanks also to the other mem-
bers of the panel.
I actually will not summarize my statement at all because there
is something that I think is more striking, more important, and
more promising. I did not know that Senator Feinstein and Senator
Smith this morning would come together with a joint conceptual
proposal for how to deal with this problem. This has been a very,
very difficult 10 months in California. There have not been many
heartening moments. The proposal, Senator Feinstein, that you
and Senator Smith propose to jointly co-author is one of the few
heartening moments we have had.
It seems to me the kind of practical, problem-solving leadership
approach that we need at a point of urgent crisis. One of the big
challenges that we have faced in seeking practically at the point,
frankly, where the rubber hits the road, at the point of buying
power and serving it to consumersone of the few practical ap-
proaches to bring together the core problemand the core problem
has been a large and vastly growing gap between retail prices
under the jurisdiction of the California regulators and wholesale
prices under the jurisdiction of the Federal regulators.
We at Southern California Edison and others in California have
been in a position for a long time where in retail rates we receive
only 6 cents to 7 cents a kilowatt hour. I think PG&E actually
slightly less. But at the wholesale level, the prices being paid are
steadily rising and, in the last month, have been about 35 cents a
kilowatt hour. So, the multiple of the wholesale rate to the retail
rate is something like 10 times, and it is likely to be yet higher this
summer.
In the wake of the FERC decision just this last week, the so-
called refund decision that has been discussed this morning, the
forward price at Palo Verde, one of the gate points to California,
was in excess of 50 cents a kilowatt hour, 53 cents to be specific.
The FERC refund decision, because it was so limited and so nar-
row and so unexpected, has been reacted to in the market as a kind
of further pass on disciplines in the market. It was limited to only
stage 3. Senator Bingaman, you addressed that point. It did not
bear at all on the previously set $150 per megawatt hour cap. It
appeared not to discipline the market but, rather, to further open
the door in an already broken market.
So, the notion that a bipartisan approach, one that addresses
both Federal regulation and State regulation, one that would estab-
lish a kind of halt on the broken market in a period of what Sen-
63
ator Feinstein described as stability and reliability, to bring to-

gether all the pieces towards a practical solution so that we can get
through this summer and beyond at lower cost than likely other-
wise will prevail, is extremely important. I hope the committee and
ultimately the Senate and other public leaders will see the prac-
tical elements of that approach and move towards it.
I want to underscore just how intense the situation is in closing.
We are in a situation now in which Southern California Edison and
Pacific Gas & Electric have borrowed to the limit of their borrowing
ability. We have no further credit worthiness. We are, in a prac-
tical sense, substantially insolvent unless a practical solution is
found.
Most of the focus now is on providing adequate supply of genera-
tion power. That is an appropriate focus. There is nothing about
$500 per megawatt prices that will bring more power on this sum-
mer. Nothing whatsoever.
It, I believe, is a mistake to reach the conclusion that somehow
prices at this level are essential to bring new supply on. They sim-
ply are not. Competitive markets are a desirable approach to bring-
ing electricity supply to customers, but those markets have to be
competitive and they have to work. And these are broken markets;
they are not working.
So, we need a kind of temporary time out and that is what has
been proposed by many this morning. We need the regulators to act
on that.
Because of the lack of credit worthiness now of Southern Califor-
nia Edison and Pacific Gas & Electric, we can no longer procure
power for customers. In fact, for some period of time, there has
been a kind of risk premium on the part of generators that had to
sell into California, and the State had to take up procurement.
That is not a good step. The State has no experience in it. The Wall
Street Journal now reports that the State itself at these high prices
has gone through 64 percent of Californias very considerable budg-
et surplus just to buy power on an interim basis.
So, we cannot allow to continue this gap between the State on
the one hand, where there is a preference that the Federal regu-
lators act, and the Federal regulators who prefer that the State
regulators act. There needs to be a coming together.
So, I confine my remarks entirely to what seems to me the prom-
ising and practical step that is being proposed by Senator Feinstein
and Senator Smith and that seems, judging by the panels reaction,
to be endorsed by others on the panel. I think it is extremely im-
portant.
Thank you very much.
[The prepared statement of Mr. Bryson follows:]
PREPARED STATEMENT OF JOHN E. BRYSON, CHAIRMAN, PRESIDENT, AND CEO,
EDISON INTERNATIONAL, ROSEMEAD, CA
Good morning Mr. Chairman and Senators. I am John E. Bryson, Chairman,
President, and CEO of Edison International, parent company of Southern California
Edison. I appreciate the opportunity to testify before you on federal legislation to
address the crisis in electricity supply and prices now affecting California and the
Western United States. I use the word crisis deliberately. There is no other word
for Californias experience with electricity markets since last May. And there is no
other word for what is facing California and the entire West in the months ahead.
64
On January 31, 2001, my colleague, Steve Frank, President and CEO of Southern
California Edison, testified before you on the very serious problems threatening
Southern California Edison, California and the West. A month and a half later, the
same threats remain, becoming more immediate with every passing day. I will not
repeat Mr. Franks testimony, but some review is necessary.
As of the end of January of this year, after nine months of buying wholesale elec-
tricity at unjust and unreasonable prices and reselling at artificially low prices,
Southern California Edison incurred $5.5 billion in undercollections. We financed
the shortfall by borrowing in unprecedented amounts until we exhausted our credit.
To preserve our limited cash reserves we suspended payment for power and some
of our outstanding debts. Our creditors have been extraordinarily patient, largely
because everyone realizes that there are no real winners in a bankruptcy and be-
cause we and the state are taking steps to address this crisis. Southern California
Edison has implemented major cost reduction measures including reduced capital
expenditures and layoffs. And we eliminated common dividend payments for the
first time in our 100-year history. Now, we are essentially out of the power procure-
ment business, although it remains somewhat uncertain whether we will be ex-
pected to pay for power that the state is procuring through the Department of
Water Resources.
Since January, the Department of Water Resources has been the major buyer of
electricity in the state. It is spending $45 million or more per day to keep the lights
on. To date, the state has spent approximately $3 billion in power procurement
costs, quickly going through its reserves. Although the state is attempting to reduce
its reliance on the spot market by entering into long-term contracts with generators,
this has been a difficult task because prices for the near-term remain extraor-
dinarily high throughout the West.
The Governor and the state legislature have also been working to return Southern
California Edison and Pacific Gas & Electric to some semblance of fiscal health. A
key feature of the Governors plan is the purchase of the utilities transmission sys-
tems by the state. I understand that some in Washington have reservations about
this. Certainly, we would have preferred not to do this. We would have preferred
to obtain gradual retail rate increases and meaningful federal action to reform a
broken wholesale electricity market. Our countless efforts to this endin the courts,
at FERC and elsewherehave met with no success. Indeed, many of the people who
have been most critical of the states purchase of our transmission have opposed an
affirmative federal role in addressing this crisis and have told California to solve
this problem itself. I ask them to put themselves in our position. What choice do
we have? What better alternative do you offer?
We continue to negotiate the details with the state. However, nothing we, or the
state, can do will adequately address the broken wholesale market. Make no mis-
take, this broken market continues to guarantee unjust and unreasonable prices
that are a principal impediment to a realistic solution to this crisis.
The Federal Energy Regulatory Commission (FERC) is obligated under the Fed-
eral Power Act to ensure just and reasonable rates. FERC found wholesale rates in
California to be unjust and unreasonable on November 1, 2000. FERC reiterated
this finding in its December 15, 2000 order when it imposed a soft cap of $150.
Since then, and possibly as a result of FERCs order, wholesale prices have climbed
and have stayed at levels more than twice the soft price cap. As illustrated in the
chart attached to my testimony, prices before the FERC finding averaged up to as
much as $152.65/MWh in August 2000. After the FERC finding on November 1,
prices continued to rise to $219.28/MWh in December and reached $260.23 in Janu-
ary 2001 after the FERC order imposed the soft cap.
After months of complaints and literally thousands of pages of pleadings, reports
and evidence establishing that Californias wholesale electricity market is broken,
FERC at long last issued an order on March 9 that might require 13 California
power sellers to refund $69 million for sales in January 2001. Even if FERC actually
orders such refunds, this would be less than one and one-half days worth of state
spending on power. In contrast, the Independent System Operator (ISO) petitioned
FERC for refunds totaling $315 million in January.
FERC ruled that prices up to and including $273 per megawatt hour were accept-
able for January, and apparently that any prices charged at times other than peri-
ods of Stage 3 emergencies are acceptable also. There is good reason to question the
economic assumptions underlying FERCs order. I will note one of those concerns
here.
$273 per MWh is nearly ten times higher than the average wholesale price in
January 2000 of $30 per MWh. A more legitimate definition of just and reasonable
rates would have resulted in refunds for January five times higher. And what about
65
preceding months? FERC itself found wholesale prices in California to be unjust and
unreasonable long before any Stage 3 emergencies were ever declared.
Of additional concern is the FERC staff Recommendation on Prospective Market
Monitoring and Mitigation, also issued on March 9 of this year. Under this proposal,
the soft caps will end on May 1, 2001, and a limit on real time market prices equal
to the highest-cost generator will be put in place only during emergency conditions
such as Stage 3 alerts. At other times, no market power mitigation will exist what-
soever for Californias dysfunctional market. If adopted, this proposal would leave
California at a much greater risk of market power exploitation than during 2000.
FERCs too little, too late attempt to address this crisis makes it all the more
important to adopt Senator Feinsteins bill, S. 287. Only temporary cost-plus whole-
sale caps will adequately address the problems in our broken market. Without fed-
eral action compelling it to do so, it is clear that FERC will not act to ensure just
and reasonable wholesale rates in California or the rest of the West.
Those who argue against such intervention should be aware that FERC, itself, has
now imposed a cost cap (at least for January), but one that appears to us to be too
high and too selectively applied to be useful. Moreover, it is established after-the-
fact. This means that those selling into California do not know at the time they sell
what price will be deemed acceptable by FERC. I would suggest that establishing,
for some limited period of time, a system of cost-plus regulation for all WSCC gen-
erators, as Senator Feinsteins bill would do, is far preferable to FERCs after-the-
fact caps. I emphasize here that this is a remedy for the West.
If wholesale prices are not comprehensively, though temporarily, regulated it will
not matter what the state does. The extraordinary transfer of wealth from Califor-
nia and the West to power generators will continue to benefit only a handful of com-
panies at the expense of the economies of the entire region.
Were there mistakes in how California designed and implemented its restructur-
ing? Absolutely. But, as I think is now apparent to this Committee, this is not only
a California problem, and California alone cannot resolve it. Other states in the
West are already feeling the effects of unprecedented growth and a tight supply of
electricity. Many states have raised rates and imposed strict conservation measures.
Others, including California, have acted to expedite siting and construction of new
generation. While these actions will help address the long-term problems in a man-
ner that may ultimately produce a workably competitive wholesale electricity mar-
ket in the West, we will never get there if the short-term crisis is not addressed.
For this reason, we urge prompt passage of S. 287. It provides for temporary im-
position of cost-plus rates similar to those with which FERC has ample experience.
It offers generators a healthy return on their investment, especially when you con-
sider that some generators in the California market have already recovered all of
their initial investment in the plants they bought.
We understand Senator Gordon Smiths concerns in wanting California to raise
retail rates in line with increasing wholesale electricity prices. We, after all, have
borne directly the brunt of Californias failure to do this, and have done everything
we know, from litigation to negotiation, to obtain an increase in the costs we may
recover from retail consumers. We agree that an increase in retail rates is long over-
due, but such action must be complemented by federal action on cost-plus wholesale
rates to bring this market under control. Senator Smiths amendment acknowledges
the need for action at both the state and federal levels, and we appreciate that ac-
knowledgement.
Some argue that cost-plus profit caps will discourage additional generation, but:
1) it should not take exorbitant profits to encourage entry into the California mar-
ket; 2) much generation is being planned elsewhere in the country where electricity
prices are far lower; and finally, 3) if a generators costs are covered and they are
assured of earning a reasonable profit, this will be an attractive proposition.
Some may also argue that this regulation will be too difficult to implement and
too burdensome. Lets all remember that before FERC authorized market-based
rates for this generation, all except the newest of this generation was subject to
cost-of service regulation. It has been done. It can be done again. There is nothing
novel or unduly complicated about this.
Let there be no misunderstanding about the absolute necessity of federal action
here. Average prices per KWh have increased from 5 or 6 cents to as high as $1.80.
If consumers were exposed to all of these price increases, it would be analogous to
paying $20 for a gallon of milk or a gallon of gasoline. If this were any other prod-
uct, continued federal inaction would be intolerable. It should not be different just
because we are talking about electricity. If anything, the case is more compelling
because electricity is not a luxury; it is an essential service. And no one can afford
the luxury of waiting any longer for federal action.
66
Finally, let there be no doubt that continued inaction will only serve to further
erode trust in our governmental institutions ability to respond adequately to eco-
nomic crises. Throughout this crisis and our efforts to work our way out of it, we
have heard plenty on the principles of a free market. But a workable free market
in California does not exist. California may have been the first to restructure, ad-
mittedly with disastrous results, but it is also clear that state and federal agencies
have shown themselves incapable of responding efficiently to a very dynamic situa-
tion. The California Public Utilities Commission failed to provide timely authority
for power contracting and failed to affirm our right under federal law to recover our
wholesale procurement costs in retail rates. The FERC has been similarly slow to
act to ensure just and reasonable wholesale rates or to deal adequately with this
crisis. For example, we are still being fined by FERC for not scheduling load in a
day-ahead market that has been non-existent for two months.
Californias mistakes aside, we can understand other states stepping back from
deregulation until they develop more generation and receive stronger signals that
our governmental institutions are up to the task and can be trusted to respond effi-
ciently to avoid results diametrically opposed to the consumer benefits sought by de-
regulation.
Thank you.
Steve Baum, who is chairman, CEO and president of Sempra.
Glad to have you here.
STATEMENT OF STEPHEN L. BAUM, CHAIRMAN, PRESIDENT

AND CEO, SEMPRA ENERGY, SAN DIEGO, CA
Mr. BAUM. Thank you very much for the opportunity to address
this panel, and thank you, Senator Feinstein, and thanks to Sen-
ator Smith for their leadership in putting forth S. 287.
I would like to echo what John Bryson said, and I do not want
to repeat it. But I would like to bring up a couple of other items
and to emphasize some items.
I do believe we face, at the root of the problem in the West, a
serious supply and demand problem. There has not been an ade-
quate number of new generating plants built nor have there been
an adequate number of new transmission facilities sited to meet
the rising demand not only in California, but also in the surround-
ing States. I do not think it is lost on anyone that California has,
in the past, depended upon neighboring States to supply its energy,
its excess needs, and those States themselves have now grown dra-
matically, at rates exceeding those of California. So, we really do
have a supply and demand problem that has to be addressed.
One of the things that is a characteristic of the broken market
in California and in the West that I would like to emphasizeand
it is something that John Bryson and others have mentionedand
that is the lack of demand-side response that exists in California
because of the retail price caps. Any attempt to cap wholesale
prices needs absolutely to be accompanied by an easing of retail
price caps. I believe it would be a serious error to continue with
those caps because there would not be the response necessary to
the price signals that we need to have to have conservation. Cali-
fornia does make a large, kind of sucking noise in the West and
brings in energy from surrounding States because it has not curbed
its own demand. And I believe that is absolutely a necessary con-
comitant to wholesale price caps.
We endorse temporary, targeted, cost-based caps for old genera-
tion in the West for a medium period, as contained in S. 287, in
order to carry us through to a time when the coming construction
67
will bring new generation. I completely agree with John Bryson

