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76–811 PDF ★(STAR PRINT) 2002

S. HRG. 107–215

THE CALIFORNIA ENERGY CRISIS AND USE OF

THE DEFENSE PRODUCTION ACT

HEARING

BEFORE THE

COMMITTEE ON

BANKING, HOUSING, AND URBAN AFFAIRS

UNITED STATES SENATE

ONE HUNDRED SEVENTH CONGRESS

FIRST SESSION

ON

REVIEW OF THE DEFENSE PRODUCTION ACT IN RELATION TO THE

CALIFORNIA ENERGY CRISIS

FEBRUARY 9, 2001

Printed for the use of the Committee on Banking, Housing, and Urban Affairs

(

COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS

PHIL GRAMM, Texas, Chairman

RICHARD C. SHELBY, Alabama

ROBERT F. BENNETT, Utah

WAYNE ALLARD, Colorado

MICHAEL B. ENZI, Wyoming

CHUCK HAGEL, Nebraska

RICK SANTORUM, Pennsylvania

JIM BUNNING, Kentucky

MIKE CRAPO, Idaho

JOHN ENSIGN, Nevada

PAUL S. SARBANES, Maryland

CHRISTOPHER J. DODD, Connecticut

TIM JOHNSON, South Dakota

JACK REED, Rhode Island

CHARLES E. SCHUMER, New York

EVAN BAYH, Indiana

ZELL MILLER, Georgia

THOMAS R. CARPER, Delaware

DEBBIE STABENOW, Michigan

JON S. CORZINE, New Jersey

WAYNE A. ABERNATHY, Staff Director

STEVEN B. HARRIS, Democratic Staff Director and Chief Counsel

LINDA L. LORD, Chief Counsel

MICHAEL J. SOLON, Senior Financial Advisor

MARTIN J. GRUENBERG, Democratic Senior Counsel

GEORGE E. WHITTLE, Editor

(II)

CONTENTS

FRIDAY, FEBRUARY 9, 2001

Page

Opening statement of Chairman Gramm .............................................................. 1

Opening statements, comments, or prepared statements of:

Senator Enzi ..................................................................................................... 3

Prepared statement ................................................................................... 22

WITNESS

Eric J. Fygi, Acting General Counsel, The Department of Energy; and Paul

F. Carrier, Director, Office of Energy Emergencies U.S. Department of

Energy ................................................................................................................... 4

Prepared statement .......................................................................................... 23

Response to written questions of Senator Gramm ........................................ 27

ADDITIONAL MATERIAL SUPPLIED FOR THE RECORD

Prepared statement of Eli D. Bebout, Former Speaker of the Wyoming House

of Representatives, Past Chairman of the Energy Council .............................. 36

Letter and Attachments from Eric J. Fygi, Acting General Counsel, U.S.

Department of Energy, dated January 22, 2001 ............................................... 38

Letter from Senator Spencer Abraham, Secretary of Energy, dated

January 23, 2001 .................................................................................................. 43

Declaration from Kent M. Harvey, Senior Vice President, Treasurer, and

Chief Financial Officer, Pacific Gas & Electric Co., dated

January 12, 2001 .................................................................................................. 44

Letter and Attachments from Gray Davis, Governor of California, to President

William J. Clinton, dated January 13, 2001 ...................................................... 50

Letter and Attachments from Bill Richardson, Secretary of Energy, U.S.

Department of Energy, dated January 19, 2001 ............................................... 62

Letter from Erik N. Saltmarsh, Chief Counsel, California Electricity Oversight Board, to Richard Glick, Senior Policy Advisor to the Secretary, U.S.

Department of Energy, dated January 17, 2001 ............................................... 67

Letter from Gordon R. Smith, President and Chief Executive Officer, Pacific

Gas & Electric Co., to President William J. Clinton, dated

January 12, 2001 69

Letter from Gordon R. Smith, President and Chief Executive Officer, Pacific

Gas & Electric Co., to Gray Davis, Governor of California, dated

January 12, 2001 .................................................................................................. 73

Letter from Gordon R. Smith, President and Chief Executive Officer, Pacific

Gas & Electric Co., to Gray Davis, Governor of California, dated

January 9, 2001 .................................................................................................... 76

(III)

(1)

THE CALIFORNIA ENERGY CRISIS AND USE

OF THE DEFENSE PRODUCTION ACT

FRIDAY, FEBRUARY 9, 2001

U.S. SENATE, COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS, Washington, DC.

The Committee met at 10 a.m., in room SD–538 of the Dirksen

Senate Office Building, Senator Phil Gramm, (Chairman of the

Committee) presiding.

OPENING STATEMENT OF CHAIRMAN PHIL GRAMM

Chairman GRAMM. Let me call the Committee to order.

I want to thank our witnesses for coming today. Normally, this

early in the session, we do not have hearings on a Friday.

But I wanted to hold this hearing today because this Committee

is also the Economics Committee, and we have jurisdiction over the

Defense Production Act.

We have an opportunity today—in light of the use of the Defense

Production Act in the California energy crisis—to look at this act

as we begin the process this year of rewriting the Defense Production Act, rewriting it in an era when Ivan is not at the gate,

when the world is very different than it was in 1950—when Harry

Truman signed this bill into law and Ivan was very much at the

gate and we were beginning a life and death struggle with the

Soviet Union.

The Defense Production Act is the most powerful and potentially

dangerous American law, in my opinion.

