Man Without Qualities

Friday, March 28, 2003

Chump Change II: Herr Doktorprofessor Autobackpats

The FERC is now proposing to increase modestly the $1.8 Billion California energy refund already recommended by an administrative judge and termed a "pittance" by Governor Gray Davis, mostly adopt that judge's findings (findings which were considered a disaster by that same Governor) and has produced a staff report that says (page ES-1):

While Staff found significant market manipulation, this evidence does not alter the Commission’s original conclusion, set forth in its December 15, 2000 Order, that significant supply shortfalls and a fatally flawed market design were the root causes of the California market meltdown.

But Paul Krugman today writes about this same FERC action:

There's no longer any doubt: California's power shortages were largely artificial, created by energy companies to drive up prices and profits. ... I am patting myself on the back for getting it right.

Herr Doktorprofessor keeps bouncing matters off Vice President Cheney's energy report:

The Cheney task force ... concluded, in brief, that the energy crisis was a long-term problem caused by meddling bureaucrats and pesky environmentalists, who weren't letting big companies do what needed to be done. ... For we now know that everything Mr. Cheney said was wrong.

Well, most supply shortfalls and a fatally flawed market design [that] were the root causes of the California market meltdown, sure seem to be caused by meddling bureaucrats and pesky environmentalists. [Herr Doktorprofessor also tosses in a line about "corporate welfare" - but since it's not worth even a sentence to him to explain what he means by that, I will also bypass it as irrelevant.] Indeed, one of California's major power companies is still in Chapter 11 precisely because the stupid regulatory system made it absorb huge increases in wholesale energy the root cause of which the FERC continues to find were supply shortfalls and a fatally flawed market design - not manipulation. The Cheney Report cited California's then-ongoing energy shortages as indicating the national need for increased energy supply and a rationalized energy market structure - and warned of the long term adverse consequences of price controls. So the main Cheney report findings all seem to be consistent with the FERC's findings.

It is also true that Mr. Cheney and his committee did not detect the "manipulation" that the FERC finds. But while the FERC report agrees that the California energy market was likely subject to manipulation, the "manipulative" devices the FERC finds involved natural gas trading - not the electricity trading that Herr Doktorprofessor previously described as the "smoking gun:"

The significance of the "smoking gun" Enron memos that came to light a few days ago is that they show exactly how swell those power executives really were. It turns out that Enron was indeed rigging the markets, with schemes that had smart-alecky nicknames like Fat Boy, Death Star and Get Shorty. Who said business isn't fun?

The new FERC report does not seem to back off from the Commission's prior conclusions that most "abusive" electricity trading practices did not affect prices much - even if they did violate the applicable tariffs, and were therefore not "just and reasonable" to the extent of such violations, thereby requiring Mr. Davis' "pittance" of refunds. But if I understand its staff report correctly, the FERC believes that gas trading devices indirectly affected the market for electricity since electricity was often priced by reference to gas prices. So did Herr Doktorprofessor "get it right?" The FERC says both of Messrs. Cheney and Krugman were wrong in part: Mr. Cheney did not detect manipulation where it existed, and Herr Doktorprofessor saw it everywhere, even where it didn't exist. But Mr. Cheney is not now misrepresenting his prior misunderstanding, but Herr Doktorprofessor is. Further, the FERC findings are based on technical interpretations of the "anti-gaming" provisions of the relevant "energy tariffs." This is a legal matter - not an economic matter. Herr Doktorprofessor seems to be bragging that he knows how to construe the language of those tariffs - indeed his prior column on "Fat Boy" etc. admitted that the legal memo he considered there was key evidence. Goody. I had thought his was an economic analysis - but now it appears he moonlights as an associate lawyer. Perhaps he's smarting from his last turn as a law firm associate, when he asserted, "Mr. Cheney, in clear defiance of the law, has refused to release any information about his task force's deliberations; what is he hiding?" - where the courts construed the "clear" law quite otherwise.

Herr Doktorprofessor Krugman declares the California "crisis" to have abated because of "energy conservation and price controls." But this is absurd. California always had access to energy - the "crisis" resulted from its reluctance to accept the high cost of that available energy. The "crisis" abated when California agreed to pay a lot for a lot of energy - and the weather changed. California energy prices are now still punishingly high - and are probably going to get a lot worse in the long term - exactly because there are so many regulatory problems to building plants and distribution systems, many of them simple NIMBY effects. Can this long-term crisis identified by Mr. Cheney be solved by "energy conservation and price controls?" Well, most good economists would not consider "conservation" brought on by what appears to be much higher energy prices than an efficient market would produce - which is what the FERC is saying we have here in California - to be a "solution." Unlike Herr Doktorprofessor, they would call that a long-term "problem" - maybe even a "crisis." For example. Vernon Smith, the 2002 winner of the Nobel Prize in economics seems to rather pointedly disagree with Herr Doktorprofessor's explanations, but seems to mostly agree with Mr. Cheney: Foremost among the recent burnouts was, of course, the plight in California. But the crisis is not one of energy; it is a crisis in bad market design.