that there is adequate price stimulation currently and with these
proposed caps to have that generation come on line, particularly
since new generation would not be subject to those caps.
Affiliates of my company are building in excess of 2,500
megawatts of new power both in Arizona and northern New Mexico
and in California. I can tell you directly that we will continue to
do that to meet the needs of California regardless of price caps
being put in place.
I would also like to address another issue and that is the inter-
play of natural gas prices with generation in the West. I know that
witnesses that have come before this panel in previous hearings
have suggested that the price of power in the West is largely driv-
en by high natural gas prices. Well, I think there is a relationship
between high fuel costs and high generation costs. I do not believe
there is a correlation between the spikes we see in electric costs
and rising natural gas prices. One can see that through the com-
parison of natural gas prices last summer to natural gas prices
today and the price of power last summer, as well shown in Sen-
ator Feinsteins chart, and the price of power today. There were
price spikes that went to $2,000 a megawatt-hour last summer
when natural gas prices were still quite low.
That is not to say that there is not an issue with natural gas
prices and, in particular, an issue with the transportation costs to
California for natural gas. When prices spiked up into the $50
range for delivered gas at the California border, the basin prices
were still under $10. So, that transportation differential is caused
by a squeeze in that market and it is an area that I think FERC
ought to address.
We think two things ought to happen. Our company has filed a
complaint at the FERC asking the FERC to look into transpor-
tation costs. We believe that is an area that ought to be inves-
tigated. But also we believe there should be an order unbundling
the cost to the commoditythat is, the natural gasfrom the cost
of transportation so that customers and the market can distinguish
those costs.
But in summary, I would like to say that we fully endorse tem-
porary, targeted, cost-based price caps for old generation in the
West. We believe that will cause California to be able to remedy
its problems. We are encouraged by the conservation efforts that
Governor Davis has recently come out with. For example, it is a bid
to consumers who are willing to reduce their demand by up to 20
percent to get paid for that. That I think will help. We would en-
courage him also to raise residential rates.
[The prepared statement of Mr. Baum follows:]
PREPARED STATEMENT OF STEPHEN L. BAUM, CHAIRMAN, PRESIDENT & CEO,
SEMPRA ENERGY, SAN DIEGO, CA
Good morning. I am Steve Baum, Chairman, President & Chief Executive Officer
of Sempra Energy. Sempra Energy is a Fortune 500 energy services holding com-
pany whose subsidiaries provide electricity and natural gas services. Sempra Ener-
gys two California regulated subsidiaries are San Diego Gas & Electric (SDG&E)
and Southern California Gas Company (SoCalGas). I want to thank you for the op-
portunity to provide input on S. 287, and to discuss events in the California elec-
tricity marketplace.
68
Let me begin by commending you, Mr. Chairman, and Senator Feinstein, for
working toward helping to solve the ongoing energy crisis. Sempra Energy recently
testified before this Committee regarding actions that we believe the federal govern-
ment must take to stabilize the chaotic energy marketplace, actions that only the
federal government can take because it pre-empts state action in this wholesale
market. We are pleased that Senator Feinsteins bill, S. 287, seeks to implement
Cost of Service Plus electric energy rates, an action that we have advocated as a
necessary, near term step in solving the energy crisis.
First, I would like to speak to a question I have heard regarding whether the
order issued by the Federal Energy Regulatory Commission (FERC) last Friday,
March 9, addresses the problems in the western market. Let me be very clear about
our assessment of that order. In that order, the FERC drastically limited potential
refunds for sales into the electricity market during January. After numerous FERC
pronouncements on the California electricity crisis, the Commission has crafted a
strange, new, one-price-fits-all cut off point for reviews of transactions that does not
appear to be based upon any of its preceding work. While after many months of in-
action we are heartened by FERCs attention to this crisis, the Commissions action
is far too little and far too late. As noted in the dissent, this order, limiting the
potential for refunds to transactions that occurred during State 3 alert hours and
bids in excess of a $273 proxy market clearing price, is arbitrary, capricious and an
abuse of discretion. This order will do little to discipline the wholesale electricity
market. If anything, this order solidifies my support for S. 287.
S. 287
S. 287 takes a critical step toward instituting a much needed cooling-off period
for Californias chaotic energy market by imposing Cost of Service Plus rates.
Under Cost of Service Plus rates, each existing generator would provide to FERC
the unit cost per kwh to operate its plants. FERC would then include a profit mar-
gin to the price per kwh that is high enough to provide generators with an incentive
to continue producing energy but low enough to meet consumers concerns regarding
energy prices. It is important to note that nothing in this proposal should be viewed
as a disincentive to new construction. I strongly believe that new generation facili-
ties should not be subject to such a cap. To stimulate additional investment in need-
ed generation facilities in the West, new construction should be rewarded by being
permitted to charge market rates.
Other market participants involved in the energy crisis have testified before this
Committee and have argued that the cause of high electric commodity prices is the
high cost of natural gas and the high cost of environmental compliance. They have
pointed out that the costs of operating the different types of generation facilities
vary widely, and that a flat cap would be a disincentive to supply. These arguments
are all addressed by the proposal in S. 287, as the actual costs of operating each
plant would be accounted for in the price that could be charged. By avoiding the
implementation of a one size fits all price cap, Cost of Service Plus rates would
protect both consumers, by providing price stability, and generators, by assuring
that plant costs, including a profit, will be fully covered.
I endorse this concept with the understanding that price caps are clearly not a
long-term solution to the energy crisis. However, when a market is as broken as the
western region is today, failure to protect consumers from runaway prices while the
market is being fixed is simply not an acceptable alternative. When astronomically
high prices were passed directly through to consumers in San Diego over the sum-
mer of 2000, the economic shock was severe. In fact, in California we experienced
a reality that some economists are ignoring in this situation: there is also an issue
of political elasticity; which is that consumers will not long tolerate prices that are
so completely disconnected from actual costs. The magnitude of the crisis requires
an immediate tempering of the market to reach a solution that is fair and reason-
able to both electric producers and consumers. Cost of Service Plus rates offer that
solution.
At the same time, I would be remiss if I did not mention efforts undertaken by
me and others at Sempra Energy to argue strenuously before Governor Davis, the
California Public Utilities Commission, and the Legislature for a demand side re-
sponse to help solve this crisis. I believe that an orderly and predictable relaxation
of the retail price caps will provide appropriate incentives for consumers to reduce
their energy consumption. We expect that a demand response to incrementally in-
creased retail rates will enable California to avoid blackouts during the upcoming
summer months. We would also expect that reduced demand would place downward
pressure on the wholesale price of electricity. Demand can be also reduced if rate
designs are developed to charge more for increased use of electricity and if cus-
69
tomers had energy meters that allowed them to see on a real time basis the impact
of higher usage on the price they will pay for electricity.
Because Senator Feinsteins proposal addresses a dysfunctional market, I strongly
agree with the concept in S. 287 that the caps must only be a temporary provision.
Some opponents have argued that there is no such thing as a temporary cap. I dis-
agree. Building into the authorization a sunset provision, whether a date certain or,
as in this bill, a change in condition in the marketplace, fully addresses this argu-
ment.
Another argument used against caps is the pragmatic one: that they simply dont
work. Opponents have pointed to the caps in California to show that caps failed to
control prices. Indeed, caps triggered actions to circumvent them. The major way to
circumvent them was to move into the broader western regional market instead of
the one-state market of California. Again, S. 287 addresses that problem by impos-
ing a cap that is region wide, protecting all of the consumers in the western states.
HIGH GAS PRICES IN CALIFORNIA
As I have already stated, the approach to price caps proposed in this bill address-
es the impact of natural gas costs on the costs of generation. Nonetheless I would
like to take a moment to address that particular question.
First, I do not concede the statement that some witnesses have made before this
Committee that natural gas prices of themselves explain the explosion in electricity
prices in California. That is simply an oversimplification of natural gas supply and
demand, which I will discuss later in my testimony. Rather, while there is limited
cost-of-service justification for the astronomically high price of electric energy that
has been seen over the past nine months in California, the interrelationship be-
tween the price of natural gas and the magnitude of change in electric commodity
prices is terribly out of alignment. For example, in the summer of 2000, the price
of natural gas was $3.50 per mcf, yet the electric commodity price was as high as
$2,000 per MWh. To me, these numbers provide little justification for the skyrocket-
ing electric prices that have been charged in the wholesale market, contrary to what
has been argued.
A good example of this argument can be found in the letter sent to this Commit-
tee by Mr. Keith Bailey, CEO of the Williams Company on February 14, 2001. In
his letter, Mr. Bailey concluded that the cost of electrical generation in California
is high, largely due to the high cost of natural gas. We have reviewed that letter
and rebutted some of its conclusions in a letter that we have sent to the Committee
under separate cover.
In short, I have heard no explanation that adequately or reasonably correlates
high electric prices with the increased cost of natural gas. While it is fair to suggest
that there has been upward pressure on electric rates as a result of increased natu-
ral gas prices (resulting from year round rather than cyclical demand and storage
shortages), I have seen no evidence suggesting that high natural gas prices justify
the skyrocketing electricity prices we have seen recently.
However, we do believe that the recent escalation in natural gas prices at the
California border has made it exceptionally difficult to negotiate with sellers of elec-
tricity for reasonably priced power, has led to extremely adverse impacts on the
California economy, and has rendered largely meaningless FERCs soft cap on
wholesale electric prices. On February 6, 2000, FERC issued Order No. 637 on an
experimental basis. In that order the Commission waived its regulations that had
capped capacity release transaction rates at the interstate pipelines maximum firm
transportation rate. The result of this failed experiment has been a substantial in-
crease in the price of natural gas at the border of Californianot because of an in-
crease in the cost of the commodity, but because of vast increases in the imputed
value of using the pipe.
While well intentioned, eliminating the cap did not achieve the objective of a more
transparent and liquid market, and in fact had the unintended consequence of in-
creasing the price of delivered gas at the California border to levels far beyond what
the market had experienced to that point. For example, at one point last December
the average daily cost of gas delivered to California shot up to $59.42/mmBtu (with
some purchases at the $70.00 level), while the cost of the gas itself was around
$10.00/mmBtu. Thus the imputed value of delivery to the California border, which
under regulation was $0.67/mmBtu, rose to S49.00/mmBtu.
If Congress were to address this problem in conjunction with the electricity Cost
of Service Plus price cap under consideration in S. 287, the combined impact could
help lower the ultimate price of electricity throughout the western region. This is
the case because the cost-of-service cap would make wholesale electricity sales re-
flective of the actual cost-of-service, and reinstatement of the cap on pipeline capac-
70
ity transactions would help limit the input costs of generators and eliminate de-
mands for pricing premiums based on stated concerns over the delivered price of
natural gas.
Furthermore, the price of gas in California has compounded the price impact of
electricity for residential consumers and businesses, some of whom are seeing price
spikes for both commodities at the same time. If the Congress were to require FERC
to terminate the ill-fated experiment in waiving the cap on the secondary market,
we would anticipate a substantial reduction in the average price and volatility of
delivered natural gas prices at the California border.
Congress should also require FERC to develop regulations that require interstate
shippers to disclose separately the cost of the gas and the cost of the transportation
of the natural gas when selling bundled gas and transportation services. Such a pro-
vision will clearly identify to natural gas market participants the key components
of pricing of natural gas and, by leading to greater price transparency, would pro-
vide FERC the tools it needs to enforce the cap. By clearly delineating pricing infor-
mation, market participants can make better decisions about their gas purchases,
and regulators will be better equipped to enforce their regulations and understand
the economic drivers in the current natural gas marketplace.
I would reiterate that the provision for a Cost of Service Plus electricity price
cap in S. 287 already addresses any impact of natural gas prices on electric genera-
tion costs, by factoring them into the allowable charges for each facility. But these
prices themselves exhibit problems that must be addressed. As a result, it is imper-
ative that FERC be required to re-impose caps on interstate natural gas transpor-
tation services.
CONCLUSION
Nationally, we are confronted with a need to develop our overall energy infra-
structure. We have, in part, turned to the market to guide this transition. What we
are confronting now are problems that arise as we make the transition, and in par-
ticular, we are confronting the question of how we assure some economic stability
while still allowing the market signals that will guide our investment.
S. 287 offers both near and long-term solutions to alleviating the current energy
crisis. The bill takes into account the need to create a temporary time out to bring
market participants to the table today so that a lasting long-term solution can be
reached. We strongly urge the Committee to quickly pass S. 287, and send the bill
to the Senate floor as soon as possible. Federal legislative action is urgently needed
to fix the wholesale market, and S. 287 takes the necessary steps to achieve this
objective.
There is clear and compelling evidence that the electric wholesale market is not
working in the western region, and that without Cost of Service Plus rates, it will
continue to flounder and spread economic harm. The states in the region are moving
aggressively to address the disastrous impacts of the existing market structure, and
to expand the supply. Senator Feinsteins bill, S. 287, offers a much needed cooling
off period to protect consumers, and our economy, as we resolve this critical situa-
tion.
Thank you again for the opportunity to testify today. I appreciate your interest
in this important issue, and am available to answer questions,
Next would be Bruce Worthington, who is senior VP and general
counsel with PG&E Corporation.
STATEMENT OF BRUCE WORTHINGTON, SENIOR VICE PRESI-

DENT AND GENERAL COUNSEL, PG&E CORPORATION, SAN
FRANCISCO, CA
Mr. WORTHINGTON. Thank you very much, Senator Bingaman
and Senator Feinstein, as well. I appreciate the opportunity to be
here to talk about this. I am a substitute for Bob Glynn, and his
comments I would like to have submitted to the record of this pro-
ceeding.
Senator BINGAMAN. They will be included in the record.
Mr. WORTHINGTON. Thank you.
71
Senator Feinstein, I want to really acknowledge your concern

and help and involvement and fortitude for persisting in this crisis
in California and in the West.
I echo the comments of the other two California-based utilities in
the urgency in which this needs to be addressed. We have talked
about long-term and medium-term solutions for this, but for the
upcoming summer, the proposal embedded in S. 287, I think, is ab-
solutely necessary. We do not normally think that the sort of mar-
ket-distorting caps or cost-based rates are a good thing, but in Cali-
fornia for the summer, I am not aware of any other measure that
is going to do it. We are going to do all we can to reduce demand.
There are short-term peaking supplies that I know the Governor in
permitting is trying to get on line faster, but that is not going to
bridge the gap. If the Secretary was right this morning that there
is a 5,000 megawatt gap, I do not understand how that is going to
otherwise be met.
So, in order to avoid that chart that you showed us this morning
being duplicated again in the summer or 2001, I do think we need
either the Secretary or the FERC to exercise their wholesale price
controls. The market, where it is clearly broken, where you can set
short-term temporal limits on it and apply it to existing generation
so we do not discourage the siting and development of new genera-
tion, which we absolutely need for the long run, I think is an ap-
propriate mechanism to control the prices.
With that summary, I will finish. Thank you.
[The prepared statement of Mr. Glynn follows:]
PREPARED STATEMENT OF ROBERT D. GLYNN, JR., CHAIRMAN, CEO AND PRESIDENT,
PG&E CORPORATION
Good morning, Chairman Murkowski, Senator Bingaman, and members of the
committee. Im Robert D. Glynn, Chairman, CEO and President of PG&E Corpora-
tion. Thank you for the opportunity to appear before you today, as you continue
your examination of Californias electricity shortages and related price impacts
across the West. Let me also acknowledge my own Senator from California, Senator
Feinstein, and thank her for her interest and fortitude in helping find solutions to
these difficult problems.
As you know, wholesale electricity prices in California and the West remain at
unprecedented levelsthe estimated average price for February in California was
$228 per megawatt hour, with no relief in sight for consumers or the utilities and
retail energy providers serving them. Supply, both in terms of available megawatts
and the natural gas used to produce electricity, is extraordinarily tight. Hydropower,
in particular, continues to be short. At this point, it appears certain that the avail-
ability of hydropower across California and the Pacific Northwest will be substan-
tially below normal. Recent storms have improved the California hydro outlook
slightly from as recently as a month ago, and our utility currently forecasts hydro
availability of about 70 percent of normal. The Northwest outlook however, is un-
changed: BPA continues to forecast hydro at just over 60 percent of normal.
As we look to the peak usage summer season, the dire predictions you heard at
the last hearing on this subject seem, if anything, to be optimistic now. At best, ac-
cording to the California ISO, the state will be short 2 to 3 thousand megawatts
for the summer, and that forecast may not fully reflect current hydro conditions in
the Northwest.
In that context, the implicit theme of your hearing today, How can we moderate
or limit electricity price impacts this summer, while simultaneously sending the cor-
rect market signals to promote supply-demand equilibrium? is precisely the correct
short-term question. Given the fact that broad resolution of the supply problem is
necessarily a longer-term activity, the immediate answer to the price impact compo-
nent of the question in the short time frame between now and summer is that Cali-
fornia and the West will be scrambling to use all tools currently available to address
the problem: 1) bringing power plants now down for maintenance and repairs back
on line; 2) siting and building new peaking power plants in an expeditious man-
72
ner; and 3) implementing emergency demand reduction efforts. All three of these
measures are the best mechanisms available to address the very top of the demand
peaks that will occurand to help mitigate prices without exacerbating the supply
problem.
In short, we must act immediately to provide market-oriented solutions that at-
tack the supply problem first and encourage fast-track supply projects, such as is
being done now with peaking units. In the interim, a combination of supply and de-
mand initiatives is imperativeeverything from the longer-term bilateral contracts
being implemented now between the state of California and suppliers, as well as de-
mand-reduction incentives comparable to those that were initiated last summer. We
also believe that prices at the retail level in California need to be adjusted further
to better reflect the true cost of electricity so that adequate signals can be sent to
encourage more responsible electricity use.
Even then, given the extent of the expected supply/demand imbalance for this
summer, it is not clear that these tools will fully mitigate the potential economic
impact this summer. This leads us to the pieces of legislation before you today that
address price caps in one way or another.
Historically, PG&E Corporation has not supported price caps; over the long term,
they create market distortions and have unanticipated and perverse consequences.
In a functional market, they mask the peak price signals that spur conservation,
changes in usage patterns, investment in energy efficiency and in new supply.
Often, they make matters worse. That said, in June of last year we recognized that
in circumstances where power markets are not fully competitive, short-term imple-
mentation of price caps might be necessary.
We adopted a corporate policy statement (attached) that addressed those cir-
cumstances, which can be summarized as follows: where markets are clearly broken,
for example, where FERC has determined that prices are not just and reasonable,
short-term offer caps may be warranted.
This was not an easy decision on our part, because in addition to Pacific Gas and
Electric Company, the utility that serves much of northern and central California,
we also own the National Energy Group, which builds, owns and operates power
plants across the country. So, as you might anticipate, there was a fair amount of
discussion and thought in the process that led to our corporate policy.
With that process in mind, Id like to address regional price caps for the West,
for the summer of 2001. Based on what we know today, there is a very good chance
that the West is heading for a meltdown wheredue to short suppliesthe price
of power could increase from todays already historically-high levels to sustained
stratospheric levels for the summer. That would inflict severe hardship on house-
holds and the economies of the Western states to no good end; prices are already
high enough to incent new generation, which is being built as fast as it can be per-
mitted and constructed.
In order to avoid that meltdown, policy makers should create a mechanism, which
would allow either the Secretary of Energy or the FERC to implement temporary
price caps, should our worst fears be realized. It seems only prudent to create the
policy tool and carefully describe the circumstances under which the tool can be
used, including the duration of use. For example, any price cap should have an ex-
plicit start and sunset date, for instance, May 1 and September 30 of this year. And
in order not to inadvertently discourage new, badly needed power plants, the price
cap should apply only to existing generation.
With respect to setting a price cap, it must be simple enough to be easily adminis-
tered, and it should allow suppliers to make a reasonable profit. Most options being
given serious consideration involve benchmark rates that build up from a cost basis.
Frequently discussed are technology-specific caps that would cover suppliers costs
plus a stipulated profit margin. Under this approach, caps would be set at different
levels based on the type of generating resourcenatural gas, coal, hydro, etc. Other
options include fixed price caps at levels high enough to accommodate input price
fluctuations, such as variations in the price of natural gas, or indexed caps equal
to some multiple of current input prices.
I strongly believe in markets; if I didnt, we would not have invested money in
building power plants across the United States to participate in competitive whole-
sale power markets. A meltdown in the Western power market this summer would
be a huge setback to the development of a national wholesale power market, and
markets in general.
Mr. Chairman, I would be pleased to answer any questions.
73
Next is William Hecht, who is the chairman and CEO and presi-
dent of PPL Corporation in Allentown, Pennsylvania. Thank you
for being here.
STATEMENT OF WILLIAM F. HECHT, CHAIRMAN, PRESIDENT
AND CEO, PPL CORPORATION, ALLENTOWN, PA
Mr. HECHT. Thank you, Senator.
PPL Corporation is an energy company that markets electricity
in 42 States and Canada and operates about 10,000 megawatts of
generating capacity in Pennsylvania, Montana, and Maine and de-
livers electricity to about 6 million customers on three continents.
In addition to representing the views of PPL, I am also appear-
ing on behalf of the Electric Power Supply Association, a national
trade association representing competitive suppliers.
While there are many contributing factors to the electricity sup-
ply crisis in the West, the underlying problem is that California
does not have enough electricity supply. The State has an elec-
tricity load of about 48,000 megawatts and in-State generating re-
sources of only about 38,000 megawatts.
The real solution to the problem is not in artificial price controls
but in a focus on the forces of supply and demand which will both
discourage consumption and encourage production. Reflecting ac-
tual current economic value of electricity through retail prices in
some form for at least some users would exert downward pressure
on consumption, immediately helping to reduce the mismatch be-
tween supply and demand. This in itself would help reduce whole-
sale prices.
Even more importantly, prices set by supply and demand will
send the proper price signals to investors, encouraging the con-
struction of new generating facilities.
Price caps would, on the other hand, reduce the incentive to in-
vest in new production and unnecessarily prolong and exacerbate
the existing supply and demand imbalance. This free market lesson
is one that we have learned elsewhere in the U.S. energy industry
as a failed experiment with natural gas price controls would attest.
Allowing the free market to function and to send the right price
signals will result in the significant capital investments that are
needed to build the next generation of American powerplants.
There is ample evidence that such a process is working in places
other than California. Across the country, more than 125,000
megawatts of generating capacity are under construction or in ad-
vanced development in markets where investors believe they can
successfully site plants and receive a fair return on their invest-
ment.
My company is but one example of this process at work. PPL has
explored acquisition and development of power generating facilities
at more than 100 locations in the United States and even overseas.
In each case, we carefully study available supplies in the region,
our estimate of future marketplace prices, the likelihood of success
in constructing a facility, and a host of other factors. This very se-
lective process has resulted in our acquisition of about $1 billion in
generating assets, principally in the State of Montana, and PPL is
developing plants in eastern Pennsylvania, Eastern United States,
and in Western U.S. markets that could result in an investment of
74
approximately $2 billion more. As I speak today, we are developing

