GAO-01-870R California Electricity Market

United States General Accounting Office

Washington, DC 20548

June 29, 2001

The Honorable Stephen Horn

Chairman, Subcommittee on Government

 Efficiency, Financial Management and

 Intergovernmental Relations

Committee on Government Reform

House of Representatives

Subject: California Electricity Market: Outlook for Summer 2001

Dear Mr. Chairman:

The electricity industry is restructuring throughout the United States and in other

countries around the world to be more competitive. However, some restructuring

efforts have exhibited problems during this transition. Beginning in May 2000,

restructured electricity markets in California experienced unprecedented disruptions.

Since that time, California and the West have witnessed extraordinarily high

wholesale prices and sharp limitations on the availability of electricity. In California,

these high prices have led to financial problems for the state's utilities, widespread

power outages, and rate increases. In other states across the West, the high prices

have also led to impacts including rate increases for consumers. These price and

reliability problems have persisted through the winter and spring and are expected to

worsen during the summer of 2001.

Concerned about the availability and reliability of electric power in California, you

asked for our assessment of the outlook for California’s electricity supplies this

summer. We briefed your staff on the results of our work on May 10, 2001. This

report summarizes those results.

Background: Restructuring Is Changing Electricity Markets in California

and Across the United States

The electricity industry and its markets are undergoing substantial change in

California and across the United States. Historically, the U.S. electricity industry has

been highly regulated. The federal government has regulated interstate wholesale

sales and transmission of electricity, while the states have regulated retail markets by

planning for demand growth, reviewing and approving costs, and establishing rates of

return with public involvement throughout the process. Under this system, federal

regulators approved wholesale electricity prices while state regulators set retail

electricity prices. In contrast, with the movement to restructure the electricity
2 GAO-01-870R California Electricity Market

industry, prices will eventually be based on markets and no longer set by regulators.

In states such as California, electricity companies may now build power plants

without the approval of state electricity commissions, although other approvals, such

as those for environmental and other siting matters are still necessary. However,

companies choosing to build these power plants are no longer guaranteed repayment

of the costs of building them. In California and elsewhere, restructured markets

increasingly involve multistate suppliers competing for customers and market share

through a network of regional electricity transmission interconnections extending

across multiple states. This increased emphasis on markets and competition has, in

some measure, reduced the transparency of market transactions, costs, and revenues

as well as public involvement in the process.

GAO Unable to Provide Independent Outlook for the Summer of 2001; Other

Studies Have Mixed Projections

In summary, due to lack of timely direct access to key information and limitations in

other data, we are not able to provide our own assessment of the likely conditions in

California this summer. In order to make an independent, reliable assessment we

would need access to data underlying key supply and demand factors, such as power

plant outages (i.e., plants that are not available to generate and sell electricity) and

electricity supplies that could be imported into California. Furthermore, we found

that existing forecasts of California’s electricity market show stark differences in the

expected conditions this summer. For example, studies by California’s Energy

Commission, the California Independent System Operator (ISO—the entity that

manages most of the California electricity system), and the North American Electric

Reliability Council1

 (NERC) have drawn widely different conclusions—ranging from a

surplus of 10,600 megawatts (MW) to a shortage of about 13,000 MW. Without

conducting our own assessment, we are unable to meaningfully narrow this

considerable range of estimates.

Lack of Access to Key Information and Data Limitations Prevented Us From Making

an Assessment

During the course of our work, we were unable to obtain detailed supply and demand

information and thus could not assess the likely summer 2001 conditions. We

requested this information from entities including the Office of the Governor of

California, the California Energy Commission, the California ISO, and the California

PUC but were provided only general information.