It is a law—whether used correctly or not, I think we can judge

that—that was meant to give through legislation an embodiment of

the President’s powers under Article 2, Section 2 of the Constitution, which names the President, Commander in Chief.

In this extraordinary use of the Defense Production Act, the

President delegated authority to the Energy Secretary who, under

the authority of the Defense Production Act, forced suppliers to sell

to parties that they would not have supplied in the absence of the

use of the police power of the Federal Government.

The Federal Government issued an order that a sale be made

under conditions which the seller would never have agreed to in

the absence of the Federal Government’s order. The sale was at a

price that the seller would never have accepted under any ordinary

circumstances, and where there was no guarantee that the product—in this case, natural gas—would be paid for.

I am not aware that the natural gas has in fact been paid for.

And it seems to me that an issue that we have to look at in the

2

context of the Defense Production Act, if this natural gas should

not be paid for—and the Federal Government has ordered that it

be supplied under the provisions of the Fifth Amendment’s takings

provision—is whether the Federal Government, the Federal taxpayer, is obligated to make these payments?

In addition, I think there is a real question whether or not Section 101(a) and Section 101(c), that were cited by the President and

by the Secretary of Energy, actually apply to the circumstances in

California.

This is a very important issue. The Defense Production Act was

adopted during the Truman Administration, giving the President

tremendous economic powers. It was clear in looking at the context

of that debate, and the subsequent use of those powers, that Congress intended that those powers be used only in the case of emergencies that had clear national security implications. I deal in looking at the whole history of the Defense Production Act since its

inception in 1950, it has been used principally for defense purposes.

There have been two major exceptions, however.

One was Richard Nixon’s use of the Defense Production Act to

impose wage and price controls, after which Congress wisely repealed that provision of the law.

The second variance was its recent use in the last few weeks to

mandate the sale of natural gas against the business judgment of

the private sellers. That is what we are here to look at today.

I want to say publicly to our two distinguished witnesses what

I said privately. And that is, I am not here trying to exhume the

remains of the Clinton Administration.

What I am trying to do is to understand exactly how this powerful instrument was used, and potentially misused, as we look to rewrite this bill in the 107th Congress. And it is my intention that

we have an extensive rewrite of the Defense Production Act. I don’t

ever intend to see the act extended again without substantial revision and reexamination.

The world has simply changed too much to allow the Act to be

extended in its present form. What we want from our two witnesses, and what I am interested in here, is we take a long, hard,

dispassionate look at this decision, how it was implemented, what

the implications were, how it was used or misused and what that

says to us about rewriting this law.

That is the purpose of this hearing today. I want to thank our

two witnesses for coming, and I want to give our two colleagues

who have come on Friday, when the Senate is not in session, an

opportunity to speak and to thank them for being here.

I am especially grateful to our new colleague from New Jersey.

And let me ask Senator Corzine if he wants to make any opening

statement.

Senator CORZINE. Well, as I said the other day, I am a newcomer

to this and I will wait. But I think that this topic is one very well

worthwhile, making sure that we identify the proper application of

this law going forward.

And so I think this hearing provides that forum to discover those

and I look forward to working with the Chairman.

Thank you.

3

Chairman GRAMM. Well, thank you. And again, let me thank you

for coming.

Senator Enzi.

STATEMENT OF SENATOR MICHAEL B. ENZI

Senator ENZI. Thank you, Mr. Chairman. I am so pleased that

you are holding this hearing.

I have a statement that I would like to be in the record. But I

have a few comments that I want to make besides that.

Chairman GRAMM. If I can, let me just ask, I do not think anybody else is coming.

Senator Corzine, why don’t you come sit here, and when you finish your statement, Senator Enzi, why don’t you move up here.

But go ahead.

Senator ENZI. This hearing gives us an opportunity to look at the

impact that the Defense Production Act has on the Nation’s energy

market.

Now, I am from Wyoming, and Wyoming is upstream from California. And with some of the other laws, we kind of feel like there

is this giant straw sucking the water out of Wyoming.

This act has the same potential for doing that with the energy

of Wyoming.

When California suffers, Wyoming has to panic. It is a very real

fear, especially in light of the way that the Defense Production Act

places a superior priority on California energy delivery. It scares us

up our way.

I talked to my daughter in Laramie this morning. The temperature there is a minus 30 degrees, and they are using some energy

right now. They recognize that California needs energy, but we see

a pretty desperate need in Wyoming as well.

I cannot help but think that the real issue underlying this crisis

is that we have failed to develop a national energy policy.

Somehow, we have placed an idea that we could utilize technology and that would provide conservation, and we would not

need additional power.

I cannot understand why we do not think that same ingenuity

that produces technology that leads to conservation cannot lead to

clean energy as well.

This country is going to have to have some increasing levels of

energy if it is going to have the kind of continued growth that provides the jobs that the people in this country have come to rely on,

and the kind of increases in the economy that we depend on. So

we need to get to that national energy policy. We have to stop focusing on the symptoms and start dealing directly with the disease

and the short-term economic band-aids and artificially controlled

prices make the situation worse.

Our goals of establishing stability and prices that are truly market-based can only be reached by acting on a plan that allows us

to meet our own energy demands.

We have to work within the structure that has some rules with

it. So I am grateful that we are holding this hearing and hope that

we can save California and Wyoming.

Chairman GRAMM. Great. Let me welcome our two witnesses

today—Mr. Eric J. Fygi, who is Acting General Counsel of the DeVerDate 11-MAY-2000 09:33 Apr 10, 2002 Jkt 000000 PO 00000 Frm 00007 Fmt 6633 Sfmt 6633 76811.TXT SBANK4 PsN: SBANK4
4

partment of Energy, and Paul F. Carrier, who is Director of the Office of Energy Emergencies at the Department of Energy.