powerplants in Connecticut, on Long Island, in Pennsylvania, in
Washington State, and in Arizona.
It goes without saying, of course, that we are developing these
plants, which will add more than 4,000 megawatts of supply, be-
cause they are located in key markets where the power is needed
and that offer long-term opportunities for our shareowners. Put an-
other way, if the wholesale markets in these regions were not send-
ing the appropriate price signals, we could not justify building the
plants there.
I am convinced that there is only one way to ensure adequate
supplies of electricity for the people of California and the rest of
the country: We must encourage the building of new powerplants.
These new supplies, however, will be put at risk if we begin to arti-
ficially manipulate or threaten to artificially manipulate the whole-
sale markets. For the reasons I have detailed in my written testi-
mony, imposition of price caps or a return to cost-based rates would
actually result in two very problematic, unintended results: re-
duced likelihood of new powerplant construction and, ironically,
over time higher average prices for electricity.
The bills before you also propose refund requirements on compa-
nies that own generating facilities, essentially rewriting the rules
under which the transactions were made. These interventions in
the market not only would hurt the very companies that are part
of the potential solution, they would also discourage those who are
considering such development.
Some say that the building of new powerplants is too com-
plicated, too environmentally threatening, and too time consuming
to address the current situation. This is simply not true. New gen-
eration can be installed rapidly in compliance with existing laws
and regulations that fully protect environmental quality.
Further, modern electric generation technologies are cleaner and
more efficient than those in use only a few years ago. Higher effi-
ciencies mean that less fuel is used to produce each kilowatt hour
of electricity and cleaner technologies mean that even the fuel that
is burned produces fewer emissions.
There are some steps that the Federal and State governments
can take to ensure that new generating units can be built quickly
and efficiently.
For instance, environmental review can be accelerated proce-
durally without reducing the participation of knowledgeable inter-
venors or compromising the quality of the outcome. Government
can also make sure that the electric transmission system is fully
open and accessible to all market participants. Such enhancements,
combined with the time-proven forces of supply and demand, can
result in new supplies being available in as little as 24 months for
conventional generation and sooner for distributed generation
which has higher cost.
In conclusion, I believe that the California experience under-
scores the need for a renewed commitment to competitive elec-
tricity markets.
Thank you very much.
[The prepared statement of Mr. Hecht follows:]
75
PREPATRD STATEMENT WILLIAM F. HECHT, CHAIRMAN, PRESIDENT AND CEO,
PPL CORPORATION, ALLENTOWN, PA
I am William F. Hecht, chairman, president and chief executive officer of PPL
Corporation. Thank you for the opportunity to appear before this Committee to
share my views on S. 26, S. 80 and S. 287.
These legislative proposals raise issues that are central to the future of the na-
tions energy supply.
In addition to representing the views of PPL, I am also appearing on behalf of
the Electric Power Supply Association, a national trade association representing
competitive suppliers, including independent power producers, merchant generators
and power marketers.
PPL, with headquarters in Allentown, Pa., is a rapidly growing international en-
ergy company with revenues of nearly $5.7 billion.
We operate four principal subsidiaries:
PPL EnergyPlus markets wholesale electricity in 42 states and Canada and
markets competitively priced retail electricity in several Eastern and Western
states. PPL EnergyPlus also provides energy services in the Mid-Atlantic and
New England regions.
PPL Generation owns and operates U.S. power plants. Its portfolio includes
nearly 10,000 megawatts of generating capacity in Pennsylvania, Maine and
Montana. In the East, our 8,500 megawatts areis primarily coal-fired and nu-
clear generation. In Montana, our 1,150 megawatts are coal-fired and hydro
generation. Our Montana plants were acquired from The Montana Power Com-
pany in late 1999, and since that time have been used primarily to serve Mon-
tana electricity customers under a wholesale agreement that we signed with
Montana Power at the time of the purchase. We have sold a limited amount
of wholesale power into the California market since acquiring the plants.
PPL Electric Utilities delivers electricity to 1.3 million customers in eastern and
central Pennsylvania.
PPL Global owns distribution businesses in the United Kingdom and Latin
America that deliver electricity to 4.4 million customers. The company also de-
velops and acquires generation in key U.S. markets. It now has more than 4,000
megawatts of capacity under active development.
THE SOLUTION FOR THE CALIFORNIA MARKET IS NEW GENERATION
The electric supply situation in California has reached nearly crisis proportions.
California and other Western states now face economic dislocations due to the high
cost of electric power, and California itself also faces a fundamental reliability prob-
lem.
There are many reasons for the current economic and reliability problems. Gas
prices increased. Electricity demand increased rapidly. It was a low-water year for
hydroelectric generation. The West Coast experienced a heat wave.
However, the underlying problem in the Western System Coordinating Council
the interconnected system of which California is a partis that there simply is not
enough generating capacity to meet load requirements. This generating capacity
shortfall is directly traceable to California, which has a load of about 48,000
megawatts and in-state generating resources of only about 38,000 megawatts.
This means that California must import large quantities of electricity to satisfy
its demand. And, much of the in-state generation is old and inefficient. California
has not built a significant generating facility in more than 10 years. Further, trans-
mission limitations sometimes exacerbate the generation shortfall.
The solution to this problem is to permit the forces of supply and demand to set
prices, and to allow those prices to both discourage consumption and encourage pro-
duction.
Reflecting the actual economic value of electricity through higher retail prices
in some form for at least some userswill cut consumption, immediately reducing
the mismatch between supply and demand. This, in itself, would help reduce whole-
sale prices.
Even more importantly, prices set by supply and demand will send the proper
price signals to investors, encouraging the construction of new generating facilities.
And, additional generation is the solution to the root problem.
This additional generation can be installed rapidly, with existing laws and regula-
tions fully protecting environmental quality. Further, modern electric-generation
technologies are cleaner and more efficient than those in use only a few years ago.
Higher efficiencies mean that less fuel is used to produce each kilowatt-hour of elec-
76
tricity. And, cleaner technologies mean that even the fuel that is burned produces
fewer emissions.
There are a number of steps that federal and state governments can take to en-
sure that new generating units can be built quickly and efficiently. For instance,
environmental review can be accelerated procedurally, without reducing the partici-
pation of knowledgeable intervenors or compromising the quality of the outcome.
Government also can make sure that the electric transmission system is fully open
and accessible to all market participants, especially new generators.
Even with such enhancements, however, new generation will be developed only
if we allow the forces of supply and demand to operate unencumbered, to freely set
the price of electricity. Price caps would, on the other hand, reduce the incentive
to invest in new production and unnecessarily both prolong and exacerbate the cur-
rent supply and demand mismatch.
This free-market lesson is one we have learned elsewhere in the energy industry.
When the federal government limited the wellhead prices of natural gas, producers
had no incentives to develop wells, resulting in severe supply shortages and restric-
tions of customer hook-ups. As soon as the price caps were lifted, drilling activity
expanded, resulting in ample supplies and lower prices for customers.
DEREGULATION
Under the regulated structure of the past, public utilities operated in franchised
service territories and had mandatory obligations to serve customers. As part of this
obligation, the utilities were required to build capacity to meet load requirements.
This structure, which proved to be inefficient, has been replaced with a deregu-
lated marketplace in which generation is built based on the forces of supply and de-
mand. Power plants are now built in response to price signals with increasing prices
signaling the need for new capacity. Over the long-term, this deregulated market-
place will lead to prices for end-users that are lower than they otherwise would have
been under regulation.
In a deregulated energy marketplace, the mere existence of high prices does not
necessarily mean that a market is dysfunctional. In fact, in any correctly function-
ing market, high prices are simply a proper and normal signal of demand outpacing
available supply.
This is not to suggest that we shouldin any waytolerate market power abuse
or collusion. In cases where there are proven instances of abuse of market power,
the Federal Energy Regulatory Commission has adequate powers to correct those
abuses. Certainly, the Justice Department and state agencies also will address any
issues of collusion or anti-competitive behavior.
Allowing the free market to send the right price signals except in the case of ille-
gal activities will encourage the capital investment that we need to build the next
generation of American power plants. There is ample evidence that such a process
is working in places other than California. Across the country, more than 125,000
megawatts of generating capacity are under construction or in advanced develop-
ment.
My company is a good example of this process at work.
PPL has explored acquisition and development of power generation facilities at
more than 100 locations in the United Statesand even some overseas. In each
case, we carefully studied available supplies in the region, our estimate of future
marketplace prices, the likelihood of success in siting and constructing a facility and
a host of other factors.
This very selective process has resulted in our acquisition of about $1 billion in
generating assets, principally in the state of Montana. And, PPL is developing
plants in key Eastern and Western U.S. markets that could result in additional in-
vestment of approximately $2 billion.
As I speak here today, we are developing power plants in Connecticut, on Long
Island, in Pennsylvania, in Washington state and in Arizona. It goes without saying,
of course, that we are developing these plantswhich will add more than 4,000
megawatts of supply in these key regionsbecause we believe they will benefit our
shareowners.
Put another way: If the wholesale markets in these regions were not sending the
appropriate price signals, we could not justify building plants there.
I am absolutely convinced that there is only one way to ensure adequate supplies
of electricity for the people of California and the rest of the country:
We must encourage the building of new power plants.
77
PRICE CAPS
These new supplies, however, will be put at risk if we begin to artificially manipu-
late the wholesale markets. Imposition of price caps, or a return to cost-based rates,
actually will lead to decreased suppliesand thus, higher prices.
Price caps interfere with the most important part of any functional marketthe
price signal.
Caps are designed to clip the peaks of price movement in the market, with the
goal of thereby reducing average prices. The California experience itself has shown
that price caps tend to encourage higher average prices, which could actually lead
to an increase in costs to consumers. Caps also can result in a transfer of capacity
to higher value markets. That will surely happen in the West, as resources seek
higher-priced markets elsewhere or even, in certain circumstances, shut down if
they cannot achieve sufficient revenues for operation.
Second, the caps signal developers to go elsewhere. Developers of generation look
for the best returns they can find, on a risk-weighted basis. They are not limited
to California, the Western United States or even the United States as a whole. Put-
ting a cap in place will send a strong signal to developers that the western United
States is coming more and more under price controls and government interference.
Developers will respond to that signal by avoiding those markets. Moreover, the his-
tory of price caps so far in California has been one of change. Price caps in Califor-
nia last year changed regularly between $150 and $750 per MWh. Such uncertainty
and changeability produces additional caution, leading to higher required returns
for project development, eventually resulting in higher prices for consumers. In the
extreme, price caps, along with their variability and lack of predictability, may lead
to generation development being canceled in favor of projects elsewhere.
Third, a cap tends to reduce the volatility of a market, which can lead to reduced
trading and hedging instruments. A critical part of evaluating any market is under-
standing the volatility of that market. Volatility is the tendency of prices to move
up or downhigher volatility means that prices change more often and to a greater
degree. A price fixed by government fiat has essentially zero volatility. By limiting
the upper range of price spikes, prices will change less often and by not as much.
Since energy traders make their money on price changes, a less volatile market will
have fewer traders in it providing liquidity. Reduced liquidity results in less price
discoverythe knowledge about what the price of electricity may be in the future.
Developers need as much knowledge of future prices as possible to make informed
decisions about investments. Traders, generators and consumers also need the for-
ward market to allow for the hedging through long-term contracts that has been
touted as a short-run solution to Californias woes.
There is a fourth harm from caps that also stems from the loss of volatilityde-
velopers will make the wrong decisions. A volatile market is sending out a price sig-
nal for peaking generation. Prices occasionally spike upwards (or downwards); the
appropriate generation response to such spikes is a peaking unit that only runs oc-
casionally. The peaking unit will pick-off the higher prices, thereby reducing them.
Alternatively, if there is lower volatility and higher average prices, the appropriate
business decision is to build baseload plants that are designed to run relatively
cheaply and all the time. This takes advantage of higher average prices and does
not really address price peaks.
Caps tend to distort the market signal in favor of baseload generation. With the
scarcity problem in California, that may not seem like an important problem right
now since any generation would be helpful. However, baseload plants can cost sev-
eral times as much as peaking units and take considerably longer to construct. The
market will either pay to recover those costs or those plants may go bankrupt and
cease operations in the future. Regardless, efficient economic decision-making by de-
velopers requires the correct price signal coming from the market.
For all these reasonshigher average prices, reduced development, reduced for-
ward liquidity and inefficient price signalsprice caps are inappropriate and dan-
gerous for California and the Western United States.
The legislation before you also proposes refund requirements on companies that
own generating facilities, essentially rewriting the rules under which the trans-
actions were made. These interventions in the market not only would hurt the very
companies that currently are part of the potential solution to the supply crisis, they
would discourage those who are considering such development.
Returning to cost-based rates can be a particular problem. Under regulation, ver-
tically integrated public utility companies had mandatory obligations to serve within
their franchised territories. This meant they were required by state regulators to
build whatever capacity was required to meet demand.
78
Because of the mandatory obligations to serve, regulated companies had to build
whatever capacity was needed even though rates were capped or cost-based. Today,
however, that archaic system is gone in many parts of the country. In California,
Pennsylvania and many other states, independent generating companies, not regu-
lated public utilities, now build generation. Local electric distribution companies no
longer have an obligation to build generating facilities, and the generation function
has been deregulated.
If rates for generation are capped or returned to old cost-based structures or
if other economic restrictions are placed on these new unregulated generating com-
panies, they simply will not build the facilities needed to serve the public because
they will have no incentive to build and there is no obligation to construct plants.
The capital with which those plants would have been built will go elsewhere.
Ironically, price caps may actually serve to benefit companies such as PPL, which
currently own significant amounts of low-cost, efficient generationour Montana
power plants, for example.
The reason for this benefit to companies like PPL is straightforward. Price caps
would have the effect of prolonging the time before new, efficient generation is con-
structed. Prices that otherwise would have declined with added generation will re-
main at capped levels for a longer timeand for more hoursthan would have been
the case. Existing generation would remain more valuable than otherwise would
have been the case.
CONCLUSION
The real solution to the long-term supply issues in California and the West is in-
escapable: We need to build new power plants. And, those new plants will be built
only if we allow the competitive market to do its job.
If we use the California experience to further improve our commitment to truly
competitive electricity markets, then our nations energy supply future can be a
bright one.
And, I am confident thatafter considering all the factswe will reach the con-
clusion that electricity deregulation not only is sound public policy . . . it is the only
way that we will be able to ensure adequate electricity supplies at fair prices.
Our final witness is Steve Fetter, who is the managing director
of the Global Power Group with Fitch. Welcome.
STATEMENT OF STEVEN M. FETTER, MANAGING DIRECTOR,

GLOBAL POWER GROUP, FITCH, INC., NEW YORK, NY
Mr. FETTER. Thank you, Mr. Chairman and Senator Feinstein. I
appreciate the opportunity to offer my views with regard to the im-
portant issue of Federal price caps or controls for the protection of
consumers.
I note that in some ways, though, you have presented me with
my own worst nightmare. I am surrounded on this panel with Fitch
bond rating clients and they have taken positions on all sides of
this issue.
Senator BINGAMAN. Now you know how all of us in politics feel.
[Laughter.]
Mr. FETTER. Yes, exactly. So, now you have asked me, Mr. Fet-
ter, so what do you really believe? So, I guess the only path I can
take is to offer my sincere thoughts.
As a former State regulator, I see nothing wrong with continued
cost-based regulation for service obligations that the traditional
utilities are still mandated to provide for core customers who have
chosen not to receive alternative competitive supply from a third
party provider.
At the same time, from my vantage point on Wall Street, I be-
lieve that if you are going to have competition, policy makers have
a duty to let markets operate.
79
To the extent possible, under a competitive framework, it is im-

portant to reduce the role of government. I have long adhered to
the controversial view offered years ago by then California PUC
president Greg Conlon who said that divestiture of transmission
was the best model for dealing with market power concerns and en-
suring non-discriminatory market access for new energy providers.
It could even reduce or even eliminate the need for quasi-govern-
mental organizations, such as the California ISO and the Power
Exchange and similar entities elsewhere. But divestiture of trans-
mission was never ordered due to political concerns and timeliness
issues at that time.
Instead, California took the flawed path of encouraging, virtually
to the point of mandating, utility divestiture of most of their gener-
ating capacity. California government also placed strict limitations
on a utilitys ability to procure electricity supply for its core resi-
dential customers. We are all familiar with the sad results of that
strategy.
So, from where we find ourselves now, can price caps help the
situation?
I am willing to go so far as to admit that Federal enactment of
a uniform price cap at a high levellet us say $1,000 per mega-
watt-hourmight serve a useful purpose. It could operate as a cir-
cuit breaker or safety valve to cap wholesale prices during the brief
periods of time when extremely volatile circumstances result in a
market that cannot be contained by any manner of competitive
forces. It also probably would not interfere with strategic decision
making by generation suppliers because prices at the $1,000 per
megawatt-hour level do not enter into their financing models.
However, to go below that level, indeed to go anywhere near the
$250 per megawatt-hour or even $150 levels that proved ineffective
in California would in my opinion slow the Nations movement to-
wards an efficient, competitive wholesale market. Suppliers would
seek alternative market outlets or slow their production of elec-
tricity and they certainly would reassess further investment in the
generation sector where such price caps were in place.
I would also not be surprised to see litigation brought by those
who purchased generation assets at very high prices based on reli-
ance on State legislative enactment of laws defining the new com-
petitive market orientation, the theory being an unconstitutional
taking of private property in the form of decreased valuations with-
out fair compensation.
I offer further thoughts in my written testimony that the ongoing
negotiations over sale of the three California utilities transmission
assets could conceivably provide a second chance to take the road
not taken several years ago.
I would be happy to respond to any questions that you may have.
Thank you.
[The prepared statement of Mr. Fetter follows:]
PREPARED STATEMENT STEVEN M. FETTER, MANAGING DIRECTOR, GLOBAL POWER
OF
GROUP, FITCH, INC., NEW YORK, NY
I appreciate the opportunity to testify before the Committee on Energy and Natu-
ral Resources to offer the views of Fitch on S. 26, a bill to amend the Department
of Energy Authorization Act to authorize the Secretary of Energy to impose interim
limitations on the cost of electric energy to protect consumers from unjust and un-
80
reasonable prices in the electric energy market; S. 80, the California Electricity Con-
sumers Relief Act of 2001; and S. 287, a bill to direct the Federal Energy Regulatory
Commission to impose cost-of-service based rates on sales by public utilities of elec-
tric energy at wholesale in the western energy market, and amendment No. 12 to
S. 287. I will speak from the perspective of a member of the financial community
as well as former Chairman of the Michigan Public Service Commission.
In 1995, Fitch formulated an Electric Industry Time Line (see attachment) that
forecast the general evolution of power markets within the United States. I am
happy to say that restructuring activities across the country have to a large degree
tracked Fitchs predictions. However, substantial divestiture of generation assets in
many states, most notably California, left the endpoint of the analysisthat utilities
would be operating under regulated and competitive supply models concurrently
in question.
Fitchs conclusions were based on the belief that when competition was in place
after 2000, utilities would be operating under a bifurcated structure: a lower risk
regulated market and a higher risk competitive market. Within the lower risk regu-
lated market, integrated utilities would generate or purchase power to meet an obli-
gation to serve core residential customers, much as they have under the traditional
system of cost-of-service-based regulation. But in addition to that familiar frame-
work, there would be a competitive market under which utility generation subsidi-
aries, independent power producers, and power marketers could compete to supply
electricity to industrial and large commercial users, and aggregated smaller cus-
tomers (both small commercial and residential). This half of the model, by its very
nature, would be a higher risk undertaking for both seller and purchaser.
Californias restructuring plan encouraged utility divestiture of generation and
substantial government involvement in the operation of the transmission grid
(through an independent system operator, or ISO) and the power market (through
a power exchange, or PX). For those who believe that the catastrophic events in
California in late December and early January came without warning, I invite at-
tention to Procuring Power in California: A Potential Stranded Cost, a September
2000 Fitch report by Lori Woodland, detailing the pressures soon to be faced by
Californias three investor-owned electric utilities, Pacific Gas & Electric (PG&E),
Southern California Edison (SCE), and San Diego Gas & Electric (SDG&E). A copy
is attached.
Californias restructuring model called for a high proportion of customer demand
being met by spot market supply from day-ahead or hourly transactions. This ex-
posed the states three investor-owned utilities, which were operating under retail
price caps, to extreme financial risks due to wholesale market volatility. By con-
trast, in more rational market structures for electricity and other energy commod-
ities, approximately 85-90% of demand is normally provided through long-term con-
tracts, with at most only 15% subject to spot market fluctuations. The extreme vola-
tility of price at the wholesale level has given rise to urgent calls for a fix in the
form of lower and lower price caps.
So will price caps provide the solution?
I am willing to go so far as to admit that federal enactment of a uniform price
cap at a high levelsuch as $1000 per mwhmight serve a useful purpose. It could
operate as a circuit breaker to cap wholesale prices during the brief periods when
extremely volatile circumstances result in a market that cannot be contained by any
manner of competitive forces. It also probably would not interfere with any strategic
decision making by industry participants since builders of new generation or trans-
mission would not employ prices at that level (or higher) in their financing models.
However, to go lower than such a safety valve-type level would undoubtedly slow
the nations movement toward an efficient competitive wholesale market. We have
already seen that imposition of a low price cap, such $250 per mwh or even $150
per mwh, can have the negative effect of encouraging suppliers to seek alternative
market outlets or even to slow production. Continued tinkering with market rules,
especially if at the macro federal level, is sure to create uncertainty among energy
investors and delay implementation of their business plans, especially in light of re-
cent ambiguous economic signs.
A further concern for market participants is that major investments have been
made in California and other states based on the particular competitive frameworks
mandated by state legislatures. Price levels for generation asset auctions were driv-
en by the new market orientation; a retrenchment by state policymakers back to a
form of cost-of-service regulation could be challenged as an unconstitutional taking
of private property without fair compensation. Below-market price caps would con-
tribute to this situation and could conceivably result in the government being or-
dered to pay the difference between the market value of assets in a competitive en-
vironment versus in a newly-tariffed regime.
81
Interestingly, the ongoing negotiations about sale of the California transmission
grid to the state hearkens back to a controversial point of view then-California Pub-
lic Utilities Commission (CPUC) President Greg Conlon espoused during the early
stages of implementation of electricity industry competition. Speaking to the Na-
tional Association of Regulatory Utility Commissioners Electricity Committee in
July 1997, Conlon explained that an ISO was not the first choice of the CPUC for
controlling the market power of utilities owning transmission lines. Rather, Conlon
said, the statewide ISO was a compromise; the best model he believed for dealing
with market power concerns and ensuring nondiscriminatory market access for new
entrants was divestiture of transmission to third parties. That action was never
taken because of political concerns and timeliness issues. (See attached Fitch report,
Divestiture Gets A Boost, August 18, 1997.)
Now it appears California will revisit the question of divestiture of transmission
through its negotiations to sustain the financial viability of its states utilities. How-
ever, early signs are that a purchase of the transmission systems from PG&E, SCE,
and SDG&E may be followed by the leasing of the assets back to the utilities to
operate. Instead, the state might want to consider seizing this new opportunity to
create an independent owner or, at least, operator of the states transmission grid.
Such a step would allow the state to remove itself from amidst the electricity supply
morass and reduce its activities to the more appropriate role of facilitating private
sector investment in enhancing the states energy infrastructure. This of course
could include increased generation investment by the three California investor-
owned utilities without fear of creating competitive conflict. Breaking the tie be-
tween generation and transmission would allow the states utilities and third-party
players to compete on a level playing field with minimal state interference.
I continue to believe that the bifurcated utility structure described above creates
the proper balance between retail choice and customer protection. In the final analy-
sis, policymakers who thought retail choice could only be a win-win proposition need
to reassess their stance. There are customers who believe themselves savvy enough
to participate in energy markets in an attempt to improve their financial situation
while bearing the risk that they will not. They should be given that option. At the
same time, there is another group of consumers the vast majority of residential
users who never wanted things to change. For them, the provision of a cost-of-serv-
ice regulated alternative is a necessity.
Senator BINGAMAN. Thank you very much. Thanks to all of you
for your very good testimony.
Let me ask Mr. Hecht. I am concerned. I guess I am still con-
fused. In order to incentivize companies like yourself, your own
company and others, to generate power for sale in the California
market, why is it essential that you allow prices to go as high as
they have gone? I can understand how you would want to have a
good return on your investment, but why do you need prices in the
ranges that they have been? Why should we be concerned about
protecting the ability of people to charge prices in those ranges, on
the theory that they are going to lose interest in producing power,
if we do not protect those rights?
Mr. HECHT. There are several good examples that I will give you.
First of all, fuel cost alone in a few cases has exceeded $500 a
megawatt-hour. In a few cases, delivered price of natural gas has
been in the range of $50 a million Btus. And a good round number
for some gas turbine generators is 10,000 Btus per megawatt-hour.
Simple arithmetic: $500 a megawatt-hour.
Some other examples. There are some things that can be done
in the near term to increase supply even for this summer. For ex-
ample, it is true that installing conventional generation can take
24 months and longer. But installing some forms of distributed
generation can be done much more quickly but at much higher
cost. Sending the right price signal to the end user will give that
end user the economic incentive to install, even for this summer,
some distributed generation, which can be done in that time frame.
82
So, there are some important reasons why prices should be allowed
to follow the market.
The prices are high. The market has been called dysfunctional.
I do not think that there is evidence that the market is dysfunc-
tional. Those high prices are telling you something, telling you that
there is a dramatic mismatch, not a mild mismatch, between sup-
ply and demand. And we ignore that signal at some peril.
Senator BINGAMAN. We have this chart that Senator Feinstein
has got up there. Could you put that one up? The way I read that
is the two lines that run across there show the power generation
in 2000 and the power generation in 1999.
Mr. HECHT. Yes.
Senator BINGAMAN. And the gap between those is modest.
Mr. HECHT. Yes.
Senator BINGAMAN. And you are saying that the mismatch is so
enormous that that explains the prices that are reflected on the
chart. The truth is the mismatch is pretty minimal compared to the
price changes that have been observed.
Mr. HECHT. Yes. I saw that chart this morning, and I am anxious
to speak to it because that chart just plots price against time. If
you were to plot price against demand, at periods of low demand,
periods when there is a surplus of generation, the curve would be
relatively flat, plotting price against demand. At periods of high de-
mand, periods when demand and supply are almost matched, when
demand is on the verge of exceeding supply, as it has in California
during the stage 3 alerts, the price/demand curve gets very steep.
So, modest increases in demand or even small reductions in supply
can produce dramatic changes in price. If you were to look behind
the numbers on that simplistic chart, I think you would see that.
What that chart does not reflect is the example I gave earlier of
$50 a million Btu gas resulting in a fuel price alone of $500 a
megawatt-hour for a 10,000 Btu per kilowatt hour plant.
It also does not reflect reductions in capacity which occurred in
California. Some small power generators actually shut down be-
cause they were not paid. Some hydro facilities were less available
because it was a low hydro year. There was also a reduction in ca-
pacity resulting from other forces as well.
Senator BINGAMAN. You are saying that that much was not gen-
erated. Basically you are saying that that red line there that shows
how much was generated in the year 2000 is wrong.
Mr. HECHT. No. The generation matches load on an hour-to-hour,
minute-to-minute basis, but the generation that was called for ap-
proached the absolute capability of the system. In fact, that is the
definition of the stage 3 alerts that have happened in California
that we have all read about. And during those periods, it is per-
fectly expected for prices to get high.
I can give you some other examples as well. This is not unique.
Those prices are in the several hundred dollars a megawatt-hour
range. As early as 1998 in the Ohio region, the so-called east-cen-
tral area reliability region, during a period of a number of nuclear
plants being forced out of service, prices hit $3,500 a megawatt-
hour and higher. So, that is not unprecedented.
In PJM in the Eastern part of the country, prices have hit $1,000
a megawatt-hour during short periods.
83
Senator BINGAMAN. Let me give you my lay persons view of why