While there is general agreement about the historical demand factors that are

important in estimating California’ s electricity needs, recent events could alter these

historical relationships. In the past, electricity demand has been largely a function of

known factors, such as temperature and overall economic activity. However, several

programs have recently been initiated to reduce demand on the state's electricity

 1

 NERC, among other things, evaluates and reviews the reliability of existing and planned generation

and transmission systems. NERC operates as a voluntary organization of electricity suppliers and

owners of transmission systems.
3 GAO-01-870R California Electricity Market

system. For example, in public statements by the Governor and during our meetings

with his senior staff, these officials said that consumers in the state will reduce

demand by 10 percent or more in response to public information announcements and

state conservation programs. In addition, the California PUC, in March and May 2001,

increased electricity rates to many customers in the state. In order to make an

accurate and reliable assessment of the demand for electricity in the state it would be

necessary to incorporate demand reduction by consumers in response to these

conservation programs and the recent rate increases. We attempted to develop an

understanding of the potential influence of key energy conservation measures put

into place by the state of California but state officials did not respond to numerous

requests for information about these programs and the markets that they are

expected to influence. We also attempted to determine the likely impact of the recent

rate increases in the state on electricity demand, but the PUC was not able to provide

information on how rates would increase for various customers in California because

the issue had not yet been resolved.

Experts disagree on the likely contributions of the various electricity supply factors

during this summer. These supply factors include power plant outages, contracts to

purchase electricity, electricity supplies that could be imported into California,

anticipated environmental and other limitations on electrical generation from

hydroelectric and other energy sources, and new plant additions. Recently, some of

these factors have varied considerably from their historical pattern and thus could

have a significant impact on the electricity supply outlook for this summer. For

example, power plant outages (the aggregate generating capacity unavailable to

supply electricity) have increased four-fold over the past year compared with historic

averages and were as high as 11,000 MW in December 2000. This represents roughly

25 percent of California’s peak electricity demand of about 48,000 MW. To assess

available supply, we asked the California ISO for detailed information about these

outages, but only general information was provided because the information was

considered proprietary.

Contracts to purchase electric power are also important in understanding available

supplies. As a result of the deterioration in the financial condition of the state's

utilities, and other factors, California is now the primary purchaser of electricity for

the state's customers. Since January 2001, the state has been in the process of

signing multiyear contracts to purchase electricity. To help us conduct an

assessment for this summer, we made several requests for these contracts to help us

determine the proportion of summer demand that the state has under contract and

under what terms and conditions. However, officials with the Office of the Governor

did not provide the requested information. Despite our assurances of confidentiality,

these officials express concerns that if such information was made publicly available

it could jeopardize future contract negotiations.

Similarly, we were unable to develop our own assessment of how electricity imports

from other states could affect the situation in California due to limitations with the

scope of data that is collected and maintained by states. State agency officials in

several neighboring states told us they believe they have a good understanding of

their respective overall electricity situation. However, they said that they generally
4 GAO-01-870R California Electricity Market

did not maintain readily available details or databases on certain aspects of their

electricity situation, such as the amount of imports and exports of electricity

transmitted into and out of the state. For example, officials from several states told

us that they did not regularly collect data that would enable them to make a detailed

assessment of how much electricity could be available for export to California. These

state officials said that such details could be made available to the state if needed, but

that they would have to collect it from the utilities and other power plant generators

in the state. These state officials also said that the type of information state

governments need has been changing as the electricity industry has restructured.

Given the importance of imports to California's electricity market—they account for

about 20 percent of annual supplies—information on available exports from

neighboring states is critical to an assessment of the state's electricity supply

situation.

Other Assessments Present Wide Range of Estimates of Summer Conditions

Assessments by the California Energy Commission, the California ISO, and the North

American Electric Reliability Council range from a surplus of 10,600 MW to a

shortage of 13,000 MW as the potential market conditions for California in the

summer of 2001. The state of California in its November 2000 forecast, the most

recent that the state would provide to us, predicted that there would be surplus

capacity of between 1,900 MW and 10,600 MW. Although we made numerous

requests for an updated assessment, state officials did not provide one. According to

electricity industry experts we spoke with, some of the key assumptions used to

develop this assessment no longer reflect the likely summer conditions. For

example, the state assumed that the ISO would be able to reduce overall demand on

the electricity system by discontinuing service to some "interruptible" customers (i.e.,

customers who are charged a lower rate in exchange for agreeing to allow the ISO to

discontinue service a certain number of hours per year during times of high demand).