Perhaps the biggest mystery buried in this lump of Krugmania is why Herr Doktorprofessor thinks the current FERC action is something big, new and a vindication. Of course, his focus in this column continues to prove the correctness of his famous prediction of January 29, 2002 ("I predict that in the years ahead Enron, not Sept. 11, will come to be seen as the greater turning point in U.S. society."), if it is construed as a statement of his personal policy to ignore the major economic facts of the day if they are related to September 11 (in this case, the entire Iraq war) in favor of even minor Enron blips. But, look here, these FERC actions are not even final - the energy companies will have a chance to refute what the FERC is saying here and have already signaled that they will. Last December Federal Administrative Judge Birchman issued his findings and ordered various energy companies to refund $1.8 Billion. Because the total amount owed by California to suppliers is $3.0 billion, after the refund offsets California would still owe its suppliers $1.2 billion. The present FERC action would eliminate the need for either side to make further substantial payments to the other. Governor Gray Davis said about the $1.8 Billion refund: "They threw out just about everything we could claim and the amount we got back was a pittance." Loretta Lynch, president of the state Public Utilities Commission, called the refund amount "a slap on the wrist." Judge Birchman's decision was widely considered a defeat for California, and the Los Angeles Times, for example, reported that California was doubtful even the $1.8 Billion refund would be confirmed by the FERC and also reported that Wall Street analysts are betting that the regulatory commission will order no more than $3 billion or $4 billion in refunds and will order California to honor the power contracts it signed in early 2001.

Herr Doktorprofessor is crowing because two days ago the Federal Energy Regulatory Commission proposed adopting most of the Birchman finding, but using a somewhat different method of computing what the price of natural gas should have been than Judge Birchman did, which may raise the amount of the refund - $3 Billion is a number cited as a possible outcome. If that figure is correct, it would be about what Wall Street had anticipated as the worst that would probably happen, and be only one-third of what the $9 Billion refund that California government has been claiming (in fact, State officials have sometimes claimed that power sellers overcharged California energy users by as much as $30 billion during the 2000-01 energy crisis). But even that $3 Billion figure is likely high - energy suppliers mostly disagree with the FERC, which will hold hearings to listen to them, and, as noted in the prior post on this subject, the increase in the refund is expected to be in the millions - not billions. And it does not appear that the FERC is going to void or force the renegotiation of those hugely expensive energy supply contracts that Governor Davis's administration signed to get power into the state. Still, the FERC's confirmation of (and possible modest increase in) Judge Birchman's methodology and refund was enough to set the energy suppliers' stock prices down substantially.

Another interesting aspect of the FERC staff report is its central focus on Enron: Staff concludes that large-volume, rapid-fire trading by a single company, in what was incorrectly assumed to be a liquid market, substantially increased natural gas prices in California.

As I have noted before, Enron has failed and is bankrupt and demonized. Nobody much argues Enron's case any longer - even Enron's current management is at pains to blame their predecessors and distance themselves from prior methods. How confident does one feel of a conviction in abstentia? Even Herr Doktorprofessor understood this when he wrote: If Enron hadn't lost its clout by going bankrupt, you can be sure that we would never have heard about Fat Boy and Death Star. Assuming that the FERC is right about Enron, the FERC approach seems to anything but suggest that Herr Doktorprofessor "got it right" when he wrote:

The great risk now is that this will be treated purely as an Enron story. That's wrong; Enron was mainly a trader rather than a power producer, and as such could have only limited impact on electricity prices. The bigger story involves market manipulation by a number of producers. The circumstantial evidence for that manipulation is overwhelming.

Herr Doktorprofessor says the FERC vindicates him. But FERC actually finds the problems that may require FERC to increase the "pittance" awarded by Judge Birchman were caused by large-volume, rapid-fire trading by a single company - Enron. While other companies are named as "manipulators," Enron is clearly featured by the FERC as the Great Satan that gathered all the other Satans about it.

On the whole, since I want my lights to stay on here in Los Angeles without the need to mortgage my house to pay the power bill, I prefer to pay attention to Mr. Cheney's report - not to Herr Doktorprofessor balletic autobackpats.

But anyone who really wants to understand the significance of the FERC actions will have to wait until Lynne Kiesling finds time to write it down.

UPDATE: Don Luskin has more. And he provides links to excellent deconstruction posts by Weidner and Maguire.

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