First, have I pronounced both your names correctly?

Mr. FYGI. Mr. Chairman, you did a remarkably accurate job,

much better than my contracts professor did in law school.

[Laughter.]

Chairman GRAMM. I appreciate that. I always ask people because

there is nothing worse than mispronouncing somebody’s name.

Let me first say that we are very happy that you are here today.

We want to give you an opportunity to present us with this case

study of what happened, when and how. And then we want to call

on your expertise to pose questions, again, with the goal of understanding what happened and deciding in rewriting this very powerful law, do we want to make changes in it?

Mr. Fygi, why don’t you start?

STATEMENT OF ERIC J. FYGI, ACTING GENERAL COUNSEL

ACCOMPANIED BY PAUL F. CARRIER, DIRECTOR

OFFICE OF ENERGY EMERGENCIES

U.S. DEPARTMENT OF ENERGY

Mr. FYGI. Mr. Chairman, with the Committee’s permission, I

would summarize briefly the major elements of our prepared statement and request that the entire prepared statement be included

in the record.

Chairman GRAMM. They will be printed in the record as if given.

Mr. FYGI. It is well to understand, in examining this subject in

the context of this case of the use of the Defense Production Act,

the circumstances in California that gave rise to developing the

case itself. And those circumstances, briefly stated, involved the

workings of the California electricity rate structure, in light of increased demand experienced by California utilities through the last

5 years in particular, a comparative shortfall in new capacity that

was less than a fifth of the increase in demand between 1996

through 1999, a rate cap in which the investor-owned utilities

under State law could not charge consumers more than approximately 7 cents a kilowatt, but an evolution of the unregulated

wholesale market, such that peak prices in that market were 30

cents, a kilowatt. That put the investor-owned utilities in a position

of selling at a loss. It put the investor-owned utilities ultimately in

a position where their very financial integrity continued to erode

throughout the late fall and early winter of last year.

That was the circumstance that first prompted alarm by the

California Independent System Operator and through which all

electricity virtually is made available to California consumers,

when generators became reluctant to sell to the ISO because of the

eroded financial posture of the ultimate purchasing utilities.

That is what prompted the issuance in December of emergency

orders under the Federal Power Act to maintain continuity of electric service in California and to avoid, if at all possible, a complete

degradation of the continuity of that electric service.

Beginning in January of this year, even though PG&E, the major

combined gas and electricity utility in northern California, was not

5

hamstrung in this rate structure governing its natural gas sales,

such that it, PG&E, could recover fully increased costs in the

wholesale natural gas that it purchased. Nonetheless, its financial

affairs were commingled with its electricity sales. It was a single

utility. And the degradation of its financial posture stemming from

the electric rate imbalance, coupled with the financial community’s

adverse reaction to the January 4, 2001, California Public Utilities

Commission action on PG&E’s emergency rate request, led to a

downgrading of PG&E’s credit rating by the major credit rating

agencies, like Moody’s and S&P.

Such that, eventually, PG&E’s debt was downgraded to low junk

status, according to the Reuter’s news account at the time, which

was the 16 of January.

By January 12, the senior management of PG&E had come to realize that it was confronted with a serious threat that as much as

40 percent of its gas volumes would be interrupted because the

vendors of those gas volumes were made apprehensive by PG&E’s

deteriorating financial situation, and they were positioning themselves either to terminate their deliveries to PG&E altogether, or

to demand financial rearrangements such as prepayments or thirdparty guarantees, that PG&E’s financial posture simply would not

permit it to grant.

PG&E’s financial posture was such by that time that it could not

acquire third-party guarantees, nor, in terms of management of its

cashflow, even though, ultimately, it would be compensated

through the tariffs from consumer revenues, it simply could not afford either to prepay or guarantee for all the volumes of gas that

it needed.

In light of these circumstances, on January 12, the chairman of

PG&E formally requested the President to invoke Federal emergency authorities to assure continuity to gas service through the

entirety of PG&E’s service area. That request was accompanied by

a detailed affidavit that set forth in particularity the circumstances

PG&E had experienced, which affidavit was sworn and executed by

PG&E’s chief financial officer.

The next day, Governor Davis formally requested President Clinton to invoke Federal emergency authorities in order to secure continuity of gas service in PG&E’s service territory. Governor Davis

represented in his letter that his own investigation of the circumstances had persuaded him that the threat was imminent of

such an interruption of service.

It was these circumstances that the department was confronted

with in early- to mid-January.

As our formal testimony indicates, senior departmental officials

from the last Administration, led by the Deputy Secretary, conducted several inquiries directly of PG&E management and operating personnel, better to understand the nature and immediacy of

the emergency.

The tenor of those inquiries often was skeptical. It was not one

that exhibited an eagerness on the part of the last Administration

to become embroiled directly in this further aspect of the whole

California matter so soon before it would be ending its term of office. Nonetheless, in the event, the policy judgment was made that

the circumstances required action with respect to PG&E’s conVerDate 11-MAY-2000 09:33 Apr 10, 2002 Jkt 000000 PO 00000 Frm 00009 Fmt 6633 Sfmt 6633 76811.TXT SBANK4 PsN: SBANK4
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tinuity of gas supply, similar in effect to what previously had been

done in December for the electricity supply throughout the State.