prices may be hitting these very high levels, and then I will defer
to Senator Feinstein because my time is up here.
What you have here is a requirement on the utilities, the certifi-
cated utilities, in the area to provide power, and they are required
by the commissions in their respective States, in this case Califor-
nia, to provide that power in whatever way they can. So, when they
see a shortage, they will pay whatever they have to pay to obtain
that power. So, in a lot of ways, it is not a traditional market
where you can either buy or not buy depending on whether the
price is to your suiting.
Mr. HECHT. That is correct.
Senator BINGAMAN. In this case, you have got utilities that are
under legal obligation to buy that power at whatever price they
have to pay and continue to buy that power at that price until they
themselves go bankrupt.
Mr. HECHT. You make a very good point. The forces of supply
and demand in most markets are allowed to act not only on the
supply side of the equation but also on the demand side of the
equation. And because retail prices are fixed in California, there
has been no demand response. You are absolutely right. That has
increased the volatility of those markets.
Senator BINGAMAN. Yes, and the legislation that Senator Fein-
stein and Senator Smith have put together would try to address
both, as I understand it.
Senator Feinstein.
Senator FEINSTEIN. Thanks very much, Mr. Chairman.
Mr. Baum, do you remember our conversation in San Diego and
you told me that when Sempra had to purchase power in the mid-
dle of the night, it was 500 times higher in cost?
Mr. BAUM. Yes, I do.
Senator, I would like to, if I may, make a comment about your
chart and respond to some of the things that have been said.
Senator FEINSTEIN. I would appreciate it.
Mr. BAUM. First of all, I think we could correct the record that
during the period of time shown in that chart, at least through the
summer spike period, I do not believe California had a stage 3. The
stage 3s have come up subsequently. So, the assumption that we
actually had a shortfall of whateverI think it is once they go
below a 1.5 percent reserve, that it is stage 3did not occur.
Furthermore, natural gas prices remained fairly steady during
that period. They have recently spiked, particularly through the
transportation costs.
So, neither of those factors in this picture that is portrayed on
this chartand it defies any reason to believe that in the nighttime
hours, when demand is actually quite low, that prices would have
remained at very, very high levels, above $100 a megawatt-hour
quite often during that summer period and even higher today in
the nighttime hours. That can only be accounted by market distor-
tions or irregularities in my opinion.
Senator FEINSTEIN. Thank you very much.
PG&E, Edison, and Sempra together sell power to how many
customers? Mr. Bryson?
84
Mr. BRYSON. The number would be about 10 million customers,

approximately. It is the largest part of the State of California. 10
million customers would probably mean 25 million people, some-
thing like that.
Mr. BAUM. I think that is about right. I think there are about
12 million meters in the State, something like that. The other two
would be with the municipalities.
Mr. WORTHINGTON. We have 4.8 million meters and a lot more
people represented by that.
Senator FEINSTEIN. So, these are, in effect, the largest distribu-
tors of power in our State.
Now, one of the things that was pointed out and is very much
correct is that the 1996 law forced these utilities to divest them-
selves of their generation facilities. I wanted to ask this question.
When you generated electricity, what was your megawatt cost?
Mr. BRYSON. Our cost for a long period of time had been on the
order of $35 a megawatt or 3.5 cents a kilowatt hour.
Senator FEINSTEIN. PG&E, could you respond?
Mr. WORTHINGTON. I am not exactly sure of the number but I be-
lieve that is the order of magnitude for our historic cost-based rates
as well.
Senator FEINSTEIN. Mr. Baum.
Mr. BAUM. Yes. That is about correct, depending on which of the
generating units, whether they were nuclear or gas fired units.
I would comment too that those very plants that produced that
electricity at those costs were the plants that were bought by the
generators when we divested.
I wanted to go to one of the points about the targeted caps and
whether that would be an ex post facto taking or somehow unfair.
Those very generators that bought those plants made a filing at the
FERC, not long after they had acquired them, asking the FERC to
recognize that the costs that they had paid the utilities for those
plants were to be considered, should cost-based rates be put in
place, the cost that they should have in their rate base. As I recall,
the FERC said no, that it should be the book cost that existed on
the books of the utilities at the time those plants were acquired.
So, I would dispense immediately with any notion that there was
some unfairness or lack of notice or taking that would occur should
cost-based rates be imposed on an old plant that was acquired,
which is all I believe targeted caps would do.
Senator FEINSTEIN. Thank you. That is very helpful.
The point I am trying to make, Mr. Chairman, is they were able
to generate power at $35 a megawatt hour. A year or so later, the
people that bought those same facilities were charging these same
people up to what a megawatt-hour? Mr. Bryson?
Mr. BRYSON. Certainly the market at times has gonethere was
one case when it went to $800 a megawatt-hour. That is not stand-
ard. But if you take again the Wall Street source 2 days ago for
the entire marketso that would include these people that bought
our plants$353 a megawatt-hour I believe was the number. So,
approximately 10 times what the prior cost-based pricing had been.
Now, an important reality addressed today is that natural gas
prices in that period had gone up. Some underlying costs had gone
up. So, cost-based pricing would be substantially higher than the
85
traditional $35 a megawatt-hour, but we do not believe it would be

anywhere near the 10 times that.
If I could, there has been much reference this morning, including
on the part of Mr. Hecht whose views I respect, that the price of
current wholesale cost needs to be seen by the retail consumer. But
as a practical matter, increasing utility rates by 10 times overnight
would have such enormously dislocating and disruptive con-
sequences that it just is not a practical or desirable thing to do.
What I am concerned about is when people address this problem
strictly as a matter of theory, they come to nice solutions that in
practical effect would hurt deeply lots and lots of people and al-
ready have hurt badly the California utilities and California cus-
tomers. We have this theory competition between those who say
rates ought to not go up at all, that current rates were fine a year
ago so do not raise them, and those that say current price signals
ought to be put into retail rates all the time. That theory competi-
tion has led to an absence of real action and real practical problem
solving. We have to get urgently now the practical problem solving,
and that will mean, unavoidably, some increase in retail rates. I
believe it absolutely will require, to be practical, some controls on
a fundamentally broken market that is vividly demonstrated by
that chart.
Senator FEINSTEIN. Mr. Baum, could you comment on the highest
prices you paid on a generation of $35 a megawatt-hour? What
prices were you required to pay?
Mr. BAUM. Well, SDG&E would have paid similar prices to Edi-
son because we were mandated to make all of our purchases from
PX and/or whatever was passed through from the ISO, which was
common essentially to the utilities. So, the answer would be very
similar.
I would like to make a comment about what Mr. Bryson just
said. San Diego was the first to pass through real-time prices,
which it did during that time last summer, and it caused what I
call a French Revolution syndrome that people were looking for
heads to cut off not only of politicians but of utility executives. I
believe, just as John Bryson has said, that it is impossible or im-
practicable to pass through prices that are 10 times what people
are paying. But I do believe that prices should be passed through
in an orderly and predictable fashion.
Let me say that what we saw during that time in San Diego was
an immediate drop in consumption of about 10 percent. I do not be-
lieveand I think there is ample evidence and research at the
Electric Power Research Institutethat one needs to have double
or triple the bill to get a 10 percent reduction. There is some sig-
nificant elasticity of demand even at lower price increases.
But there is a secondary effect too if price increases are predict-
able and come in over time, and that is that then consumers and
businesses can take the time to plan and can justify capital ex-
penditures as against these higher prices for energy efficiency in
their operations. So, I think there is reason to believe that as much
as a 20 percent reduction can be achieved over a longer period of
time.
So, I fully endorse the notion that at both ends, both the supply
and the demand side, we need to be orderly in what we do. We
86
need to raise prices in an orderly, predictable fashion, but we also

need to cap them temporarily.
Senator FEINSTEIN. Yes.
Mr. Worthington, could you respond to my question as well? And
my question is, when you were generating at $35 a megawatt-hour
and you then sold that facility, what was that facility then charg-
ing you for power at its most?
Mr. WORTHINGTON. Much like was just said. When we first sold
them, the prices remained near the price that we had encountered
when we owned them. It was only really later, starting about June
2000, that the prices from those very same facilities started sky-
rocketing in price. In fact, in that one month of June 2000, we
under-recovered from our customers $700 million compared to what
was embedded in the rates that we were entitled to charge under
the retail frozen rates. To give you just an order of magnitude, in
one month it popped up $700 million and that was the delta over
what was embedded in our rates, and that was more than enough
to cover the cost of those plants ahead of time.
Senator FEINSTEIN. My concern is how do we get through this
summer. Respectfully, Mr. HechtI listened very closelyI do not
think your solution would get us through this summer
Mr. HECHT. May I give you some suggestions for the summer?
Senator FEINSTEIN. Can I just finish? Let me just make my
point. I will be happy to listen to you.
Mr. HECHT. Sure.
Senator FEINSTEIN. We are building power. Powerplants are
being fast-tracked. As a matter of fact, I have a list of nine plants
due to go on line with about 7,000 megawatt-hours of capacity.
That is happening. I mentioned earlier the peaker plants. Just as
fast as the Government can process them. They are not going to
be there this summer. Ergo, this summer is going to be the same
situation. You have got the major utilities close to bankruptcy right
now. What would you advise?
Mr. HECHT. Let me make a number of suggestions. I, in fact,
thought about the short-term issues and what might be done.
I already mentioned increasing retail prices, not by a factor of 10,
carefully explained, merely for at least some consumers in some
fashion. As Mr. Baum pointed out, sometimes even modest in-
creases in price do constrain demand.
Secondly, the installation of new capacity in small amounts in
certain ways can be accomplished for this summer, particularly if
the end user sees a higher price. Distributed generation, small
powerplants, micro-turbines, fuel cells can be installed for this
summer and can be done if the consumer has the right pricing be-
cause they are more costly per kilowatt-hour than larger generat-
ing plants that take longer to install.
Thirdly, I would suggest that the State closely examine all envi-
ronmental regulations that may impede or inhibit the utilization of
existing facilities, existing generation. Might there not be at least
some regulations that could be amended at least temporarily in
some minor way that would increase production capability? Some
production was off line during periods of very high prices during
this past year because they ran out of NOX emission allowances.
87
Another thing that might be consideredand I do not mean this

facetiouslyis that the utilities and the State pay for the energy
that has been used but not paid for. Energy marketers and produc-
ers do have choices. Opposite party credit risk is one of the factors
influencing that choice. To the extent that they have choices, pro-
ducers and energy marketers will sell energy elsewhere than Cali-
fornia where they perceive the opposite party credit risk to be less.
It has been commented that these high prices are unjust and un-
reasonable. Prices set by supply and demand, reflecting the actual
imbalance between the two, may well be one definition in competi-
tive markets of just and reasonable. I would submit that paying
zero for energy which has been consumed is, in fact, unjust and un-
reasonable.
I also think that even the conversations about price controls can
reduce new production, even for this summer. Let me give you one
very small example.
My company, jointly with Duke, is constructing a powerplant
now in Kingman, Arizona which will be part of the Western mar-
ket. That plant is due to come on line this summer. Each company
has put more than a million dollars additional into incentive
awards for the contractors working on the facility to get the facility
in service merely 4 weeks early. That is a multi-million dollar com-
mitment that must be recovered in a matter of weeks.
So, there are things that can be done for this summer. I do re-
spect the fact that a lot has been done for this summer. I do not
believe this summer need be the crisis that it is shaping up to be.
Senator FEINSTEIN. Mr. Bryson, Mr. Baum, Mr. Worthington,
would you respond?
Mr. BRYSON. I would be pleased to. I think much of what Mr.
Hecht presents is old history and out-of-date and does not apply in
a practical way to the urgent and difficult situation we face in Cali-
fornia. Part of the problem that we face here is that so much time
is spent on theory and in pointing at the past and mistakes made
or allegedly made in the past.
The reality is that in a practical way California now is doing
every practical thing that I know that can be done to site power-
plants, to allow existing plants to produce and produce at full ca-
pacity, to allow existing facilities to go beyond contracts and name-
plate and produce more, to site small facilities, to waive or change
environmental requirements that might restrict production.
Believe me, as utilities we believe and would want nothing more
than the ability to pay for past incurred power. We simply do not
have the capacity to do that, and now the State is taking that up.
Practical steps are being taken, but they are not much solved by
application of pure theory and old bromides.
With all due respect, I have just been handed a note that I think
puts an accent on this. The reason that I try to get concrete and
use numbers is to get away from theory. That is textbook.
I am told that this morning, I believe, the California Independent
Operators Market Surveillance Committeenow, that is an inde-
pendent group of primarily economists that were established with
the adoption of the California deregulation to review the competi-
tiveness of the market and make judgments about it. As perhaps
you are aware, they have repeatedly concludedand these are peo-
88
ple who have no commercial stake. These are a combination of aca-

demics and other independent close observersthat regrettably the
wholesale market in California is not competitive.
Here is the practical situation we are facing. They are projecting,
as of today, a 10-fold increase in the price of power in the aggre-
gate to California, from $7 billion in 1999and 1999 is a bench-
mark because it was prior to any of the run-up in prices that began
last Mayall the way up to $70 billion projected for year 2001. The
number in 2000 was $28 billion.
So, this is a terrible problem. And just the experience of 8
months in the year 2000 put us into practical near insolvency. Pro-
jecting, going forward, for 2001, current year, is more than double
the cost of last year.
So, something absolutely has to be done, and it does not do, in
my judgment, to say just let markets go forward. The markets are
not working. I believe in competitive markets. I believe that com-
petitive markets can work in electricity, but they are not working
now and we have a terrible crisis and we need a practical solution.
Imposition of cost-based rates in my judgment ought to be tem-
porary. It ought to be short. It ought to exist only under clear pa-
rameters. The proposed legislation, Senator, offered by you is clear
on that point. All the comments I have heard this morning have
been clear on that point, but we simply cannot go forth with inac-
tion on the part of either the State or the Federal Government.
Mr. BAUM. Let me say that in my opinion there is little that can
be done that has not already been done or is in the works for the
supply side for this summer. I think we are pretty much baked as
far as that is concerned. There are plants in the works and there
are some peaking turbines and a variety of other efforts that are
underway.
But I do think there is a lot that can be done with respect to
price. Mr. Hecht does have a point in bringing up the credit issue.
I believe that built into the prices that we are seeing currently is
a significant portion of the price that relates to the uncertain credit
worthiness of the ISO, of the utilities themselves, and frankly, un-
fortunately, even the State of California. Mr. Fetter may want to
comment on what Fitchs view of Californias continuing credit wor-
thiness may be at these prices. But I believe that unless we do
something to stabilize the price, to stabilize the ability of the mar-
ket participants to pay, that we will see that continuing credit com-
ponent appearing.
But last, I think the main thing that can be done for the sum-
mer, apart from this bill that you have put forth, is to work on the
demand side of the equation. I think much can be done in that
area.
Mr. WORTHINGTON. I would concur with the comments that I
think the State and we have done what we can with respect to the
supply side for this coming summer. It is mid-March already. Not
many months left.
On the demand side, I know the Governor about a day and a half
ago came out with his proposal to provide an additional 20 percent
rebate to customers who save 20 percent of energy usage over this
coming summer. I think that type of proposal does need to get at-
tention and other demand-side management. But I do not think
89
even with an aggressive demand-side management program, as

fully implemented as we could for this summer, will meet the gap
that we are going to have.
That is why I fully endorse the temporary limits of price caps or
cost-based rates for existing generation. I do not see any other way
that we are going to otherwise avoid those very startling numbers
that we just heard of what the estimate for the total California en-
ergy cost could be for the year 2001.
Senator FEINSTEIN. Mr. Fetter, and then I will conclude. I think
if you could comment on what might happen to the States credit
rating as well.
Mr. FETTER. I would say the expectation of everyone on Wall
Street, not only on the credit rating side, but on the equity side as
well, from the start of this crisis would be that rates would go up.
Rates going up would improve the credit profiles of the three com-
panies represented here. In fact, all four companies would be
strengthened if rates came closer to what the market structure was
intended to be.
As far as the States credit rating, we recently reaffirmed it at
AA. We are in the process of reviewing bridge financing which will
fill the gap until the $10 billion bond issuance occurs later this
year.
But one question that has come up on the generator side is the
Division of Water Resources which is an agency of the State and
so is not backed by the States full faith and credit. It is making
certain purchases where the generators are not sure what is back-
ing those purchases and whether, at a later time, that agency may
say that the prices they agreed to purchase power at were unjust
and unreasonable, so we do not intend to pay those prices. And
that I think is chilling some of the interest on the part of genera-
tors, both in State and out of State, and their willingness to supply
power to California.
Senator FEINSTEIN. Let me just thank you all very much. I ap-
preciate your coming so far for this. Thank you.
Senator BINGAMAN. I also wish to thank all the witnesses. I
think it has been a useful hearing. We will try to get a consensus
to move ahead. Thank you very much.
[Whereupon, at 1:26 p.m., the hearing was adjourned.]
APPENDIXES
APPENDIX I
Responses to Additional Questions
FEDERAL ENERGY REGULATORY COMMISSION,

Washington, DC, April 17, 2001.
Hon. FRANK H. MURKOWSKI,
Chairman, Committee on Energy and Natural Resources, U.S. Senate, Washington,
DC.
DEAR SENATOR MURKOWSKI: Thank you for your letter of March 26, 2001. In that
letter, you requested that I provide responses to questions from Senators Cantwell
and Wyden that arose following my March 15, 2001 testimony before your Commit-
tee. Please find enclosed my responses to these questions.
If I may be of further assistance, please let me know.
Sincerely,
CURT L. HE BERT, JR.,
Chairman.
[Enclosures]
RESPONSES TO QUESTIONS FROM SENATOR WYDEN

