Contract Killings

How the state's contracts with crucial electric power providers actually encourage them to gouge us

Williams and AES say that symmetry is merely a coincidence, but it's a coincidence that happened to make them $10.8 million extra in a little more than three weeks' time by playing roulette with the reliability of the state's transmission grid.

But some experts say that, had the grid operator used common sense, Williams would have never been in a position to profit this way. The mistake: tying the reliability pacts to specific plants, when the ISO could have just required generators, which bought most of their plants in close proximity to one another, to pledge a specific amount of electricity in the "must-run" contracts. By contracting for specific "must-run" plants -- most of which are decades old and prone to breakdowns -- and not amounts of power, the grid operator seems to have all but ensured itself headaches related to the availability of its most crucial units.

The Utility Reform Network's Florio, who is so thoroughly immersed in the day-to-day crisis that he only has time to speak to reporters on his car phone during his daily commutes from San Francisco to Sacramento, finds the foolishness behind the reliability agreements baffling. "I've been trying to figure that one out," he says, reached somewhere on Interstate 80. "If you're contracting for a service, it's beyond me why you'd tie it to a specific piece of machinery."

Even Gary Ackerman, who represents power generators' interests, concedes it's "very possible" that the roots of AES's and Williams' conduct stem from the reliability contracts and the incentives they give power generators to game the market, and gouge consumers.


Frank Wolak's office at Stanford University has all the trappings of a conspiracy theorist's abode. The door is covered in scribbled-on, yellowing newspaper clippings about various market abuses and instances of monopoly behavior; amidst those clippings is a transcript of two airline officials discussing price fixing. And from the inside, rising up through the closed door, there's an angry voice, railing into a phone about the latest actions of federal regulators.

But what separates Wolak from conspiracy buffs, aside from his neatly tucked-in, well-starched appearance and Stanford pedigree, is this: As the chairman of the grid operator's independent Market Surveillance Committee, he's on a very short list of people who are not directly employed by the grid operator, federal regulators, or the state government, but who also get to see all of the state's electrical market data. When Wolak looks at reliability contracts, he sees exactly what he told the grid operator -- years ago -- that it would see if the reliability contract loophole remained unplugged.

And that sets him off.

"If I were a lawyer, it's the first thing I would have thought of," says Wolak, getting just loud enough to draw a glance or two from others around the noisy campus cafeteria in which he's sucking down a midafternoon cup of coffee. "I mean, think about it: Instead of the ISO saying that "I'm buying 450 megawatts of RMR energy and I don't care where it comes from,' they decide to designate specific units. ... And then FERC, as co-conspirator, rules that, when the RMR units go out, the replacements have to be paid as bid."

Wolak says he's told ISO negotiators about the still-gaping contract loophole. "But it's not like academia, where you write something down, and then it's OK," he says. "You've got to say it 50,000 times, or it just fades into oblivion."

Lawyers for the ISO say that considerations about specific megawatt amounts -- as opposed to entering into contracts with specific generators -- were considered and, in fact, shaped the current contracts. "In a way, they are based on megawatts," says Eric Hildebrandt, an ISO lawyer. "We started with a megawatt calculation, and then we looked at specific plants that could give us what we needed."

And it was the ISO's decision to contract with those specific plants that created the loophole that let power providers shut down "must-run" plants, and charge the utilities (and ratepayers) more than 10 times as much for electricity as the providers' "must-run" plants could charge.

Clearly, federal regulators saw the loophole in the "must-run" contracts when they forged the $8 million settlement with Williams/AES. The settlement forbids Williams from substituting market-price power for that to be provided by "must-run" plants for one year. After 12 months, of course, the loophole figures to be as open as ever, even for Williams and AES.

But the agreement also states that Williams and AES did nothing wrong. "While not an admission of any wrongdoing, Williams has taken action to ensure that no employee will in the future make any statement to [AES] that could be interpreted as inappropriately attempting to influence facility operations."

Perhaps most astonishing of all, the settlement does not extend the substitution prohibition to other power providers -- meaning that any of the other California plant owners that have both reliability plants and nonreliability plants can continue to exploit the loophole that every knowledgeable observer knows exists.

As William Massey, the one FERC member not appointed by President Bush, wrote in a tersely worded concurrence to the Williams/AES settlement: "Exercises of market power through withholding cause severe economic distortions and harm that are difficult, if not impossible, to rectify after the fact. Thus remedies for market misconduct must be comparably severe enough to act as a deterrent. ... In this respect, this settlement is not as strong as I would have preferred."

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