As you observed, Mr. Chairman, in your opening remarks, one of

the elements of that sort of regulatory approach, and it certainly

is a regulatory approach, involves the capacity to mandate sales by

vendors to a recipient entity.

The first legal authority that we examined when confronted with

the likelihood that some action would be necessary was the Natural

Gas Policy Act, which contains several emergency provisions that

were patterned after the Emergency Natural Gas Act of 1977.

Those emergency provisions, we concluded, were helpful. In fact,

they were of key importance. Yet, they did not provide the complete

remedy that seemed to be called for—the ability to compel the sale

by a vendor to the recipient—here, PG&E. That was the element

that was afforded by our resort to the Defense Production Act.

The Defense Production Act, even though relatively infrequently

employed in a prominent setting, has been an element of the inventory of energy agency authorities for a very long time—at least

back as far as the 1973–1974 Arab oil embargo, in which the Federal Energy Office and the Federal Energy Administration likewise

were delegated authorities under the Defense Production Act.

Moreover, the department’s predecessor, the Atomic Energy Commission, and, indeed, the department itself in the conduct of our

weapons program, had from time to time routinely used the Defense Production Act system of priority orders in the conduct of our

national security activities.

Moreover, the Defense Production Act, as it was amended in

1975 by the Energy Policy and Conservation Act, had a new dimension added to it specifically—that is the 101(c) authority—designed

to encourage—maximize, I think is the word—domestic energy production. So that contour of the Defense Production Act was relatively familiar to us. And given that in 1980, the Defense Production Act was further amended to have its basic statement of policy

expressly indicate that there was a direct link, generically, a direct

link between national defense and adequate energy supplies for national defense activities, the structure of the Defense Production

Act, when weighed against the facts that we were confronted with,

seemed handily to fit.

I say handily to fit because one of the important concerns we had

about continuity of natural gas supplies through PG&E’s system

involved the relationship between those natural gas supplies, that

flowing gas, and continuity of electricity generation by independent

electrical generators who happen to use PG&E’s transportation

network in order to feed their electric generators.

I am sure the Committee is aware, most electric generation, and

all new thermal fossil-fired electric generation in California, is natural gas-fired.

The reason this was an added concern is that, under California

law, if PG&E were confronted with a physical shortfall of available

natural gas volumes, such that PG&E could no longer service its

so-called core customers under California law—which means private individuals and small businesses, home heating, that sort of

thing—then, under PG&E’s tariff, it could, and probably would

have to, capture volumes of natural gas owned by others, not by

7

PG&E, but owned by others, that were then flowing through

PG&E’s pipes to the privately-owned electrical generation facilities.

In PG&E’s view, were that event to actually materialize, it would

take approximately 2 days before the owners of those volumes of

natural gas curtailed shipment through PG&E’s system and sold

those volumes of natural gas elsewhere, rather than having them

conscripted by PG&E under the California regime.

That scenario would have had an additional outage of potentially

significant electric generating capacity stemming directly from the

degradation of the volumes of natural gas available to PG&E to

carry out its normal servicing of its core customers. So there was

an interrelationship here.

The need for continuity of natural gas supplies to sustain electric

generation in PG&E’s service territory directly implicated, in our

view, the element of 101(c) of the Defense Production Act, which

authorizes resort to orders of priority performance of delivery of

goods to maximize energy production.

Moreover, the circumstances that obtained in PG&E’s service territory revealed that a number of military and other installations,

including NASA installations, are physically situated in PG&E’s

service territory. Mr. Chairman, as I am sure you are aware, the

word defense, as used with respect to Section 101(a) of the Defense

Production Act, is a defined term of art in the Defense Production

Act, which includes not only atomic energy activities, as well as

military activities, but also includes space activities. That is to say,

NASA functions.

We also felt that there was an apparent factual basis that rendered application of the Defense Production Act in this circumstance to be correct and appropriate as a matter of law.

I do not want to speak for the policy, but solely for our legal

analysis. And therefore, we formulated our legal approach as one

that combined the elements both of the Defense Production Act regime and the emergency natural gas authority’s regime under the

Natural Gas Policy Act.

In fact, President Clinton’s Memorandum that made the necessary emergency finding called for by the emergency provisions of

the Natural Gas Policy Act, likewise directed the energy secretary

also to employ the authorities of the Defense Production Act in

order to craft an appropriate regulatory near-term solution to this

emergency situation.

Mr. Chairman, I think that this summarizes the prepared statement that we have submitted, which, nonetheless, I hope the Committee will find useful as a resource document as it embarks upon

its review of the Defense Production Act.

I think it also is useful to recognize that our case study, so to

speak, deals with a profound and discrete emergency prompted by

the hitherto unexperienced circumstance where electric utilities

were actually suffering from negative operating cashflow. All utility

bankruptcies in recent years have involved embedded debt, historical matters. But as a matter of current operations, they were not

operating in a negative fashion.

This was truly an extraordinary circumstance prompted by a

combination of factors that we alluded to, together with how the

8

California regulatory structure worked in light of those factors that

necessitated resort to these emergency authorities.

And should the Committee have any questions, I will be pleased

to respond to them, or, if necessary, seek the assistance from my

colleague, Mr. Carrier, in doing so.

Thank you very much.

Chairman GRAMM. Well, Mr. Fygi, thank you very much for a

very good summary of what happened and the thinking that was

embodied in the use of the laws.

Mr. Carrier, would you like to add anything to what Mr. Fygi

has said?