Question 1. California is trying to work out a deal to sell 26,000 miles of trans-
mission lines now owned by private utilities to the State. This sale is one of the
key components of a deal to help bail out California utilities and pay back those
who are owed for power sold to the utilities. Does the Commission have jurisdiction
to review this deal?
Answer. Yes. The Commission has jurisdiction to review the sale of jurisdictional
transmission assets owned by public utilities and also review any transfer of oper-
ational control of jurisdictional facilities by a public utility. Section 203 of the Fed-
eral Power Act requires the Commission to review sales, leases or other dispositions
of transmission facilities owned by public utilities, when such facilities have a value
over $50,000 and they are used for transmission in interstate commerce.
Question 2. If a deal goes through that involves the State of California acquiring
transmission lines, wont this raise regulatory concerns with the Commission? For
example, FERC Order 2000 requires participants in a Regional Transmission Orga-
nization (RTO) to give up operational control of those transmission lines. Regulatory
concerns have been raised about how the Bonneville Power Administration (BPA)
could participate in an RTO without giving up control of the transmission lines it
owns. Wont state ownership of transmission lines raise the same regulatory issues
as have been raised by the BPA? How would this regulatory concern be addressed
in the case of California? Would the State have to give up control of the lines it
acquires from private utilities?
Answer. Yes, state ownership of transmission lines could raise regulatory concerns
similar to those raised with respect to BPA and other non-public utilities. Non-dis-
criminatory open access to transmission service in interstate commerce and the for-
mation of Regional Transmission Organizations (RTOs) are crucial to achieving com-
petitive markets in electric power. California transmission lines are an integral part
of the western interstate transmission grid.
If the sale of transmission lines to the State of California occurs, the Commission
would need to decide whether the transaction is consistent with the public interest,
based on all relevant considerations. The need for a non-discriminatory transmission
grid and coordinated, efficient markets in the West could be undermined if Califor-
(91)
92
nia acquires the transmission facilities of the public utilities in California, but
chooses not to apply or follow the same non-discriminatory transmission rules as
public utility transmission owners regulated by the Commission. Similar concerns
could be implicated if California chooses not to include those transmission facilities
as part of a west-wide RTO. While there are various means the Commission could
use to attempt to address these interstate concerns, it is not possible to comment
in detail without knowing more about Californias proposal to acquire and own
transmission lines.
RESPONSES TO QUESTIONS FROM SENATOR CANTWELL
Question 1. With Washington State as the backdropwith surcharges and rate in-
creases now approaching triple digitswhat new supply do you expect to see trig-
gered between now and summer by the kind of price increases weve seen? Are we
really dealing with a market signal here or are we burdening consumers with price
signals that cannot work?
Answer. The Commission is doing everything within its powers to promote new
supply and conservation and thereby bring back down, as quickly as possible, the
price increases to which you refer. As for this summer, higher than normal prices
experienced in the West during the summers of 1999 and 2000 will permit and en-
courage more generation, and thereby enhance reserve margins, whereas low prices
may leave some generation idle. Furthermore, higher prices may provide the finan-
cial wherewithal needed to adequately maintain these older plants and thereby pre-
serve the reliability of electrical grid operations. I would also note that an appro-
priate price signal may prompt additional supply over the long term and help to en-
sure adequate generation in the summer of 2002 and beyond. Finally, as you know,
approximately 50 percent of the generation in the West is not jurisdictional to the
Commission.
More importantly, on the demand side, an appropriate price signal will encourage
conservation, both in terms of consumers using less electricity, and consumers mak-
ing investments in more efficient electricity-consuming appliances. Although I am
not aware of estimates of the conservation potential in Washington State, I do know
that estimates of the conservation potential in California are significant. Conserva-
tion has the effect of lowering prices for all consumers by balancing supply and de-
mand at a lower level of demand.
Question 2. Washington state has price increases far larger than those that have
shown up in California. Demand reduction is running about 6% overall. However,
the major reason is that industry shuts down and lays off workers. Is that kind of
price signal desirable? Would you not agree that the reason for this responseshut
downs and layoffsis that price signals are not meant to be effective in short-term,
crisis situations? Can we expect market signals to work when theres an incomplete
or ineffective market?
Answer. We recognize the importance of an effective, well-functioning bulk power
market which can send appropriate price signals to consumers to reduce demand
and to generators to increase supply. It is regrettable that high prices have caused
industrial shut-downs, worker layoffs, and other economic dislocations. But it is to
be expected that some industrial firms, being the most price sensitive sector of the
economy, will respond first. Some industrial firms have benefitted from purchasing
a significant amount of their energy needs at low spot market prices for several
years, and are only now feeling the effects of high spot market prices.
However, I understand your concerns about high Western power prices and the
implications for Western electricity consumers. While there are no easy answers to
these problems, it is my belief that market-based solutions offer the most efficient
way to move beyond the severe energy shortages confronting California and the
West.
In fact, appropriate prices, even high ones, can and do elicit some very potent
short-term effects that work to lessen the impact of supply shortfalls. The fact that
industrial electricity consumers shut down in some cases due to high electricity
prices allows the electricity they would have consumed to be used by others, includ-
ing hospitals, schools, and public safety consumers such as police and fire safety.
In that event, all purchasers of electricity should pay lower prices, and actual short-
ages (blackouts) ought to be reduced in scope and duration.
In the future, industrial firms may begin to choose differently than they have in
the past when purchasing their energy services. In light of the experience of the last
year, industrial firms may choose among the number of strategies available to ad-
dress the risk of volatile spot market prices including the choice of maintaining a
more diversified supply portfolio so that they purchase more energy in long-term
markets where prices are likely to be more stable.
93
Question 3. Your press release on March 14 encompasses a lot of FERC activity
in an effort to respond to criticism that you have not adequately addressed the
Western electricity crisis. I commend the effort, but question the scope. Why does
your proposal not address prices? How much energy will this proposal add to the
grid and on what timeline? When fully implemented, how many megawatts are you
expecting to produce with these supply initiatives? What effect on rates would you
estimate from this increased supply?
Answer. The Commissions March 14 order was issued to increase energy supplies
and reduce energy demand in California and the West. The Commission imple-
mented certain measures immediately, including: (1) streamlining regulatory proce-
dures for various types of wholesale electric sales (including sales of backup or on-
site generation and sales of demand reductions); (2) expediting the certification of
natural gas pipeline projects into California and the West; and (3) urging licensees
of hydroelectric projects to assess the potential to increase the generating capacity
of FERC-licensed projects. The order was issued after taking a broad look at the
Commissions regulatory responsibilities and addressing measures the Commission
can implement immediately. The Commission also proposed, and sought comment
on, other longer-term measures (such as incentive rates for transmission or pipeline
construction completed by specified dates).
The March 14 order does not directly address prices because pricing issues are
being addressed in other dockets and orders, in particular the Commissions Decem-
ber 15 order, which created a $150 breakpoint and directed Commission staff to pro-
pose market mitigation to be put in effect as of May 1, 2001. On March 9, and 16,
the Commission issued orders requiring California power sellers to make refunds or
offsets of approximately $124 million for January and February 2001 transactions
or provide further justification of their prices. In addition, the Commission held a
conference in Boise, Idaho on April 10 addressing price volatility throughout the
West.
Where the Commission can act to enhance the energy infrastructure in the West
it has done so. On April 6, 2001, the Commission issued a certificate of public con-
venience and necessity authorizing the construction of 135,000 Mcf per day of new
natural gas pipeline capacity to California by the Kern River Transmission Com-
pany. This authorization issued within three weeks of Kern Rivers application to
the Commission.
In my judgment, the most effective way to lower Western energy prices in all time
periods, and to keep them low, is to increase Western energy supplies. By way of
example, I offer the summer of 1998, when wholesale electricity prices in the Mid-
west increased significantly. The Commission resisted pleas for price caps or other
constraints. Subsequently, suppliers responded to the market-driven price signals
and today the Midwest is not experiencing supply deficiencies. In the West today,
we have market prices and barely adequate supplies. If we reduce prices below mar-
ket levels, supplies will go elsewhere, risking greater reliability problems.
The Commissions March 14 order was intended to increase energy supplies in the
West. Although it is not clear how much additional energy will be available this
summer or the effect it will have on rates, we believe that the Commissions order
will permit many existing sources of energy to operate more efficiently. For example,
of the 326 hydroelectric projects licensed by the Commission within the WSCC, 200
have provisions that limit operational flexibility. These 200 projects represent a
total capacity of 21,000 megawatts. Greater flexibility in the dispatch of this capac-
ity, consistent with protecting environmental resources, could provide additional en-
ergy to enhance the reliability of the system.
Commission staff held two conferences, on April 9 and 10 in Portland and Sac-
ramento, to discuss with agencies, licensees, and others, ways of expediting propos-
als to increase power generation at existing licensed hydroelectric power projects.
The conferences were attended by representatives of the hydropower industry as
well as resource agencies and nongovernmental organizations. In general, industry
representatives set forth proposals for increasing electrical generation that ranged
from modifying minimum flows and reservoir elevations to installing additional gen-
erating units and enhancing the efficiency of existing facilities. The resource agen-
cies and nongovernmental organizations expressed a willingness to expedite process-
ing of such proposals. Commission staff urged all of the industry representatives to
comprehensively review their projects, in partnership with the resource agencies
and other interests, to find ways of increasing power generation while preserving
environmental resources.
I find another example of a positive response to the Commissions March 14 order
in a press release issued by Avista Utilities just last Friday, on April 13. In that
announcement, Avista states that it has filed with the Washington and Idaho public
utility commissions to implement an all-customer electric energy buy-back program.
94
Specifically, Avista would offer a credit of five cents per kilowatt-hour for each cus-
tomer which reduces electric use by more than five percent. This is precisely the
type of demand reduction program the Commission has encouraged, and represents
the type of cooperative relationship between federal and state agencies that is nec-
essary to make it through this difficult summer.
Question 4. A possible variation on cost-based rates could be to exempt new gen-
eration from the cost-based requirement. Would you support this approach?
Answer. While I have strong reservations about returning to cost-based regula-
tion, I agree that it is very important that market forces be allowed to work in ways
that encourage investment in new generation. I have an open mind to pricing ap-
proaches that ensure this result.
However, it is difficult to design and police a tiered system in which pricing poli-
cies are different for existing and new generators. Existing generators will have an
incentive to sell power through intermediaries whose power sales are either not sub-
ject to the Commissions jurisdiction, or are outside of the scope of any cost-based
regulatory rule. (Past experience with vintage rate setting schemes in the pricing
of natural gas suggests that it may be impossible to craft rules which are not sub-
ject to circumvention and arbitrage, or lead to other unintended undesirable con-
sequences.) Accounting for the components of the sale to ultimate consumers may
require significant transaction tracking and auditing activity.
Some may also be concerned with the disturbing precedent of a boom-bust regu-
latory cycle: deregulation, followed by re-regulation. Following deregulation, some
utilities sold off their generation assets, either voluntarily or pursuant to state di-
rective. The companies acquiring these assets did so based on the knowledge and
belief that their future sales would be made at market prices, and set acquisition
prices (often at levels far in excess of book value) based on those beliefs. Subsequent
re-regulation of these assets, could create further regulatory uncertainty in the fu-
ture as for-profit companies consider whether to invest in the electric power indus-
try in general, or in Western electricity markets in particular, unless such re-regula-
tion were known to be of limited duration during extraordinary circumstances. Ulti-
mately, I believe that market certainty is one of the most important goals we can
seek to achieve for electricity producers and consumers alike.
Question 5. In your March 14 press release, about the order regarding ways to
increase the supply of electricity in the West, you say that: many hydro projects
have the potential to more fully use their available water resources to increase gen-
eration. This may be done through additional capacity units, generator and/or tur-
bine upgrading and other operational improvements. The Commission asks that all
licensees immediately examine their projects and propose and efficiency modifica-
tions that may contribute to increased power supplies.
(a) How fast is FERC prepared to act on efficiency modifications proposed by
hydro licensees? Can you commit to a specific number of days? My concern is that
summer is fast approaching, and we need to get the most out of our hydro system
to keep the lights on in the West. If FERC does not act promptly on these proposals,
it will be too late to do us any good.
(b) Your press release also mentions the need to expedite the Endangered Species
Act consultation process. Specifically, how do you plan to do that? Will you work
with the resource agencies (e.g., the Fish and Wildlife Service) to assure that endan-
gered species are protected during this process?
Answer. In its March 14, 2001 order, the Commission ordered the removal of ob-
stacles to increased electric generation and natural gas supply in the Western
United States. The Commission will act on any efficiency modifications as promptly
as possible. Where there is broad support for an amendment and the environment,
including endangered species, is adequately protected, we would expect to act on a
proposal in a matter of days. As I noted in my response to Question 3, Commission
staff has held two conferences in the WSSC region. As stated above, the conferences
revealed a commitment of the industry and other participants to identify proposals
that would provide for additional power generation that are consistent with environ-
mental protection.
Question 6. On March 9, you issued an order regarding potential refunds for Cali-
fornia electric power sales. Why was that order restricted to California when it is
clear that much of the Northwest is paying as much or more for electricity on the
current distorted market? Why does the justness and reasonableness evaluation
only apply to transactions that took place during Stage 3 conditions? One could
make the case that higher prices are more nearly warranted when a Stage 3 emer-
gency is declared because they are just trying to keep the lights on. The price
gouging that is of most concern is at Stage 1 and Stage 2. The limited time period
and limited conditions under your refund order are inconsistent with FERCs au-
95
thority to look at just and reasonable rates. How can consumers be protected if you
dont use your delegated authority?
Answer. The Commissions March 9, 2001 order put 13 California power sellers
on notice that they must either make refunds for certain power sales or provide fur-
ther justification of their prices. This order followed the Commissions December 15,
2000 order adopting specific remedies to address dysfunctions in Californias whole-
sale bulk power markets and to ensure just and reasonable wholesale power rates
by public utility sellers in California.
The December 15 order found that Californias flawed market rules caused rates
that were unjust and unreasonable during certain periods. The order addresses spe-
cific market flaws in California wholesale electricity markets and made public util-
ity sellers that bid above $150/MWh subject to weekly reporting requirements to en-
sure just and reasonable rates. The sales of all public utility sellers into the ISO
and PX markets were also made subject to potential refund. Under the conditions
in the December 15 order, the Commission must issue written notification to a pub-
lic utility seller within 60 days of each weekly reporting filing that the sellers trans-
actions are still under review or refund liability for those transactions will automati-
cally cease.
In the March 9 order, the Commission established a proxy price screen applied
to transactions that are above $150/MWh breakpoint and that take place during
Stage 3 emergencies. The Commission reasoned that the potential for market power
abuse is most likely to occur during periods of severe supply deficiency. The Com-
mission limited its approach to Stage 3 emergency hours, when the supply/demand
imbalance is the most severe and sellers know their power is most needed.
The Commission has considerable discretion in establishing just and reasonable
rates under the Federal Power Act. In setting rates, the Commission may take into
account non-cost factors, including the need to encourage new supply. See Permian
Basin Area Rate Cases, 390 U.S. 747 (1968). In the refund order at issue, the Com-
missions focus only on the highest stage of emergency serves to target the Commis-
sions intervention where it is needed most. Stage 3 emergencies (when reserve mar-
gins dip below 1.5%) are the periods when supply and demand are on the verge of
imbalance. As the March 9th order reasoned, at Stage 3, the least efficient simple-
cycle combustion turbine unit (CT) would be the marginal source of power, and
therefore represented a reasonable point for developing a proxy price screen. The
Commissions order did not want to mask scarcity costs because doing so will blunt
the price signals needed to induce supply entry. And because current technology is
much more efficient than marginal CT units, the proxy price leaves room for price
signals to stimulate market entry. I would note, however, that these issues are sub-
ject to rehearing.
Others have suggested, as you do, that the Commission should extend its ap-
proach in California to other parts of the Western markets. While I have an open
mind on this issue, there are certain fundamental differences between Californias
centralized market design and the bilateral contract regime that exists elsewhere
in the West. As a result, our approach in California does not adapt readily to other
parts of the West.
THE SECRETARY OF ENERGY,

Hon. FRANK H. MURKOWSKI,
U.S. Senate, Washington, DC.
DEAR SENATOR MURKOWSKI: In response to a number of inquiries from Members
of Congress, and in light of recent discussions of possible legislation addressing en-
ergy issues in the West, and particularly California, I thought it would be helpful
to provide you with an update on the crisis.
First, it is important to note that this crisis is a supply crisis. Simply put, the
principal problemand thus the proper focus of our attentionshould be on the
problems of the blackouts and shortages. Proposed solutions that do not either lead
to increased supply or reduced demand will not address the core problems con-
fronted in the West.
Thus, the Administration has taken a number of actions to support California in
its efforts to address critical supply issues.
One day after being sworn into office, the President directed me to call Gov-
ernor Davis to discuss the crisis and ask how we could help address the power
shortages.
96
Three days after taking office, at Governor Davis request, we extended the
emergency electricity and gas orders to give California time to develop legisla-
tion aimed at maintaining electricity supplies.
In February, also at the request of Governor Davis, President Bush issued an
executive order directing Federal agencies to expedite permits relating to con-
struction of new power plants in California. The U.S. Environmental Protection
Agency has issued air permits for three power plants in the past month.
President Bush and I have engaged in discussions with the Government of Mex-
ico about increasing electricity imports from Mexico. DOE is also working expe-
ditiously to approve two cross-border electricity expansions between California
and Mexico that should be approved later this year.
In early March, at the behest of Governor Davis, I sent a letter to the Federal
Energy Regulatory Commission (FERC) asking that the agency act on his re-
quest for an extension of the waiver for qualifying facilities from certain fuel
requirements.
In response to a request from the State of California, the U.S. Environmental
Protection Agency has provided other assistance, clarifying rules relating to op-
eration of backup generators.
While the imbalance between supply and demand is the reason for high energy
costs and power shortages, the Bush Administration was the first to take action
on overcharges. FERC took unprecedented action and ordered the first-ever re-
funds to address overcharges by generators on market-based rates after we took
office and after a Republican took over as Chairman.
On March 14, FERC issued a series of orders designed to expedite energy sup-
plies to California, including streamlining regulatory procedures for wholesale
power sales, expediting natural gas pipelines, and urging hydropower licensees
to assess the potential for increased hydropower generation.
As follow up to a meeting with Governor Davis, I issued a letter indicating that
the Administration did not oppose the States proposed purchase of the Califor-
nia utility transmission systems, conditioned on the adherence to open access
requirements.
Just two weeks ago, I met with a group of California energy suppliers to im-
press upon them that the next several months should not be viewed as busi-
ness as usual, and to ask for their help to avoid foreseeable disruptions in sup-
ply.
Last week, I met with a group of electricity experts to discuss the California
electricity crisis and to explore actions that could be taken by the Federal Gov-
ernment and State to increase supply or reduce demand.
As you can see, the Administration has taken constructive action from its first day
to help California deal with its electricity crisis. Governor Davis has expressed his
appreciation to both the President and me for this help.
Regrettably, our well-founded opposition to price caps has been claimed by some
to suggest the Administration either does not care about California and the West
or is doing nothing to address the problem. Certainly, the actions described in this
letter show this is simply untrue.
The only thing we have opposed has been the imposition of price controls because
they would not prevent blackouts and would drive away the new supply California
and the West so badly need. The Administration is not alone in its opposition to
price caps. In February, eight of the eleven Western Governors sent me a letter ex-
pressing their opposition to price caps. Those eight governors reiterated their oppo-
sition in an April 6 letter to FERC Chairman Curt He bert, calling them penny wise
and pound foolish.
By contrast, advocates of price controls have failed to indicate how price caps
would increase supply, decrease demand or prevent blackouts this year.
I appreciate the opportunity to brief you on the numerous actions the Administra-
tion has taken since our first day to support California. Please be assured that we
will continue to look for constructive ways to remove obstacles to new electricity
supply in California and the West.
Sincerely,
SPENCER ABRAHAM.
97
FEDERAL ENERGY REGULATORY COMMISSION,
Hon. FRANK MURKOWSKI,
Chairman, Committee on Energy and Natural Resources, U.S. Senate, Washington,
DC.
DEAR MR. CHAIRMAN: At your Committees March 15, 2001 hearing on Western
Energy Problems, Senator Pete Domenici asked that the Federal Energy Regulatory
Commission report on the reasons for the significant differential between wellhead
prices for natural gas produced in New Mexico and the delivered price of gas at the
California border. Specifically, Senator Domenici questioned why producers in New
Mexico were receiving $5 for natural gas while natural gas was being sold for $60
at the California border.
I have attached a Staff paper discussing the operation of natural gas markets. I
hope these answers are helpful to you. If I can be of any further assistance in this,
or any other matter, please do not hesitate to contact me.
Sincerely,
CURT L. HE BERT, JR.,
Chairman.
[Enclosure]
STAFF PAPER ON NATURAL GAS MARKETS

There are various ways in which a natural gas buyer in California (or elsewhere),
whether it is a local distribution company (LDC), industrial customer, or electric
generator, can get gas to the state border. First, the customer can buy gas in the
various producing basins, either on the spot market or through a long-term gas sup-
ply contract, and transport the gas on an interstate natural gas pipeline using ca-
pacity that it has purchased directly from an interstate pipeline serving California.
In that circumstance, the customer would pay the interstate pipelines tariff rate,
which is regulated by the Commission, plus the price of gas at the wellhead.
A second option would be for the customer to purchase gas in the producing ba-
sins and transport the gas to the state border using capacity that was released to
it by an entity holding interstate capacity. If the customer purchased released ca-
pacity, the price the customer pays for the interstate capacity could exceed the pipe-
lines maximum tariff rate because, pursuant to Section 284.8(i) of the Commissions
regulations, [u]ntil September 30, 2002, the maximum rate ceiling does not apply
to capacity release transactions of less than one year. Under this option, the cus-
tomer would still pay the congressionally deregulated price of natural gas at the
wellhead. However, while the price paid for the interstate capacity could exceed the
pipelines maximum tariff rate, capacity release transactions do not appear to be
causing the $60 gas prices. Capacity release data received by the Commission for
November and December 2000 show that there were relatively few short-term ca-
pacity release transactions and nearly all of those transactions were small volumes
priced at the interstate pipelines maximum tariff rates.
The final way in which the customer could get gas would be to buy it in a bundled
sales transaction. In that circumstance, the customer does not contract for its own
interstate capacity and has not purchased released capacity. Nor has it entered into
any long-term gas supply contracts. The customer would enter into a contract with
another entity who would make arrangements to deliver the gas at the California
border for an agreed upon price. The entity would have its own gas supply or pur-
chase gas on the spot market in the producing basins. The gas would be transported
using the entitys own interstate capacity as described in the first option or firm ca-
pacity that it obtained through a capacity release arrangement as described in the
second option. While these transactions appear to account for the $60 natural gas
prices at the California border, a review of Gas Daily index prices for December in-
dicates that the price spikes of $60 occurred only for a few days.
The price that producers receive for their natural gas at the wellhead reflects the
value of the natural gas in the production area, while the higher price received at
the California border appears to reflect the value a natural gas customer without
interstate pipeline capacity places on having gas delivered to the California border.
Any entity who has both gas supplies and interstate capacity is able to capture this
value. In order for producers, including producers in New Mexico, to sell natural gas
at the California border, they can elect to secure any available transportation capac-
ity directly from the interstate pipelines or through capacity release transactions.
In doing so, however, the producers would bear the cost responsibility of retaining
interstate capacity.
98
The Commissions jurisdiction over bundled sales transactions is limited. The
Commission retains jurisdiction to regulate sales for resale by interstate pipelines,
intrastate pipelines, LDCs and their affiliates, except when they produce the gas
that they sell. The Commission also does not have jurisdiction over bundled sales
transactions that are direct sales. In addition, the Commission cannot regulate the
price of gas imported from countries with free trade agreements, including Canada
and Mexico. Based on information contained in the California Energy Commissions
November 2000 report entitled California Gas Analysis and Issues, the Commission
estimates that between 12 and 17 percent, but no more than 35 percent, of gas sales
into California would be subject to the Commissions jurisdiction. The percentage of
gas subject to the Commissions jurisdiction could change daily depending on a num-
ber of factors including the seller of the gas, the buyer of the gas, the source of the
gas and how the transaction is structured. Any reregulation of the price of natural
gas could bifurcate that natural gas market into jurisdictional and nonjurisdictional
elements. This bifurcation could send inaccurate price signals to gas consumers and
could cause distortions in the natural gas markets, similar to those that occurred
in the 1970s, when interstate natural gas sales were subject to federal regulation
and price controls.
APPENDIX II
Additional Material Submitted for the Record
THE STELLA GROUP, LTD.,