However, according to these experts, because of extensive interruptions in service to

these customers during the winter of 2000/2001, this program will not be able to

curtail service to these customers during the summer. A second forecast, prepared

by the California ISO in March 2001, estimated shortages ranging from 700 MW to

3,600 MW. This forecast used less optimistic assumptions regarding summer

electricity supplies, with the most pressing shortages occurring during June and July.

A third forecast, prepared by NERC in May 2001, estimated that California would

most likely face shortages of between 4,500 MW and 5,500 MW and outages during

260 hours of the summer, with possible shortages of up to 13,000 MW under some

conditions. In developing this forecast, NERC used even less optimistic assumptions

regarding key supply factors, including power plant outages, reductions in the

availability of in-state hydroelectric power, electricity imports from neighboring

states, and new power plants coming on line. In total, these four factors accounted

for a variation of as much as 10,100 MW from the state's own estimate. However, this

forecast also incorporated about 3,200 MW of demand reduction from conservation

programs and consumer response to rate increases.

While each of these estimates relied on similar information, they drew widely

different conclusions about likely market conditions in California. In general, these
5 GAO-01-870R California Electricity Market

three forecasts relied on substantially similar estimates of likely peak summer

demand (that is, the highest level of electricity demand during the summer).

However, there were significant differences in estimates of key supply factors. The

range in these various estimates would have sharply different effects on the state of

California and its consumers. For example, under one analysis the state would have

over 10,600 MW of surplus capacity and consumers would not experience any

disruptions, while another calls for substantial shortfalls in availability of electricity

to the state and the possibility of outages for the equivalent of 13 million homes. We

were unable to meaningfully narrow the discrepancies in these estimates.

Conclusions

Lack of access to information and limitations associated with information that was

available constrained our analysis. Throughout the course of our work we made

numerous requests for detailed information and data, but only general information

was provided. The general information was not adequate to allow us to draw our

own conclusions regarding how individual supply and demand factors would likely

affect California’s electricity market nor for us to provide an overall assessment of

the market this summer. With the increased emphasis on company-to-company

competition, information vital to performing detailed analyses may increasingly be

considered confidential, proprietary, or commercially sensitive and, as a result might

not always be made available to us. This comes at a time when electricity markets

are evolving in such a way that the effects of the California electricity situation may

have far-reaching implications for companies, organizations, and people far outside

the state’s borders.

Scope and Methodology

In attempting to develop our own assessment of the summer of 2001, we (1)

discussed the outlook for several key supply and demand factors with the Office of

the Governor of California, the California Energy Commission, the California

Electricity Oversight Board, the California Air Resources Board, the California Public

Utilities Commission, the California ISO, NERC, officials from western state

governments, and other industry experts; (2) made numerous requests for analysis

and data from the Office of the Governor, the California Department of Water

Resources, the California Energy Commission, and NERC; (3) reviewed other data

maintained by the Department of Energy's Energy Information Administration, the

Federal Energy Regulatory Commission, the National Oceanic and Atmospheric

Administration, and other federal agencies; (4) discussed the likely summer

conditions and the California electricity market with the Federal Energy Regulatory

Commission and industry experts; and (5) discussed possible alternative data sources

with industry experts.

To describe the assessments of the summer of 2001, we reviewed reports prepared by

the state of California Energy Commission, the California ISO, and NERC. We also

discussed these findings with the staff of the California Energy Commission and the

California ISO. We conducted our review from March through May 2001 in

accordance with generally accepted government auditing standards.
6 GAO-01-870R California Electricity Market

- - - -

Unless you publicly announce its contents earlier, we plan no further distribution of

this report until 14 days after the date of this letter. At that time, we will send copies

of this letter to appropriate congressional committees and interested Members of

Congress. This letter will also be available on GAO's home page at

http://www.gao.gov.

If you have any questions about this letter or need additional information, please call

me on (202) 512-3841 or Daniel Haas on (202) 512-3841. Other key contributors to

this report were Richard Iager, Jon Ludwigson, Frank Rusco, and Barbara

Timmerman.

Sincerely yours,

Jim Wells

Director, Natural Resources

 and Environment

(360040)