Mr. CARRIER. No, Mr. Chairman. My comments have been included in the testimony filed by Mr. Fygi.

Chairman GRAMM. Well, let me, if I may, first of all, I want to

welcome our colleague from Michigan who has joined us.

Let me begin by asking a few questions.

First of all, let me make it clear that I am an economist and not

a lawyer.

We did have a rule—in the old days in Texas—that if you were

elected to the legislature and served, for a period of time, you could

apply and get a law degree.

I sometimes wonder, as long as I have been here, whether I

ought to apply and have the Supreme Court declare me a lawyer.

But I do know enough not to get into arguments with the real

thing. People generally don’t know enough not to get into economic

arguments with real economists.

But in any case——

[Laughter.]

What I want to do is understand how the law works, not in some

dusty old law book, but in practical application because that is

what we are dealing with.

I want to go through Section 101(a) and 101(c) of the Defense

Production Act and at least raise questions about applicability, and

then I would like to give both of you an opportunity to respond.

First of all, let me go back to the context of 1950 and the Defense

Production Act.

For those who have forgotten, in 1950, we were engaged in a

very desperate struggle in Korea. The North Koreans had invaded

the South. We had been driven back to the Cho San Peninsula. It

was very questionable whether we were going to be driven off the

peninsula.

We were very much in the midst of a conflict in a country that

was war-weary from World War II. And Congress, I think it is fair

to say, was frightened. And so, one of the manifestations of our

concern and, really, our commitment to engage in this 45-year

struggle with the Soviet Union, was the Defense Production Act.

But while Congress meant to give the President tremendous powers—no doubt about that—they also realized that this was a free

society and therefore, they wanted to place some real limits. And

so, let me begin with Section 101(a), and then pose a few questions

to you, if I may.

Section 101(a) authorizes the President to require priority performance of contracts or orders other than contracts of employVerDate 11-MAY-2000 09:33 Apr 10, 2002 Jkt 000000 PO 00000 Frm 00012 Fmt 6633 Sfmt 6633 76811.TXT SBANK4 PsN: SBANK4
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ment, by any person only if necessary to promote national defense,

the person required to perform the contract is capable of doing so.

Throughout, the language of 101(a), obviously, refers to the promotion of national defense. Then it comes down to a section that

seeks to set limits. One of the limits is that 101(a)’s authority

should be used, ‘‘only where necessary or appropriate to promote

national defense.’’ It should not be used to accomplish purposes,

however meritorious, which bear no relation to national defense.

Now, obviously, one of the things about the military industrial

complex is that anything affecting any area of the country almost

by definition affects something related to national defense.

But let me ask: Did the Department of Energy ever do any kind

of study of what the natural gas that was being ordered to be sold

would be used for, where it would be allocated, was any list ever

comprised of defense installations that would clearly be affected?

Mr. FYGI. We did receive a list of defense installations, including,

as I recall, a NASA facility.

Again, defense is a term of art in the DPA. It is a lot broader

than——

Chairman GRAMM. I would count NASA in there.

Mr. FYGI. Yes. So we did receive a list of those facilities that

were within PG&E’s service area.

Chairman GRAMM. But did that accompany any analysis of

where this natural gas would be used?

It seems to me the relevant question is not whether PG&E serviced an area that had defense establishments in it, but were these

natural gas supplies that were being ordered to be supplied under

conditions the supplier did not agree to, at prices they did not

agree to, with no guarantee of payment, was there ever any study

as to how that natural gas itself would be used in a way that would

supply critical energy to these defenses?

Mr. FYGI. The answer is no because that kind of analysis would

only have been called for under the structure of the Defense Production Act, had we resorted to the allocation authority rather than

the priority performance of existing contracts or new orders.

Chairman GRAMM. Well, let me raise the following question.

I have here a letter that was sent by PG&E to Governor Gray.

And my guess is that this is the letter that really triggered this request that came from the Governor to the President. On page 2 of

that letter, in the bottom paragraph, Gordon R. Smith—is he the

president of the company?

Mr. FYGI. He is the CEO of PG&E, which is the utility that we

are talking about.

Chairman GRAMM. Well, he says in this letter, on page 2, in the

bottom paragraph—This is a credit-based shortage, not a physical

supply shortage. There are sufficient gas supplies for delivery to

California as of today.

If we can believe the president of the company that wrote to the

governor, who relayed that request to the President—that there

was no shortage of natural gas, but, in fact, a credit-based shortage—I do not find anywhere in Section 101(a) any reference to

credit shortages, but, instead, only shortages of material supplies.

Let me first ask, do you agree with the president of the company

that credit is the real shortage?

10

And second, would you say that a credit shortage would qualify

under the Defense Production Act?

Mr. FYGI. I would agree with the characterization that the shortage of natural gas through PG&E’s system that it confronted was

induced by a credit crunch experienced by PG&E.

But in terms of the question whether, nonetheless, the emergency authority of the Natural Gas Policy Act and the authority of

the Defense Production Act are available to deal with the shortage,

to my mind, it makes no difference whether the shortage gets

prompted by a credit crunch or whether it is prompted by a strike

or other extrinsic factors such as transportation infrastructure

breakdowns and the like.

Chairman GRAMM. Let me read also from Section 101(c)—both

these sections were cited in triggering the Defense Production Act.

I think you said, but let me see whether you agree, that the

problem found by the President is that one NGPA, the Natural Gas

Policy Act, would allow the President to set the terms of a contract,

but it did not give the President the power to mandate that the gas

be sold or that the pipelines deliver it or that a price be accepted.