Washington, DC, February 20, 2001.
Chairman, Committee on Energy & Natural Resources, U.S. Senate, Washington,
DC.
DEAR SENATOR MURKOWSKI: As a leading firm in the marketing of distributed re-
newable energy technologies, I would like the opportunity to testify before the Com-
mittee on the following Department of Energy renewable energy programs relating
to solar energy, distributed energy, combined heat and power, and energy storage.
Particularly on how it relates to electricity reliability and price stability.
The Stella Group, Ltd, is a strategic consulting firm to the distributed power in-
dustry founded in 1995. The firm receives no federal funding or subcontracting. Pre-
viously, I served 14 years concurrently as Executive Director of both the Solar En-
ergy industries Association and the National BioEnergy Industries Association.
I hope for the opportunity to provide short testimony in regard to these important
programs.
Sincerely,
SCOTT SKLAR,
President.
MORRISON & FOERSTER, LLP,

ATTORNEYS AT LAW,
Washington, DC, February 21, 2001.
Chairman, Senate Committee on Energy and Natural Resources, Washington, DC.
DEAR SENATOR MURKOWSKI: We are submitting two news articles for inclusion
into the record of your Committees hearings on the California Energy Crisis.*
These articles are from the Wall Street Journal, California Edition, and the Los An-
geles Times, Orange County, regarding AES efforts to restart two mothballed units
in Huntington Beach, California. If the necessary permits can be secured, AES
would bring on line 450 megawatts of generation to help meet next summers energy
needs in California. We also enclose AES recent firm announcement on its plans
to reactivate the Huntington Beach units.
AES is the worlds largest global power company, which 19 years ago began devel-
oping, building and owning cogeneration plants in the U.S. AES experience includes
owning generation businesses in competitive markets in Australia, Argentina and
England and Wales. In California, AES has owned and operated a 125 MW com-
bined cycle power plant in Santa Clarita since 1988. Ten years later, we purchased
from Southern California Edison power plants in Redondo Beach, Huntington
Beach, and Long Beach representing 4000 MW.
Please let us know if you have any questions.
Sincerely yours,
ROBERT H. LOEFFLER,
Attorney for AES.
* Attachments have been retained in committee files.

(99)
100
STATE CAPITOL,
Boise, ID, March 14, 2001.
Hon. CURT HE BERT, JR., Chairman,
Hon. WILLIAM MASSEY, Commissioner,
Hon. LINDA BREATHITT, Commissioner,
Washington, DC.
DEAR CHAIRMAN AND COMMISSIONERS: You are aware of the energy challenges
confronting my state of Idaho and other Western states this year due to historically
low water levels. We face a critical imbalance between the demand for energy and
the supply of energy.
Some have offered temporary solutions for a long-term problem. Of those solu-
tions, price caps have been discussed as a possible remedy. You may recall that on
February 6 of this year, eight western governors, including myself, asked Secretary
Abraham not to impose price caps on electricity and natural gas. Just as I opposed
price caps then, I oppose price caps now.
Although price caps are intuitively appealing in our current situation they may
ultimately undermine our efforts to offset the energy situation that we are experi-
encing. One of the major drawbacks to price caps is that it discourages investment
in new generation facilities. That is something that we cannot afford to do. Instead,
bringing new facilities on-line is a long-term solution to this problem. Another issue
surrounding price caps is that they jeopardize current short-term and long-term en-
ergy contracts that are already in place. This would exacerbate the problem for the
entire region.
We have seen the devastating effects price caps have had on California. We do
not want that to spread into the other western states that are proactively seeking
real solutions to this real situation.
In a September 11, 2000 speech before the Senate Energy and Natural Resources
Committee, then Commissioner He bert stated the following:
In a report dated September 6, 2000, the Market Surveillance Committee of
the California ISO concludes that price caps have little ability to constrain
prices . . . If the FERC is serious about increasing generation supply, it should
act immediately to withdraw all price caps in generation markets. They distort
price signals and inhibit entry into competitive markets.
Furthermore, it was concluded in a September 24, 1998 report from the FERC
staff to the Commissioners on Midwest electricity price spikes the following:
. . . The team believes that price caps, whether they are applied generally
of intended for specific, emergency situations, create a situation in which prices
are not allowed to perform their rationing function. In addition, they can distort
market signals and prevent the efficient allocation of resources resulting in
shortages.
As I have already stated, we must have long-term solutions to this situation. Price
caps only offer a false sense of security and do nothing to remedy the problem. Com-
mon sense approaches such as reducing demand and increasing supply and siting
new generation facilities is the only sure way of solving the problem. These are the
discussions that we should be engaged in that will offer real solutions, and I am
hopeful that the Commission understands that.
I appreciate this opportunity to share my concerns with you about price caps. The
economy of our region depends upon successfully managing this energy challenge
that we are facing. With your help, we can do that.
Sincerely,
DIRK KEMPTHORNE,
Governor.
STATE CAPITOL,
Sacramento, CA, March 15, 2001.
Chairman, Senate Energy and Natural Resources Committee, U.S. Senate, Washing-
ton, DC.
Hon. JEFF BINGAMAN,
Ranking Member, Senate Energy and Natural Resources Committee, U.S. Senate,
Washington, DC.
DEAR CHAIRMAN MURKOWSKI AND RANKING MEMBER BINGAMAN: Thank you for
convening todays hearing to discuss legislation introduced in the U.S. Senate to ad-
101
dress the problem of high prices and shortages of electricity in the West. This is
an issue that affects the citizens in all of our states to varying degrees.
I want to commend Senators Feinstein and Boxer for their leadership in advanc-
ing these proposals. Their legislation makes a clear and compelling case for greater
levels of intervention by the Federal Energy Regulatory Commission (FERC) in re-
sponding appropriately to Californias electricity situation. I appreciate the Commit-
tees willingness to hear testimony on these measures, and I urge the Committee
to seek ways to advance the underlying goals of the legislation.
Since my January 30, 2001 letter to you we have made significant progress in our
comprehensive strategy to tackle the myriad issues before us. We are maintaining
our aggressive efforts to increase new generation, decrease demand, reduce our reli-
ance on the spot market through long-term contracting, stabilize the financial via-
bility of our utilities, and plan for electricity and natural gas transmission improve-
ments, Attached for your information is a more detailed discussion of recent devel-
opments in California.*
I want to assure you that my Administration continues to pursue this course of
action with spirit and determination. We are doing everything humanly possible to
meet this challenge. However, the federal government has an obligation and respon-
sibility to take corrective and decisive action on one issue that falls squarely on the
shoulders of Washingtonexcessively high wholesale energy prices.
In the near term, these wholesale priceswhich have been found by the Inde-
pendent System Operator (ISO) to greatly exceed the actual cost of production
need to be brought down to reasonable levels. The excessive charges levied by gen-
erators have brought Californias two largest utilitiesPacific Gas & Electric and
Southern California Edisonto the edge of bankruptcy. Last week the FERC itself
found that 13 generating companies may have to refund $69 million for overcharg-
ing on power sales in January alone.
Earlier this week, Governor Locke of Washington, Governor Kitzhaber of Oregon
and I formally requested that the FERC take steps on an interim basis to restrain
the unreasonably high wholesale costs in our region. We specifically suggested that
the FERC give serious consideration to a plan proposed by Commissioner William
Massey. The essence of the plan centers around a temporary cost-based price cap
on spot market sales in the western interconnection. The price cap could be cal-
culated on a generator-by-generator basis at each generators variable operating
costs plus a reasonable rate of return in the range of $25/MWh.
As a purely temporary measure that enables generators to recover all of their op-
erating costs and receive a return, this proposal would not discourage the develop-
ment of new generation. In addition, federal power marketing agencies that are not
controlled by the FERC, such as the Bonneville Power Administration, would agree
to adhere to such a plan if adopted by the FERC.
S. 287, S. 26, and S. 80 before you today are all reasonable approaches in pursuit
of just and reasonable wholesale electricity prices. I urge the Committee to carefully
review the situation we face in the West with respect to current wholesale prices.
Any objective review will adequately justify congressional action to implement a cost
plus pricing strategy.
Mr. Chairman, it is clear that this market has become dysfunctional. Nothing less
than the nations economy and the economies of all of our states are at stake. Fed-
eral action to enact a temporary cost-based price cap is necessary and warranted
in order to protect consumers and businesses in the West from the vagaries of this
dysfunctional market. If the FERC refuses to exercise its full authority under the
law to restore price stability, I believe it is appropriate for the Congress to do it
for them.
Thank you again for holding todays hearing and for the opportunity to share my
thoughts with you.
Sincerely,
GRAY DAVIS,
Governor.
STATEMENT OF THE AMERICAN PUBLIC POWER ASSOCIATION

The American Public Power Association (APPA) is pleased to present this written
statement for the record to the Senate Energy and Natural Resources Committee
for their March 15 hearing, Western Energy Problems. APPA is the national serv-
ice organization representing the interests of over 2,000 municipal and other state
and local community-owned utilities throughout the U.S. APPA member utilities in-
* Attachments have been retained in committee files.
102
clude state public power agencies, and serve many of the nations largest cities, but
the majority of our members are located in small and medium-sized communities
in 49 states, all but Hawaii. In fact, 75 percent of our members are located in cities
with populations of 10,000 people or less. APPA members serve about 14 percent
of all kilowatt-hour sales to ultimate consumers throughout the United States.
We share many of the energy policy objectives held by President Bush and mem-
bers of the Committee. Chief among these are developing a balanced national en-
ergy policy that emphasizes fuel diversity, appropriately integrating energy and en-
vironmental issues, and resolving problems in the wholesale markets for electricity.
Congress and the Administration must focus on creating a more competitive market
for wholesale sales of electricity in order to protect consumers from wildly fluctuat-
ing prices and ensure reliability. Recent developments across the country, but espe-
cially on the West Coast, reinforce the fact that wholesale electricity markets (and
wholesale energy markets in general) are interstate in nature and disturbances in
the market cut across all industry segments. The Committees hearing is timely be-
cause solutions to the problems in the Western electricity market and heading off
similar problems in other regions require quick and coordinated action at federal,
state, and local levels. Moreover, these policies should recognize the problems that
ensued when federal and state policymakers ignored the cautions raised about mar-
ket structure and instead put blind faith in the ideology of open markets and made
inaccurate assumptions about competitive market forces.
In this statement APPA outlines some of the root causes ofand possible solu-
tions tothe Western energy crisis, and emphasizes that the California problem
is not exclusive to that state alone.
THERE ARE THREE ISSUES TO ADDRESS: SCARCITY, STRUCTURE, AND SKEPTICISM
The problems encountered in the Western electric market, and new problems be-
ginning to be seen in other regions, have three distinct characteristics: scarcity of
supply, generation capacity and transmission; imperfect, or dysfunctional, market
structure at the wholesale level; and consumer skepticism that market participants
are capitalizing on scarcity and imperfect markets. Each of these problems must be
addressed as Congress, the White House, and the Federal Energy Regulatory Com-
mission (FERC) develop and implement a cohesive set of policies applicable to all
regions of the nation.
SCARCITY
Lack of generation capacity has contributed to Californias failed electricity experi-

ment. But that is just part of the equation. Lack of sufficient transmission capacity,
scarcity of fuels, particularly natural gas, low water levels, and few serious con-
servation efforts are other factors. To address these scarcity issues, APPA rec-
ommends that federal policies incorporate the following principles:
The use of all types and sources of electricity production must be encouraged
while maintaining our national commitment to a clean environment.
Production incentives for both renewable energy as well as environmentally ac-
ceptable means of using fossil fuels should be provided, and such incentives
must be available to all entities, including not-for-profit publicly owned utilities.
Regulatory policies, including but not limited to the hydroelectric relicensing
process, that reduce the capacity of existing generating facilities without ensur-
ing an appropriate balance of both energy and environmental needs, must be
reviewed and modified as necessary.
Our nations dormant commitment to efficient use of energy must be renewed,
and conservation must become an essential component of the solution.
IMPERFECT MARKET STRUCTURE
Many of the market problems in California can be attributed to policymakers;

both at the state and federal level assuming that market forces alone would be suffi-
cient to forge competition out of an industry structure that had been monopolistic
in nature since inception. Consumers have paid the price for the consequences of
premature decisions by federal regulators to allow a transition to market-based
rates without first requiring the existence of a competitive wholesale market struc-
ture. The California experience makes clear that FERC should permit wholesale
sales at market rates only in regional markets that meet predetermined criteria
that clearly define the characteristics of workable competitive wholesale markets.
These and other market structure issues need to be addressed in any federal policy,
including the following principles:
103
Transmission is an interstate commerce matter within the jurisdiction of Con-
gress. Regionally integrated planning and expansion of the grid is essential to
create and maintain a structure that can sustain regional reliability and whole-
sale competition. Federal eminent domain authority to ensure reliability and
competitive wholesale markets must be provided for construction of new trans-
mission facilities, either to properly structured, independent RTOs, Regional
Transmission Organizations, or in their absence to transmission builders pursu-
ant to a FERC issued certificate of public convenience and necessity.
The lack of effective RTOs that can ensure truly neutral management of the na-
tions transmission facilities is the single biggest obstacle to a properly function-
ing interstate electricity market. Private utilities that control vast amounts of
the nations transmission systems have a long history of denying access to their
systems, or providing access at highly discriminatory rates and unfair terms. It
is vitally important that federal policies encourage the development of inde-
pendent, properly configured RTOs.
Wholesale sales at market rates into improperly structured and dysfunctional
markets will not produce just and reasonable rates for consumers. Congress
must clearly define the fundamental characteristics of workable competitive
wholesale markets, and FERC should permit wholesale sales at market rates
in regional markets that are consistent with these characteristics and require
sales at cost-based rates in those that are not. Senator Feinsteins bill, S. 287,
directs the FERC to do just that.
Repeal of the Public Utility Holding Company Act (PUHCA) prior to the cre-
ation of a new market structure that can sustain effective competition would
only make a bad situation worse and should not occur. Indeed, numerous par-
allels can be drawn between the market conditions that existed in 1935 which
led to the enactment of PUHCA, and the market conditions that exist today.
These parallels highlight its continued importance. For example, the number of
registered holding companies has expanded from 14 to 30 in the last eight
years. In addition, todays 150 registered and unregistered holding companies
have a combined total of 240 utility subsidiaries and 4,200 non-utility subsidi-
aries. And, the ongoing rapid consolidation of the marketplace has seen 54
mergers completed or announced during the past two years alonein addition
to 24 mergers of U.S. utilities with foreign companies over the same period of
time. This consolidation limits the number of potential competitors, and re-
quires additional oversight to prevent market power abuses that put consumers
at risk.
CONSUMER SKEPTICISM
With postings of enormous profits, billions of dollars changing hands, and cries
of market manipulation, it is easy to understand the level of skepticism held by
California officials and consumers. APPA believes we all have a responsibility to re-
build consumer confidence as soon as possible, and we urge Congress to adhere to
several principles when developing federal policy:
A national reliability organization with the authority to establish and enforce
reliability standards, assure adequate generating capacity reserves in each rel-
evant wholesale market, and oversee and coordinate maintenance outages, must
be created.
Complete and timely market information on capacity, transactions and prices
must be available to regulatory agencies, public officials and all market partici-
pants.
The FERC must be directed to monitor the wholesale market, and given the re-
sources necessary to do so. It must also be delegated the authority to provide
remedies and impose penalties as appropriate.
CALIFORNIA IS NEITHER AN ABERRATION NOR EXCLUSIVELY A STATE PROBLEM
The failure of electric utility industry restructuring in California has had and con-
tinues to have broad and far-reaching adverse effects throughout the Western States
Coordinating Council region. Electric utilities and their consumers in Western
states are experiencing unprecedented volatility of electricity prices. Utilities, both
public and private, are near the financial edge and some are threatened by bank-
ruptcy. The collapse of these utilities would challenge the financial stability of major
banks, energy producers and marketers, as well as businesses and industries that
provide products and services (and credit for such products and services) to the elec-
tric utility industry throughout the region.
As Federal Reserve Board Chairman Greenspan has noted, the magnitude of the
current electricity problem is sufficient to disrupt the economy of the entire country.
104
If left unchecked, the problems will become more severe. If addressed, this near
brush with disaster should provide a sobering message that such problems cannot
be allowed to arise in other regions.
There are two critical lessons that must be understood from Californias crisis.
First, electricity is the oxygen of our economy. While lip-service has been paid to
this fact in the past, the reality of this proposition is now being driven home with
frightening force. The electric utility industry is simply too important to the well-
being of the entire nation to permit hasty experiments and unquestioning and un-
tested reliance on the ability of deregulated retail markets without viable whole-
sale electric markets to provide reliable and adequate supplies (and sufficient re-
serves) of electric energy and capacity to all consumers at reasonable rates.
Second, and equally important, wholesale electric markets are interstate in na-
ture. What is happening today is not simply a California problemconsumers in
Arizona, Utah, Idaho, Montana, Oregon and Washington are directly affected, and
there will be ripple effects throughout the economy. Regardless of its origin or cause,
this is a national problem and the solution requires federal action.
The failure of Californias electricity plan has made clear the important role that
wholesale markets have in determining the effectiveness of the retail competition
plans enacted by the states. For several years, APPA and other organizations have
emphasized that state objectives for retail competition will only succeed if supported
by a workable wholesale marketplace. While many factors have contributed to the
rolling blackouts and high prices in Californias electricity market, it is apparent
that improvements in the structure of the interstate electricity marketplace would
go a long way toward helping to avoid such problems in the future.
Congress must finish the job it started with the Energy Policy Act in 1992, the
first major step in creating competitive wholesale markets. It must take further
steps to strengthen the electricity market. This can be accomplished, as outlined
above, by ensuring consumer protection and by eliminating the problems caused by
market abuses.
With regard to the specific issue of todays hearing, we support Senator Fein-
steins legislation, S. 287, calling on the FERC to impose cost-based rates in the
Western energy market on an interim basis. While we support this legislation, we
believe FERC must enforce the statutory standard of just and reasonable rates in
all wholesale markets that fail to provide just and reasonable rates through com-
petition and market forces.
Senator Feinsteins bill, S. 26, is a viable option. S. 26 would amend the Depart-
ment of Energy Authorization Act, to authorize the Secretary of Energy to impose
interim limitations, or price caps, on the cost of electric energy. However, because
it allows for individual states to opt out and because price caps inevitably allow the
price to rise to that cap, we believe S. 287 is a better alternative.
Attached you will find APPAs recently adopted policy resolution calling on FERC
to enforce the Federal Power Act by taking action to prevent wholesale sales of elec-
tricity at costs that exceed just and reasonable rates. As you know, FERC has al-
ready acknowledged that rates in the Western market have not met the just and
reasonable standardyet it has failed to fulfill its obligation under the Act to rem-
edy this situation.
CONCLUSION
The essential purpose of federal initiatives should be to establish a structure for

interstate commerce in electricity that promotes effective wholesale competition in
order to reduce rates and improve service. Despite Californias failed experiment,
APPA still believes truly effective wholesale competition can benefit every consumer
in America, and this is the responsibility of the federal government. If properly exer-
cised, all may benefit. If not, all will suffer.
STATEMENT OF HON. ANNA G. ESHOO, U.S. REPRESENTATIVE FROM CALIFORNIA