Those extraordinary powers, we do not have any dispute about

the fact that they came from the Defense Production Act.

Mr. FYGI. Correct.

Chairman GRAMM. Okay. Now, Section 101(c) authorizes the

President to require the allocation of or priority performance of

contracts or orders related to the supply of materials and equipment in order to maximize domestic energy production.

This authority cannot be used unless the President finds the following. That such supplies are scarce, critical and essential to

maintain exploration, production, refining, transportation, or conservation of energy supplies, or the construction and maintenance

of energy facilities.

And in going back and looking at legislative history on this, we

went back to Senate Report No. 26, which was issued in 1975. And

it says the following:

This provision was included in the title in an attempt to remedy

critical shortages and misallocations of pipe, pumps, drilling rigs,

roof bolts, which are currently plaguing energy production.

I do not see in Section 101(c), at least as the Senate tried to define what it was trying to do in Section 101(c), any reference to

natural gas. And I certainly don’t see any reference to a creditbased shortage.

Could I get your response to that?

Mr. FYGI. Of course. My first thought is that I am from the Justice Scalia school of thought. I look at the statute. And the legislative history is interesting, but it is not dispositive.

Second, I do not dispute at all the characterization and the likelihood that in 1975, among the things that were of concern to the

Senate and, indeed, the whole Congress, involved bottlenecking

and shortages of tubular goods.

There was another hearing during which then-Deputy Administrator Sawhill of the Federal Energy Office was testifying on this

point, attesting to the need to resolve bottlenecks in the availability

of tubular goods and drilling rigs.

Okay?

11

The answer, it seems to me, is a matter of statutory construction,

is that, certainly, the application of this authority to roof bolts

or tubular goods is not exclusive. And as a matter of statutory

construction, the more likely and plausible and defensible

construction, is that the use of the word ‘‘materials’’ in 101(c) is

intended to have the same reach of the use of the word ‘‘materials’’

in Section 101(a).

And it is the case that the original legislative history of the 1950

act indicated that in 101(a), the word ‘‘materials’’ included, for example, ‘‘petroleum’’ explicitly.

Petroleum is a lot closer to natural gas than roof bolts. And I

think that we would parse the statute in a fashion that corresponds to my description here.

Chairman GRAMM. Let me ask you the following question, and I

am not trying to trivialize this or in any way suggest what your

decision should have been.

But it seems to me that the danger of stepping over physical

shortage, and going back to this credit-based shortage, is that if

you take the approach that the inability of a purchaser to pay—

even though, as the president of the company said, there was not

a physical shortage of natural gas—by that construction, then

under this law as it is currently interpreted, in any circumstance

where there was no shortage of a product, but a major purchaser

of it on a regional basis—in this case, California—the President

would have the power under the Defense Production Act with no

physical shortage to come in and mandate supply simply because

the buyer was not credit-worthy.

I would like to get your reaction to this concern.

Mr. FYGI. I think my reaction to the concern is, first, at risk of

using a legal term, this was a Sui Generis situation.

Chairman GRAMM. Say again?

Mr. FYGI. Sui Generis. This is something truly unique.

We had hitherto never experienced a public utility that could not

match its operating expenses from the revenues that it was permitted to charge its rate-payers.

That was something new.

There have been utility bankruptcies before, but they did not involve this kind of problem.

Nonetheless, the nature of the function of the electric utility in

the portion of the State that comprises its service territory involves

clear public health and safety, as well as national security and national defense preparedness issues of the type that we previously

have addressed. And therefore, I think what the department and

what both Administrations now have been confronted by is a sobering prospect where the economics of the situation have created a

shortage. And where some intervention was necessary to avoid

what I think of as a run on the bank.

That is the kind of situation we had here, in my judgment, and

it is one that I believe that prompted earnest attention by people

at senior levels in both the last Administration and this Administration. I think that we are well on the way to resolving this whole

circumstance because the State of California is now grappling with

these larger questions that have prompted the difficulties.

12

And the utility, while still experiencing some difficulty, is able

now better to assure creditworthiness because the utility has used

the time that was afforded it by this 2-week period of an emergency intervention to secure California Public Utilities Commission

approval of something called securitization of its revenue stream

for natural gas sales. So that, on an objective standard, for natural

gas sales, one probably could conclude that the financial crisis for

the natural gas segment should be well under control.

If the question that you are putting to me is, do I think that

somehow this particular set of events standing alone is instructive

that there is a clear pathway toward potential abuse or extraordinary and unwarranted regulatory action, I think each person has

to make his own judgment of that question.

I can say that the facts here do not reveal in my judgment any

intention to cross that line.

Chairman GRAMM. I know my colleagues have questions, so let

me just pose a couple more questions and then I will yield.

Obviously, there was a real question about the ability of PG&E

to pay, which was the reason that the suppliers were unwilling to

supply absent the government mandate.

I am not aware that the payment has been made. Do you know?

Mr. FYGI. I can address that. The payment schedule that was

mandated by the order was what PG&E had traditionally employed

in all of its supply contracts by which it bought natural gas from

vendors, which was payment in full on the 25th day of the month

for the next prior month’s full month of deliveries. PG&E did pay

all its vendors on January 25 of this year for all of the deliveries

made in December.

December deliveries antedated the effectiveness of the order, but,

nonetheless, it seemed to me that the ability of PG&E then to

make that payment on schedule was instructive and was a good

omen of the likelihood that PG&E similarly will be able to adhere

to that payment schedule.

Chairman GRAMM. I am correct in saying, since we hadn’t gotten

to the 25th, they have not paid for this gas.

Mr. FYGI. Nor have they defaulted.

Chairman GRAMM. Okay. Now, let me ask you the question I

wanted to ask.

If they should default, given that the Federal Government mandated that the sale be made, would it be your legal opinion that

the Federal Government has a legal liability to pay for this gas?

Mr. FYGI. That is a much more complex question, I have found

from such review of it that I have done during this winter.

The Supreme Court case law indicates that each of these inquiries, whether there has been a regulatory taking, is an intently factbound one. And so, I do not know that we could discern until after

all the facts are in whether even some sort of default would have

yielded a compensable regulatory taking or whether it simply

would have fallen into the category of regulatory burdens that

nonetheless fall short of a compensable taking.

Chairman GRAMM. So you think it would be—it would be your

legal opinion if pressed right now, that it would be an open question as to whether the Federal Government and the taxpayer would

be liable.

13

Mr. FYGI. A fact-bound one. But it would be a legitimate issue.

Chairman GRAMM. You all have been very cooperative and I

want to thank you because, again, other committees may, through

their jurisdiction, want to talk about who screwed this up and

who’s to blame.

What we are trying to do in rewriting this law, is look at how

the law is functioning.

As you know, the President in 1994 set out a procedure for invoking these emergency powers—basically, a system of checks and

balances and findings. He then, in essence, waived those procedures using the same executive power.

And what we want to know is, what findings were made that

would comply with the original executive order or any requirements of the law?

Mr. FYGI. The thought that occurs to me in responding to that

question involves an introductory comment on one way you have

characterized the Defense Production Act, as one that is an emergency measure.

In fact, the Department of Justice, in its 1982 comprehensive examination of all emergency authorities available to the President

to deal with petroleum emergencies, indicated quite clearly at page

20 of that study that the Defense Production Act really is not an

emergency measure. It surely is available in emergencies. But the

normal application of the Defense Production Act involves, let’s

say, a stereotype.

I am the Acme Machine Tool Manufacturing Company and General Dynamics has a contract with the Air Force to build F–16’s.

My Acme machine tools are in high demand because Detroit is retooling. So General Dynamics issues me an order for my machine

tool and I say, sorry, General Dynamics. You are going to have to

wait till next year.

Get in the queue.

Well, the normal functioning of the Defense Production Act

would entail a procedure within the claiming agency, the Defense

Department here, and the Department of Commerce to make a

judgment whether to issue an order that would compel Acme to

service General Dynamics’ request before any other request. And

those events occur from time to time in the ordinary business of

government and the contracting for materials deemed necessary in

the defense effort. They also occur from time to time in major energy projects.

We had used, we found, this authority from 101(c) on several

occasions to aid in construction of the Alaska pipeline and on

other occasions to aid in securing equipment necessary to upgrade

the department’s strategic petroleum reserve storage facilities in

Louisiana and Texas.

So that, normally, the procedural constraints that tend to mitigate overbroad, perhaps even, arguably, abusive, employment of

the Defense Production Act, have this built-in bureaucratic process

that you have touched upon.

Here we were, in contrast, dealing with a true emergency where

time was of the essence.

14

And therefore, the President chose a different course in the mode

of delegating the Defense Production Act authorities in this case for

this purpose at this time.

Chairman GRAMM. Let me yield to my colleagues and I will want

to come back and just touch on a couple of things.

Senator Corzine.

Senator CORZINE. Thank you.

Chairman GRAMM. Again, let me thank everybody. There were

just some key principles that I felt we needed to get out and that

is why I ran over time.

Senator CORZINE. Thank you, Mr. Chairman. I thought the enlightenment of these 101(c) and 101(a) were terrific.

I would like to ask the question in the context of the DPA. It

seems like the fact connection to the defense and national security

interests are the key element to apply 101(a).

And it was not clear to me from the response to the Chairman’s

question whether that was more an anecdotal kind of connection

that drove the application of this particular act, or whether it was

specifics within the context of actual commercial transactions that

did not occur.

How did you all arrive at that?

Mr. FYGI. It was neither anecdotal nor retrospective. It was predictive and judgmental because the kind of factual findings we are

talking about here in the statute, they are, by necessity, ones that

are bound up in policy judgments.

In that sense, they are what we lawyers would call more like legislative facts than adjudicative facts. The case law seems pretty

instructive in that the President’s factual findings of this sort are

entitled to great deference by the courts.

In particular, the Justice Department’s 1982 Memorandum cited

the Supreme Court’s decision in the Algonquin SNG case, under

which the President’s findings that volumes of imported crude oil

were of such an amount and were being imported in such circumstances, as to threaten to impair the national security, was in

effect a judgmental one that the President was entitled to make

and the courts were not going to set it aside. And similarly, the

judgment that in a given instance, the interest of national defense

or the interest of maximizing domestic energy production require

resort to these authorities is a judgmental one.

Senator CORZINE. Okay. The other question I had is, I am presuming that Secretary Abraham, looking at these same set of facts,

drew the same conclusions that Secretary Richardson did.

Mr. FYGI. Secretary Abraham, with two full days of the new job

under his belt, instructed me to extend the existing orders.

The factual findings that I think we were speaking about a moment ago were those that were contained in President Clinton’s

Memorandum, executed on January 19. The duration of President

Clinton’s memorandum in terms of the yardstick of how long such

a declaration of emergency remaining in effect under the natural

gas authorities was 120 days.