Chairman Murkowski, Senator Bingaman, thank you for the opportunity to share
my views with the Energy Committee. I want to thank Senator Feinstein for her
important leadership in the Senate. She has been a great advocate for the State of
California, particularly during this energy crisis.
In January, Representative Duncan Hunter and I introduced H.R. 238, the House
companion bill to S. 26, introduced by Senator Feinstein. Since January, over half
of the California Congressional delegation has joined us in cosponsoring this legisla-
tion, and many more share our view that federal intervention is needed to stabilize
the western energy market.
105
Simply put, the Feinstein-Hunter-Eshoo bill would allow the Secretary of Energy
to set temporary cost-of-service based rates or regional price caps for wholesale elec-
tricity in the West. This authority parallels what the Federal Energy Regulatory
Commission (FERC) already has; however, we need this legislation because FERC
has failed to adequately protect consumers in California and the West.
FERCs decision last Friday to order generators selling into California to refund
$69 million for overcharges stemming from transactions made this January was a
positive first step. Although many believe that this figure is on the low side, FERC
has sent an important message to power generatorsthat they cant continue to
gouge consumers without repercussions. While the Commissions order moves
ahead, we must anticipate the future. We need prompt and prudent federal action
to preempt current and future overcharges as we head into summer.
Much has been written about the failure of electricity deregulation in California
and the states failure to invest in new generation. As Californians, we accept our
share of the blame for the energy crisis, and we are doing everything within our
power to correct the problem. California now ranks second in the nation in energy
conservation, with per capita energy use at 37 percent below the national average.
Business and residential consumers have taken steps to reduce their energy con-
sumption even moreeight percent in February alone. [Governor Davis has an-
nounced incentives for consumers who cut their energy use by 20 percent during
this summer.] Its estimated that this initiative could save 2,200 megawatts per day.
The Governor and the California Energy Commission are also working to expedite
the review of new power plants and expect to have more than 2,300 megawatts of
new capacity on-line by the end of the year.
The effects of the energy crisis reach beyond Californias borders. So do the
causes. While California failed to increase production during the 1990s, so did its
neighbors to the north. According to the Northwest Power Planning Council, de-
mand in the northwest increased 24% in the last decade while generation has only
grown 4%.
Whatever the causes, the reality is that the western electricity market is dysfunc-
tional due to a growing imbalance between electricity supply and demand. With re-
gional demand expected to increase this summer, political leaders outside California
are recognizing that their constituents will also experience acute electricity short-
falls. Oregon Governor Kitzhaber and Washington Governor Locke have been calling
for federal intervention since January. Most recently, these governors joined Gov-
ernor Davis in a March 12, 2001, letter to FERC requesting that the Commission
impose cost-service-based rates for the region.
Mr. Chairman, the scarcity of supply today is allowing generators to exert tremen-
dous influence over wholesale electricity rates in the region. By withholding even
marginal amounts of power, generators have successfully driven prices to unprece-
dented levels.
Despite the accusations that greedy California consumers are gobbling up every
megawatt they can, the facts tell a different story. The demand this winter has not
been great in comparison to previous winters or peak summertime periods. A March
11, 2001 San Francisco Chronicle review of California Energy Commission data
demonstrated that December 2000 demand was actually lower than December 1999
demand. The real difference was in the supply.
FERC has reported that in December between 6,000 and 11,000 megawatts of
power were not available, guaranteeing that supply barely met demand. Meanwhile,
generators were able to charge investor-owned utilities an average price of more
than $400 per megawatt, compared to approximately $30 per megawatt one year
earlier. With rates this high, generators have no financial incentive to build new ca-
pacity. Instead, they have a strong incentive to cut supplies and charge higher rates.
Critics of federal intervention, including FERC Chair Curt He bert, have said that
consumers should absorb the cost of these outrageous wholesale rates. Only then,
they argue, will consumers receive the proper market signals, adjust their con-
sumption, and prompt generators to build more capacity. Unfortunately, the Wests
up-side-down electricity market has said to generators, lower production leads to
higher profits. Higher consumer rates will not change that reality.
This is why we need temporary federal intervention. Theres a substantial dif-
ference of opinion within FERC itself. Commissioner William L. Massey wrote to me
on February 21, 2001, telling me of his support for aggressive federal intervention
in the western energy market, and Im enclosing, for the record, a copy of Commis-
sioner Masseys letter. Separately, the Seattle Times reported on March 3, 2001 that
Commissioner Massey said, A federal hands-off approach, in my judgment, is abso-
lutely unlawful. It is an abdication of our responsibility under the [Federal Power]
act.
106
Im a believer in free-markets. Period. The western wholesale electricity market
is not free. Consumers and utilities have no choice about where they buy their
power because there is not enough supply to foster competition among generators.
Chairman He berts views notwithstanding, regulators and market observers agree
that consumers need protection until there is sufficient generation capacity for a
truly competitive marketplace.
Mr. Chairman, Senator Bingaman, and Senator Feinstein, thank you for holding
this essential hearing. I look forward to working with you to address the western
energy crisis, and I believe that Senator Feinsteins bill is a good place to start.
STATEMENT OF TERRY SMITH, CHAIRMAN OF THE CALIFORNIA INDEPENDENT

PETROLEUM ASSOCIATION
Mr. Chairman, distinguished members of the committee, thank you for allowing
me the opportunity to participate in this proceeding to share our thoughts on this
issue of critical importance to Californias economic health and well-being.
I am submitting testimony on behalf of the California Independent Petroleum As-
sociationa non-profit trade association representing over 450 independent produc-
ers of oil and natural gas, service companies, and royalty owners. California pro-
duces about 40% of the oil it needs, the remainder comes from Alaska and foreign
producers. California is the fourth largest producing state behind only Alaska, Texas
and Louisiana and has the largest untapped reserve base for oil production in the
lower 48 states. We believe that given the right conditions, we could produce more.
Californias petroleum industry finds itself in the same circumstance as many of
the states other large power consumersstung by high electricity costs. Continued
high electricity costs could potentially make a large portion of the states oil produc-
tion uneconomic, however, given the proper incentives, CIPA and our member com-
panies can be part of the solution to the energy supply problem facing California
energy consumers.
There are two basic ways to help ease the energy supply crisis faced by California:
The first is to increase energy production. Policy makers must recognize the geo-
graphical advantage of in-state oil, natural gas and energy production and develop
incentives to identify additional energy supplies that already exist in California.
Laws and regulations that target and stimulate these critical resources and move
energy supplies to the consumer quickly must be adopted. The siting of new in-state
power plants of all sizes should be encouraged and expedited.
The second way to ease the crisis is to reduce energy consumption. Innovative fi-
nancial, tax and regulatory solutions to reduce energy consumption that benefit both
energy users and consumers should be made available. Examples of additional in-
centives to encourage business owners to shift electric load are interruptible tariffs,
demand side management programs and demand side bidding. The ability of oil and
natural gas producers to utilize distributed generation, self-generation and co-gen-
eration technologies should also be facilitated.
CALIFORNIA OIL AND NATURAL GAS PRODUCERS PERSPECTIVE ON THE
ENERGY SUPPLY CRISIS
Ive chosen to contribute to this dialogue because todays topic is of critical impor-
tance to the members of my association. For most independent producers in Califor-
nia, electricity accounts for up to 60% of the cost of doing business. California oil
is costly to produce because it requires steam injection driven by natural gas to get
it out of the ground. California producers also use a lot of electricity to pump the
oil out of the ground. Environmental rules prevent them from using crude oil to
make electricity so they use natural gas. High natural gas prices and unreliable
supplies of electricity have resulted in making California crude costly to produce
and are threatening to severely curtail the amount of oil we produce on an annual
basis.
CIPA has placed an extraordinary priority on assuring that it has access to a reli-
able and economic supply of electricity and on ensuring the states private utilities
are kept viable and solvent. 1ndependent oil and natural gas producers are some
of the largest electricity consumers in the state, and are economically vulnerable to
unreliable, high-priced electricity supplies.
Disruption in electricity supplies can result in reduced production of indigenous
oil, natural gas and energy supplies produced by CIPA members. Almost all of the
oil and natural gas produced in California is consumed in California.
What happened to Californias electrical system that has resulted in the problems
we see today? As someone representing large consumers of electricity, I would offer
the following insights.
107
The problem, in essence, comes down to exceptionally stringent environmental
siting guidelines and a low return on investment that kept new power plants from
being built in California during the past twelve years. Over the past ten years, few
people anticipated the strong demand for electricity brought about by a surging
economy and technology infrastructure. California policymakers thought that other
neighboring western states would sell us their excess power if we couldnt keep up
with our own demand. They didnt anticipate the growth of our neighboring states
economies and the fact that they might want to keep that power for their own use.
In 1996, when the California Legislature passed legislation deregulating Califor-
nias electrical market, it did so only partially. Not all of the market was deregu-
lated, just the generation portion. Investor owned utilities like PG&E were required
to sell their generation so they wouldnt be seen as competing with independent
power producers or holding back the new electricity market. In addition, the law im-
posed a mandatory rate freeze that had been in effect during the past couple of
years. The rate freeze was intended to allow the utilities to recover, from businesses
and consumers like you and me, all the past costs of purchasing infrastructure and
facilities. This also shielded ratepayers from the true cost of providing electricity.
This arrangement worked great as long as wholesale power costs were lower than
the rates utilities were allowed to collect from customers. But, when wholesale
power costs rose, the utilities tried to get the rate freeze removed by the California
Public Utilities Commission and be allowed to pass along the true cost of wholesale
power to their customers. To date, the Governor, Legislature, and the CPUC have
all said no thereby forcing the utilities to continue assuming the price differential
of how much they purchase power for and how much they can recover.
To compound the problem, the new regulatory structure set up by AB 1890the
legislation that created the deregulated marketput a price cap on what independ-
ent power producers could charge for their power and restricted the ability of these
same producers and the utilities to enter into long term contracts.
Finally, all of these factors converged at the same time natural gas prices began
reaching historically high levels. Higher than expected demand throughout the west,
reduced supplies, and disruptions on major pipelines serving California all served
to drive prices up, thereby further exacerbating the generators cost of producing
electricity.
All of these trends have manifested themselves into the current crisis facing the
committee today.
Having identified the problem as we see it, where do we go from here? Californias
independent producers believe we can be part of the solution if allowed the proper
opportunities. As companies based and operating in California, we believe we are
uniquely situated to mitigate the strains that are being placed on the supply side
of the energy equation. Given the proper combination of regulatory relief and incen-
tives, we believe we can increase our levels of both oil and natural gas production
beyond their current levels.
ADDING IN STATE NATURAL GAS SUPPLY
According to the California Division of Oil and Gas, California continues to have
some of the largest proved reserves of oil and natural gas anywhere in the United
States. Proved reserves of over 21 trillion cubic feet (tcf) have been identified along
the West Coast of the United States while over 3 tcf of proved onshore reserves have
been identified to date. With the advent of new, increasingly accurate technology,
new reserves of oil and gas are being found throughout the state in areas previously
thought to be barren.
Despite the presence of such substantial reserves, and the states rapidly growing
demand for increased supplies of natural gas, in-state production in California today
accounts for only 1015% of the states total annual natural gas needs. In the past,
California production has accounted for as much 25% of the states total needs.
Although much of this trend can be contributed to some of the same factors I ref-
erenced earlierstringent environmental laws, high drilling costs, historically low
gas prices throughout the 1990s and labor shortagesmany experts believe a large
part of decline can be tied directly to the policies of the states major gas utilities.
Existing law provides the utilities with almost exclusive authority in setting the
terms and conditions under which pipeline connections for new natural gas wells
are accommodated. Historically, many producers have felt that the utilities have
used this authority to stifle California production and limit competition in favor of
taking larger supplies of gas from out of state sources such as Canada, the Rocky
Mountains, and the Southwest.
For the past ten years, independent producers throughout the state report experi-
encing delays of six months to a year before receiving utility approval to install a
108
new pipeline interconnect for newly completed wells. Overly burdensome and expen-
sive terms of conditions imposed by the utilities as a condition of new interconnec-
tions are now thought to be the rule rather than the exception. In many cases, pro-
ducers have elected to simply abandon new exploratory projects rather than try to
meet the demands being imposed by the utilities.
One of the largest impediments to increasing gas production in California are the
utilitys own management policies relative to its existing pipeline infrastructure.
Representatives from PG&E recently announced that the company would no longer
be adding any new metering systems along its pipeline system in Northern Califor-
nia. If enacted, the new PG&E policy would require all new wells to be connected
through an existing metering site along the pipelinerequiring in some cases miles
and miles of new pipelines to be constructed in order to connect a remote explor-
atory well. Given such terms and conditions, most exploratory projects would be-
come automatically unfeasible. In an related move, PG&E has also recently em-
barked on an ambitious plan of retiring large sections of its pipeline gathering and
delivery systemsfurther limiting the potential points of interconnection for new
gas wells. Many of the sections being targeted by the utility continue to remain in
operational condition. The hardest by these new policies would be the Northern Sac-
ramento Basinone of the most proliferate dry gas fields in the United States and
the source of over one-third of all the natural gas produced in California.
Significant evidence suggests that much of Californias long-term gas needs could
be addressed be expanding production, and reforming the regulatory relationship be-
tween the independent producers and the utilities. Suggested reforms that could
help accomplish this goal include:
Establishing mandatory timeframes under which a utility must respond to a
producers request for a pipeline interconnection.
Encouraging new exploration activity by requiring the utility to install new me-
tering sites, rather than requiring producers to construct miles of new pipeline
for every exploratory well.
Allowing producers to expedite the installation of new interconnects by author-
ing them shoulder costs such as pipeline construction and labor costs if the util-
itys workforce is already overburdened.
Facilitating the development of new pipeline gathering infrastructure that en-
ables more gas to get to market.
Requiring the utilitys to sell off its existing gathering systems to interested pro-
ducers and co-ops, and provide the producers the authority to maintain and
service the gathering systems.
By making some of these minor changes, and facilitating the ability of California
producers to get their gas to market, we believe we can begin to help mitigate at
least one element of the problems driving our states current crisis.
IN-STATE GENERATION OPTIONS
On a related note, CIPA believes that Federal policymakers must act to eliminate
federal policies that discourage co-generation, self-generation and distributed gen-
eration. Many California oil and gas producers are uniquely situated to generate
their own electricity. Some have excess supply which could be sold to other consum-
ers if reasonable utility connection, siting and standby policies were in place. We
encourage you to examine the ways in which FERC, the DOE and other agencies
of the federal government could encourage and incentivize utilities, and the regu-
latory community in California, to act to approve new facilities.
In closing, independent oil and gas producers are price takers and have no ability
to set the price of crude at the wellhead where we produce it. Independent oil and
natural gas producers are like energy farmers. We take our commodity out of the
ground and sell it for the market price set by OPEC and other producing countries,
usually to an independent refiner or integrated oil company who then refines it into
products like gasoline. As such, our members are extremely vulnerable and can be
dramatically impacted by any combination of events that force their costs to rise
suddenly. We appreciate the committees attention to this extremely serious matter
and stand ready to work with you in finding the proper solutions.
STATEMENT OF MARCIA MERRY BAKER, EIR NEWS SERVICE

Dear Chairman Murkowski, members of the Committee, and Senator Boxer: The
draft Federal energy bills now before youS. 26, S. 80 (both introduced Jan. 22),
and S. 287 (Feb. 8), by the California Senators, deserve full support for the policy
direction they propose. Namely, they are a move toward Federal government regula-
109
tion of the vital service of electric power, for the interest of the general public. The
limitationswhich we address below, are not as important as the fact that these
two bills, and very few others (one is that of Rep. Peter DeFazio, D-Oregon), favor
serving the general welfare, and go against the Administrations crazed continuance
of deregulation, which is equivalent to throwing gasoline on a burning house.
Moreover, the additional danger at present, is the political fact that, without such
measures, the process of worsening energy emergenciesfor the Northwestern
states, and New York, as well as California, can be taken by the Administration as
the pretext for rule-by-decree, on exactly same principle as in Hitlers 1933 take-
over. We do not exaggerate. This prospect was the inherent danger in the confirma-
tion of John Ashcroft for Attorney-General, who ideologically opposes Federal gov-
ernment measures to protect and advance the General Welfare. Without reregula-
tion, however, the crisis will worsen to the point of creating a national emergency.
In opposition to the mantra of free markets, there are moves now in all states,
to delay, roll-back or reconsider energy deregulation, to prevent economic destruc-
tion, and the threat of chaos or dictatorship. In particular, the emergency policy pro-
posals made by economist Lyndon LaRouchecontributing editor to EIR News Serv-
ice, are under review at town meetings, lobbying days, and policy sessions in dozens
of states.
In brief, LaRouches proposals call for re-regulation of energy, and Ch. 11 Bank-
ruptcy for the California utilities, and others in the same position. These are tradi-
tional precedents from the FDR era.
LaRouche, who forewarned decades ago, of the consequences of deregulation, and
allowing a casino economy of speculation and concentrated ownership, has re-
leased on Feb. 6 a policy document on the California Energy Crisis, As Seen and
Heard on the Salton Sea, 400,000 copies of which are circulating in the form of a
mass pamphlet, through the LaRouche-in-2004 Democratic Presidential campaign.
Excerpts of this document were provided to the Committee in EIR testimony to the
Jan. 31 hearing on the California crisis.
We remind you of what it means to continue to back deregulation. In data tables
below, we provide the statistics of the 30% to 200% profit rates for Y2000, made
by Bush Administration-aligned Enron and the new energy merchant and specula-
tion companies, off California and other power crises; these companies also made
mega-donations to elected officials. However, beyond simple corruption, the point
shown is that any expectation that the financial and economic system which is
based on this level of hyperinflation, and cartel control, can continue, is insane.
Either you start to think, as implied in the Feinstein/Boxer bills, that something
can and must be done to set controls on the markets, or you are on the side of chaos
and destruction. First, we provide the Committee the economic assessment given by
Lyndon LaRouche at an international policy conference Presidents Day weekend in
Reston, Virginia; and then some documentation of the nature of crisis, and why
there is no other policy direction than what LaRouche proposes, like it or not.
LaROUCHES ASSESSMENT: HYPERINFLATION
On Feb. 17, in an address titled, A Branch in the Road of History, LaRouche

said, What youre seeing in the energy prices, what youre seeing in the costs of
suppliesmanufacturers suppliescombined with what youre seeing in the col-
lapse of retail sales, what youre seeing in terms of the mass lay-offs, in one indus-
try after another, which is now building up into an international chain-reaction, is
a process of a depression, caused like that of Weimar Germany in 1923world-
widecaused by the collapse of a financial bubble, which has gone into a
hyperinflationary phase.
Thats why Alan Greenspan has lost his marbles. He probably didnt have too
many to begin with, but whatever he had, hes lost.
So, we are now at the point, where it is impossible, by the present methods, to
keep this system going. It is in the process of going into a deep depression. And
nothing that these guys are proposing, or will accept, will work. The idea of more
deregulation, the idea of tax reductions, all these kinds of thingscutting down the
role of government, opposing re-regulationall of these things ensure nothing but
the greatest depression in world history. Globally.
Because, what happens is, the U.S. is the importer of last resort, nations all over
the world have been depending on dumping cheap-labor products on the U.S. mar-
ket, for the products we no longer produce. As our market declines, as you saw in
the last-quarter retail sales, which is the big Christmas retail business, from the
last quarter of the year: That collapse set into motion a chain-reaction collapse
around the world, which, together with the financial collapse, caused by the hyper-
inflation, has sunk the world economy. We can no longer finance that kind of sub-
110
sidy for imports, as we were doing before; therefore, we cant do that. Therefore, our
suppliers, who have used us as a market, are now being shut down.
For example, Mexico can expect, 20, 30, 40% of its exports into the United States
to be wiped out, very soon. One of the biggest. Canada is already suffering, as youve
seen from some reports recently from there. This is a global process.
REQUIRED: REREGULATION AND CH. 11 BANKRUPTCY
LaRouche continued, by describing what is required. Take the California energy

crisis. We have a worldwide energy crisis, and especially a West Coast energy crisis.
Theres only one way you can deal with that energy crisis: Youve got to go back
to regulation. Use what we prepared in the 1930sChapter 11 bankruptcy protec-
tion for the entire industry. You see, in this kind of Chapter 11 bankruptcy, you
protect, not only the creditors and debtors; you protect the general public. You see,
because the people of California, for example, have to be defended. The interests of
the firms of California, the farms, have to be defended. Whether or not theyre in-
volved in the relationship between the creditors and debtors, is irrelevant.
The fundamental interest of the United States, is that our people have elec-
tricity! That our firms have the power to operate on. That our hospitals function.
That our farms function. When we go into court with a Chapter 11 bankruptcy,
these interests come on the table, and actually have the greatest say, in how the
bankruptcy will be renegotiated. The creditors and the debtors go into a second tier.
What comes up front, is the interest of the nation; the interest of the people; the
interest of the economy.
So, we need Chapter 11 protection, for all the imperiled sections of vital infra-
structure for our national economy.
Secondly, we can not do this, without both a combination of Federal and state
re-regulation.
If we do that, we have enough energy available to manage this crisis, and can
manage this at prices, at charges to people who are using electricity, to ensure the
electricity they require, and to ensure that its delivered to them, regularly, at a de-
cent price. We can guarantee that.
If we do that, the energy crisis is brought under control.
WHO OPPOSES CONTROLLING ENERGY PRICES?
LaRouche then turned to, who would oppose solving the energy crisis, asking,
But, what does that mean? Thats in the interest of the nation. How can any pa-
triot oppose that? George Bush has to be opposed to it. If you look at the combina-
tion of financial interests, which is represented by the people that gave the money
to make Bush President: These guys would be wiped out, by an honest deal. Be-
cause they make their money by looting; they bid up the price. The reason that the
prices go up, is purely that these fellows are looting the United States, as well as
other countries. Therefore, the interest, the reaction, the response of these people,
is against the interest of the people of the United States; against the national secu-
rity interests.
The following two tables,* reproduced here from the March 2 issue of EIR, En-
ergy Crisis Update, Feb. 22 give data analyzed on the energy cartel mega-profits,
and mega-donations to political campaigns.
NOT A SUPPLY AND DEMAND PROBLEM
The tables above, listing the companies making hyper-profits off hyperinflationary
energy prices, also raise the point that the problem in run-away energy prices is
emphatically not a supply-and-demand issue. While the energy infrastructure and
resource base of the United States has been degraded (from aging transmission
lines, to the lack of new nuclear plants) over the last 30 years, todays energy price
spikes are clearly speculation and gouging.
The graphs below, for three power commoditiesoil, natural gas and electricity
(California), all show that while supplies (and correspondingly, use) remain almost
level, prices soared over Y2000. During this same time, demand did not jump. The
price take-off came directly from deregulated energy markets and speculation.
Two more points should be brought out in this respect. Natural gas, because it
is federally deregulated, is soaring in price (from speculation and gouging) all across
the continent, with terrible economic dislocation and financial chaos. Where natural
gas is part of the electricity generation, a double whammy is hitting the locale. Sec-
* All tables have been retained in committee files.
111
ondly, price rises for petroleum, do not correspond with non-existent swings in sup-
ply or demand for oil. Prices soar from speculation and gouging.
In the best estimates of financial analysts, every barrel of oil entering world ex-
ports, is traded up to 15 times over on the London and New York commodities fu-
tures exchanges. This is called, paper oil. Natural gas is traded on the New York
Stock Exchange 8 or 10 times more than the volume that exists. Electricity futures
are traded many times over the actual unit volume and production costs.
GO THE WHOLE WAY
These few facts demonstrate that only policy that will go the whole way with
energy price re-regulation, and Ch. 11 bankruptcy protection of the public interest,
is appropriate to the nature of the crisis we now face. Half-way measures, or partial
bail-outs are doomed, along with the economy, if we dont take an across-the-board
reregulation approach.
Thus, from this point of view, the principle of public interest embodied in the
Feinstein/Boxer bills is in the right direction, but too limited, given the reality of
the depression.
S. 26To impose interim limitations on the cost of electric energy to protect con-
sumers from unjust and unreasonable prices in the electric market; and
S. 80To require the Federal Energy Regulatory Commission to order refunds
of unjust, unreasonable, unduly discriminatory or preferential rates and charges for
electricity, to establish cost-based rates for electricity sold at wholesale in the West-
ern Systems Coordinating Council . . .
S. 287To impose cost-of-service based rates [meaning, to cover cost of produc-
tion, and a reasonable return on invested capital] on sales by public utilities of elec-
tric energy at wholesale in the western market.
[The states covered by the bills are defined as the Western Energy Market
Arizona, California, Colorado, Idaho, Montana, Nevada, New Mexico, Oregon, Utah,
Washington, and Wyoming.]
It is in the best interests of the nation, that these draft bills be expanded to cover
all power modes, be nationwide, re-instate regulation, and facilitate Ch. 11 Bank-
ruptcy actions where needed.
STATEMENT OF GEORGE FRASER, GENERAL MANAGER, NORTHERN CALIFORNIA

POWER AGENCY
The Northern California Power Agency 1 (NCPA), urges the Committee to adopt
legislation implementing cost-based wholesale power rates in California and the
other Western States on an interim basis. We do not currently enjoy a truly com-
petitive market for electricity in California at this time, and consumers cannot wait
for a competitive market to materialize.
Today, in California, we are struggling to develop solutions that will get us be-
yond the mistakes that have been made in restructuring that market. It will take
some time to develop and implement the best solutions. But even if we knew today
the exact recipe for creating a workably competitive market, those changes would
take time to implement. Without cost-based rates, unfettered prices for electricity
will continue to create disincentives for correcting the flaws in the market and im-
pose significant societal and economic harm.
Californias municipal utilities were not required to participate in the states re-
tail, choice program and largely remain vertically integrated utilities that retain an
obligation to serve their retail consumers. NCPA members generally have sufficient
generation resources to meet their consumers electricity needs. At times, NCPA has
excess generation that we sell into the market and, at other times, we must also
occasionally purchase power on the market. On aggregate, NCPA members are net
market purchasers.
NCPA has long supported steps to foster and promote sustainable and effective
competition in the wholesale electricity market. Regrettably, the market conditions
needed to sustain effective wholesale market competition are not present in Califor-
1 NCPA is a nonprofit California joint powers agency established in 1968 to generate, trans-
mit, and distribute electric power to and on behalf of its fourteen members: cities of Alameda,
Biggs, Gridley, Healdsburg, Lodi, Lompoc, Palo Alto, Redding, Roseville. Santa Clara, Ukiah,
the Port of Oakland, the Truckee Donner Public Utility District, and the Turlock Irrigation Dis-
trict and seven associate members: cities of Davis, Santa Barbara, ABAG Power, Bay Area
Rapid Transit District. Lassen Municipal Utility District, Placer County Water Agency, and the
Plumas-Sierra Rural Electric Cooperative serving nearly 700,000 c1cctric consumers in central
and northern California.
112
nia today. Consequently, NCPA supports efforts to re-impose cost-based rates as a
temporary measure until such time as competitive market conditions exist.
CAUSES OF THE CURRENT CRISIS
While there is no value in finger pointing, it is clear that many factors contributed
to the current crisisa crisis that spills beyond Californias borders and infects the
regional power market. At its core, the California and associated Western power
market lacks the conditions necessary for a competitive market: multiple sellers,
ease of entry, free flow of commerce and price transparency. In California:
There is a shortage of installed and operable generation in California. This
shortage has allowed market participants to withhold generation, strategically
bid and game the system to maximize profits.
There is a shortage of transmission capacity within the State. Alleviating cur-
rent transmission constraints between northern and southern California would
have avoided the recent rolling blackouts. However, no party has both the re-
sponsibility and authority to relieve such constraints.
There is a shortage of transmission capacity to import generation products from
outside California.
The absence of a seamless, independent regional transmission system impedes
commerce and narrows the relevant market.
From its inception, the Cal-ISO and PX lacked proper rules, procedures and
mechanisms to promote competition, monitor market conditions and take correc-
tive action.
Market forces can only serve to check prices when competitive market conditions
exist. In the absence of such conditions, sellers are able to dictate prices without
suffering competitive responses that reduce sales and revenue. Although the Federal
Energy Regulatory Commission (FERC) should only approve market based rates
when competitive market conditions exist, FERC approved the California restructur-
ing plan and the use of market based rates.
CALIFORNIA MUNICIPAL UTILITIES HARMED BY DYSFUNCTIONAL MARKET
The general perception is that Californias municipal utilities have been insulated
from the volatile market. While it is true that Californias municipal utilities re-
tained the generation assets needed to serve load, our consumers have been far from
insulated from the dysfunctional market. NCPA and its members:
Voluntarily participated in the Cal-ISO load curtailment programs and have
been subject to rolling blackoutseven though we had sufficient resources to
meet our load.
Have drawn down the reservoirs at our hydro projects to help meet the elec-
tricity demands of the state, putting at risk our ability to generate power at
these projects during the critical peak Summer months.
Operated gas-fired combustion turbines at the sole direction of the Cal-ISO,
using 20 percent of available air emissions in the first 20 days of January (at
a time when the plants would usually not operate)again reducing our ability
to operate the plants during the Summer.
Purchased power on the market at rates above what would exist in a truly com-
petitive market.
Sold power to the Cal-ISO, for service to the states investor-owned utilities, for
which weve since been told we will not be paid.
As consumer-owned utilities, the effects of these developments will be felt directly
and exclusively by our consumers. We have no stockholders to share in the pain.
PRICE CAPS AND COST-BASED RATES
NCPA recognizes the shortcomings of hard price caps. The level may be arbitrar-
ily set too high or too low, either unnecessarily enriching low-cost producers or pre-
venting marginal generators from economically operating. While a $250 price cap
seemed more than adequate one year ago, natural gas prices and emission credits
not to mention opportunity costscombine, at times, to make the cost of operating
one of NCPAs gas-fired combustion turbines more than $800 per megawatt. It is
clearly difficult to divine a single number to impose as a cost cap throughout the
west.
It is equally clear that failure to impose regulatory cost disciplinein the absence
of effective market disciplinewill cause excessive and unacceptable burdens on res-
idential consumers, businesses and the California, regional and national economies.
Just as the stock markets employ circuit breakers to halt trading when the market
113
rises or falls too precipitously, so too must we call a time out in the western whole-
sale electricity market.
Ultimately, additional infrastructureboth generation and transmissionis need-
ed to restore supply-demand equilibrium and enable markets to function competi-
tively. NCPA strongly supports such investments and is aggressively pursuing gen-
eration and transmission additions. However, the most critical transmission addi-
tion will take at least two years to complete and generation projects will take even
longer. Consumers in California and neighboring states cannot wait that long.
To protect consumers during this intervening period, NCPA supports a temporary
re-imposition of cost-based rates and supports the intent of the legislation pending
before the Committee. We commend Senators Feinstein and Boxer for recognizing
the need to act and for pursuing the temporary re-imposition of cost-based rates.
NCPA understands that there are differing opinions on the need for and design
of any regulation of the regional power market. While we are willing to work with
the Committee, the Administration and other market participants on the design of
the effort, we believe expeditious action is imperative.
Issues that the Committee might consider include:
cost plus rates in which higher than normal profits would be temporarily al-
lowed to ensure operation of existing generation;
exempting generation additions from cost-based rates as a means of encourag-
ing new plant construction;
the types of transactions subject to the cost-based rate requirement (e.g., all
transactions or only short-term transactions); and
the trigger for when the cost-based rate requirement would be lifted.
At a minimum, Congress should ensure that the current soft cap imposed by
FERC is properly enforced. As intended, power sales at prices above the FERC-im-
posed soft cap would be allowed but reviewed to ensure that they were cost-justi-
fied. It is unclear whether FERC is adequately collecting and reviewing the cost
data needed to determine whether above-cap bids are in fact cost-justified. Congress
must ensure that this minimal protection is, in fact, operating.
LONG-TERM MARKET REFORMS NEEDED
Re-imposing cost-based rates is merely regulatory triage, temporarily treating the

problem. It is not a long-term solution, and it is equally important that Congress
and FERC use the time afforded by this temporary band aid to address the sys-
temic issues and provide long-term solutions.
The recent California experience has taught us a number of critical lessons:
Without clear authority on RTOS, FERC accepted inadequate, inferior and
flawed filings from the Cal-ISO. FERC needs clear authority and direction on
RTOs to promote truly effective, regional and independent transmission man-
agement.
While California would be the 6th largest country in the world based on GDP,
it is not big enough to serve as a stand-alone energy market. Markets are re-
gional, and the transmission system must be run in a manner that supports
interstate commerce.
There are numerous transmission constraints in California that have contrib-
uted to the rolling blackouts and locational market power. While the Cal-ISO
identifies these constraints, it has no authority to take corrective action. Cur-
rent transmission constraintslike Path 15must be eliminated and imme-
diate federal funding assistance, through the Western Area Power Administra-
tion (WAPA), for environmental, engineering and rights-of-way acquisition is
needed. Ultimately, RTOs should have clear authority and responsibility to plan
and expand the transmission grid. Federal transmission siting authority is also
needed.
Creation of contrived marketswithin the PX and ISOdont work and exacer-
bate market problems. While there is a need for institutions to ensure inde-
pendent grid management, these institutions should have minimal market in-
volvement.
Markets do not work well when there are too few market participants and scar-
city of supply. FERC must establish clear and effective rules to promote sus-
tainable competitive markets prior to granting authority for market-based rates.
While there are conflicting accounts on whether generators have exercised mar-
ket power, manipulated supply and bids, taken advantage of poorly designed
market rules or simply profited from scarcity, it is clear that there is little pub-
lic confidence in the current system. Reformatting FERCs role so that it is an
114
effective market monitor, with clear authority and direction to detect and cor-
rect market manipulation or abuse, is needed.
Congress and FERC have exclusive authority over inter-state commerce in the
sale of electricity. The interstate market is not currently working and will not sus-
tain effective competition. It is critical that the structure and mechanisms necessary
for a competitive market be established.
NCPA is a participant in the Electricity Stakeholdersa diverse coalition sup-
porting wholesale market reformsand urges the Committee to adopt legislation
consistent with the Stakeholder principles.
CONCLUSION
NCPA remains committed in its belief that an effectively competitive market is

beneficial to all consumers. However, such a market will not miraculously appear
simply by declaring markets deregulated. As California has demonstrated, deregu-
lated markets that lack the structure to support effective competition will simply
cause consumer and economic hardship.
As a first-step, FERC must re-impose regulatory discipline in the uncompetitive
western power markets. The pending legislation is a critical step in achieving this
necessary relief. But we cannot stop there. Congress must also provide FERC with
necessary guidance and authority to promote and monitor effective competition in
the wholesale market.
NCPA looks forward to working with Senator Feinstein and the Committee in pro-
moting both of these objectives.
STATEMENT OF PHILLIP H. TOLLEFSON, EXECUTIVE DIRECTOR,

COLORADO SPRINGS UTILITIES
Mr. Chairman and members of the Senate Energy and Natural Resources Com-
mittee: My name is Phillip H. Tollefson and I am the Executive Director of Colorado
Springs Utilities (CSU). I appreciate this opportunity to submit testimony for the
record on behalf of Colorado Springs Utilities and in support of legislation that is
intended to address recent, dramatic increases in the price of wholesale electricity
in the West. I also want to thank each of you for your willingness to consider this
statement as you look for interim solutions to address the dramatic increases in
electrical bills that western consumers have faced as a direct result of rapidly rising
wholesale electricity costs.
Colorado Springs Utilities is a municipally owned utility which provides water,
wastewater, gas and electric services to the citizens of Colorado Springs. We gen-
erate 82% of the Citys electric power needs (approximately 623 megawatts) and we
purchase an additional 11% from the Western Area Power Administration and
through other long term contracts. Only 7% of our annual requirements are pur-
chased on the spot wholesale market. CSU currently provides electric service to
approximately 417,000 people.
While a great deal of attention has been focused on the State of California in re-
cent months, I want to make it very clear that the rising price of wholesale elec-
tricity is not just a California issue. Since the summer of 2000, the wholesale price
of electricity all over the West, including Colorado, has been rising precipitously. For
example, in 1998 the average price of a megawatt hour of electricity on the whole-
sale market in Colorado was approximately $30. In 2001, we estimate that we will
pay $130, over four times what we paid in 1998, per megawatt hour. Seasonal and
monthly variations are even worse; prices this coming August are expected to ap-
proach $400 per megawatt hour. The price of power on the spot market far exceeds
the actual costs of generation as is demonstrated by the fact that CSU expects that
the 7% of power we anticipate buying on the spot market will account for 43% of
our total annual electric supply costs!
It is an unfortunate fact of life that even the most well maintained power plant
will occasionally be forced out of service unexpectedly. Up until last year, it was
generally possible to purchase necessary replacement power on the spot wholesale
market at reasonable costs. Last summer, a cracked steam header at one of our
plants took a week to repair. Replacement power cost us $11 million, or about six
times what it would have cost us to generate the power ourselves. The current fu-
tures markets suggest a similar incident this summer could well cost us over $30
million for a single week. This is not a functional wholesale market.
As a result of these unreasonable wholesale increases, electric consumers in Colo-
rado and throughout the West face skyrocketing utility bills. Further, we believe
that the economy of our city, our state, our region and even our entire nation will
115
feel its effects. This situation has reached a crisis level and calls for the involvement
of the federal government.
Many theories exist to explain the specific reasons that wholesale prices have in-
creased so dramatically. Generally however, the consensus seems to be that the
problem is a result of a combination of factors, including: scarcity in terms of gen-
eration capacity due to aging facilities; transmission delivery systems with inad-
equate capacity and the existence of bottlenecks; imperfect market structure at the
wholesale level and, in the case of California, the retail level, and; market abuses
by energy providers who have taken advantage of narrow supply margins to price
gouge consumers. Certainly one could argue about the relative weight and impact
of each of those factors and there are, no doubt, other factors here left unmentioned.
What is important however, is that the price increases have resulted in consumers
being forced to pay unjust and unreasonable amounts for electricity. Those who are
low income or on fixed incomes, the elderly, and non-profit organizations and small
businesses with narrow operating margins have been particularly hard hit. If noth-
ing is done, the situation will grow far worse this summer.
The legislation being considered today is crucial precisely because it can provide
some measure of relief to those consumers. By granting to regulators the authority
to implement rate caps on the wholesale price of electricity, the dramatic fluctua-
tions we have seen recently in wholesale electricity prices can be mitigated. That
leveling off of wholesale prices that is the desired result of the legislation will, in
turn, lead to some relief for the retail consumers. Opponents of rate caps may argue
that such caps could serve as a disincentive to the construction of new generation.
However, I believe the proposed legislation addresses that argument by expressly
allowing the rate caps to include a reasonable rate of return that would continue
to provide an incentive for the construction of new generation capacity. Only unjust
and unreasonable rates would be affected by this legislation. In fact, many compa-
nies that saw fit to add generation in the past made healthy profits for decades at
prices far below current levels.
The rate caps proposed in this legislation are being advocated precisely because
electric wholesale prices in the West have become unreasonable and unjust and it
is clear that consumer price gouging is occurring. In fact, the Federal Energy Regu-
latory Commission has previously concluded, in an order issued on November 1,
2000, that prices in California and the western energy market were unjust and un-
reasonable. In the short term, the only means available to protect consumers from
price gouging is to implement rate caps. Ultimately, additional generation and
transmission capacity will have to be developed to bring stability to the wholesale
market, but todays prices are not necessary to justify such construction.
Another issue I would like to briefly address is reliability. It is critical that in ad-
dressing the pricing problems of the wholesale electricity market, Congress not in-
advertently impair electric reliability. Congress should ensure that any measures it
implements for the purpose of solving the electric wholesale problems not create
conditions which would result in a reduction in the availability of power in the
West. The laws of physics do not necessarily recognize state boundaries. Imposition
of a cap in one part of the Western grid but not in others could have severe unin-
tended operational consequences.
Colorado Springs Utilities supports the concept of temporary electric wholesale
rate caps as a means to protect consumers from market abuses and bring prices
under control. I urge the Committee to act quickly in moving legislation to address
the current wholesale crisis.

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Senate Hearing, 107TH Congress - Electricity Rates

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S. HRG.

MARCH 15, 2001

Printed for the use of the

U.S. GOVERNMENT PRINTING OFFICE

For sale by the U.S. Government Printing Office

BRIAN P. MALNAK, Staff Director

THURSDAY, MARCH 15, 2001

unique to California by any means. The Wall Street Journal sug-

wholesale electricity. Now, that basically takes the authority from

roughly from Maine to Florida, look at the moratoriums that exist

However, I hasten to add, Mr. Chairman, that I am fundamen-

find that any rate, charge, or classification demanded, observed,

transportation and commodity components of the bundled rate for

So, I am obviously like all of us on this committee, Mr. Chair-

STATEMENT OF HON. MARY L. LANDRIEU, U.S. SENATOR

STATEMENT OF HON. MARIA CANTWELL, U.S. SENATOR

BPA is predicting more than a 45 percent water flow shortfall

STATEMENT OF HON. CONRAD BURNS, U.S. SENATOR

there is a power shortage. Now, that told me we have got some

Secretary ABRAHAM. Mr. Chairman and members of the commit-

This administration is absolutely and certainly concerned about

tricity markets, reduction in electricity supply, shifts in electricity

As everyone knows, California is in the middle of a serious electricity crisis. Over

administration feel there is actually a very significant possibility of

uation that seems to be working, at least in the realm of price caps

tion of the Federal Government ultimately if California ratepayers

ommending that. I think it would have the same negative effect to

Secretary ABRAHAM. Let me begin by saying that our position is

Secretary ABRAHAM. Can I just comment on that, though? The

providers refusing to sell at the same levels because of price caps

Now, what do we do about prices? That is a separate issue. It

We are doing our best to try to address that. We hope to have

Secretary ABRAHAM. I believe that there is a process by which

Secretary ABRAHAM. At this point, as we examine a variety of op-

So, I am sympathetic to the problem. I know that it is a very dif-

supply and investment and make things worse. But I do suggest

Secretary ABRAHAM. Senator, I would just say that since I took

STATEMENT OF HON. GARY LOCKE, GOVERNOR,

The Bonneville Power Administration has already announced

prices regionally will take away individual States flexibility to ad-

confident that market-based solutions offer the most efficient way

Mr. Chairman and Members of the Committee:

Some advocate price caps or cost-based limitations as a temporary way to protect

The Commission remains willing to work in a cooperative and constructive man-

The CHAIRMAN. Why have you not moved on it sooner?

we normally do in the wintertime, it has caused considerable angst

Mr. HE BERT. Senator, what we decided, consistent with what I

tioned in this. Idaho is under the same circumstance, as is Mon-

Mr. HE BERT. I would do that, Senator Craig. What I will make

sential, and we will try to limit every witness to about 5 minutes

ator Feinstein described as stability and reliability, to bring to-

STATEMENT OF STEPHEN L. BAUM, CHAIRMAN, PRESIDENT

will bring new generation. I completely agree with John Bryson

STATEMENT OF BRUCE WORTHINGTON, SENIOR VICE PRESI-

Senator Feinstein, I want to really acknowledge your concern

approximately $2 billion more. As I speak today, we are developing

STATEMENT OF STEVEN M. FETTER, MANAGING DIRECTOR,

To the extent possible, under a competitive framework, it is im-