Clearly, the President Clinton Memorandum still was legally in

effect if the new Administration wished to act pursuant to it.

Secretary Abraham did so and instructed me to see to it that the

order was extended for the duration that we have described.

15

Senator CORZINE. Acknowledging the 2 day timeframe, the acknowledgement of the circumstances were generally the same.

Mr. FYGI. Correct.

Senator CORZINE. Though from one judgment to the next.

Mr. FYGI. Correct.

Senator CORZINE. Thank you, Mr. Chairman.

Chairman GRAMM. Senator Enzi.

Senator ENZI. Thank you, Mr. Chairman.

I am actually going to ask three questions and ask them all at

the same time, so that if you do not have time within my timeframe to answer them——

Chairman GRAMM. Whatever timeframe you need to get them answered, take it.

Senator ENZI. Thank you, because there are three distinct things

that have come to mind partly as I have heard the testimony.

I mentioned in my opening statement that what we are treating

are the symptoms and we have to get back to treating the problem.

Symptoms might take care of things in the short-run, but I want

to suggest that they are going to escalate things in the short-run.

Most of the natural gas produced in this country is not produced

by big companies. It is produced by very small companies, almost

individuals that own companies.

They take the revenue that they get from the gas and they pay

for the cost of producing it, and at the same time, they begin the

production on another well. If something happens in that cashflow,

they go out of business, and I think probably the big companies

wind up with the gas.

They are not very comforted by the fact that, yes, they probably

will be paid, that maybe the February 25 date will be met, or that

maybe the Federal Government owes them money. If they are

forced to sell the gas and they are then faced with a long, drawnout battle to get the payment, they do not wind up being in business any more. And that collapses part of the economy in other

parts of the country. That is a great concern I have. I am interested in whether there are any plans by the Department of Energy

to make sure that these little bitty companies can continue to

produce the gas that this country needs, or if we are just turning

it over to the large companies?

Mr. FYGI. Well, I think you have raised a very, very good question. And I can assure you that, from my perspective, the last thing

in the world we wanted these orders to induce was any longer-term

diminution in the supply-side of the equation, including the viability of the small and independent producers that your question particularly was directed to.

Those kinds of issues, I think—that is, the issues embedded in

your question—are legitimate and of central importance in framing

a larger energy policy because I agree with you in that nothing

that was done in what we are testifying about today was a longterm cure for anything. Nor did it masquerade as such.

So I agree with you completely.

Senator ENZI. Thank you. And they are expecting somebody to

watch out for them, probably the people that are putting the pressure on it.

16

Maybe it will only force 10 percent of the people out of the gas

business, but if you happen to be that person, it is 100 percent of

your business and it is of tremendous concern to them.

The second thing that I am concerned about is getting some more

power plants. All of the power plant discussion that I am hearing,

particularly from California, is to do natural gas power plants.

I would hope that we are planning some kind of a process where

there is clean coal in the country now. That clean coal can be made

even cleaner. So there is some possibilities for producing with that.

In Wyoming, we are building power plants to take care of California and other States. I am not sure that Wyoming can do it by

itself. But I am concerned about this emphasis on using natural

gas for power plants.

I remember a town near us called Rapid City, South Dakota— it is a big city in South Dakota. Their power company was looking

at providing peaking power for winter power—a lot more furnaces,

fans operating, that sort of thing—to use natural gas to get heat

spread through the homes.

They were looking at winter peaking power.

The city did away with their plans to use natural gas because

they found that the peaking power—not the total power requirement, just the peaking power requirement—would require as much

natural gas as it took to heat Rapid City in winter with natural

gas. They did not consider that to be a good use of natural gas.

We are already seeing the price of natural gas in this country go from about $2.20 to somewhere up around $8. I suspect if we start

putting all of that gas into power plants, next year we will be looking at $16. I hear some comment that $16 is an unrealistic price,

if everything is going to natural gas, it is going to put a bigger

strain on the system than we have now and drive up the prices.

Is that the way you see it with power plants?

Mr. FYGI. Again, I think that the question you have posed should

be a central one in a coherent formulation and consideration of national energy policy debates.

I would observe, however, that just earlier this week, the department announced a clean coal cost-sharing project under previously

enacted legislative authority, so that the department is quite engaged in pursuit of seemingly promising clean coal initiatives that

might yield significantly widespread additional resort to coal as an

electric-generating fuel.

So that is the thought that occurs to me from your question.

Whether natural gas or some other fuel should be used for generating electricity, the way you put it, has an implication of a potential regulatory question lurking in the background. I think economists might debate whether a regulatory solution is the best way

to decide the highest and best use of natural gas volumes instead

of the marketplace.

Senator ENZI. With the potential for the use of this defense act,

it is a question the Nation better be looking at because I can see

ripples heading across the whole pond that will affect other parts

of the country and direct some of the same short-term solutions as

we are seeing here.

To bring it back more to the short-term solution, the relationship with this gas and power being needed for national defense.

17

And again, you can probably put this off on another agency because

I know that Defense is going through a process now of doing a

readiness evaluation, but it seems to me that it is pretty critical

that our defense facilities have some back-up. I was under the

impression that they had back-up energy supplies so that defense

installations were not put out of business by some kind of national terrorism.

Where the act requires it to be for defense, wouldn’t their ability

to use their power back-up kind of preclude the action that was

taken?

Mr. FYGI. Well, here, again, we are speaking of volumes of natural gas, not electric power, which lends itself more readily to

things like diesel generators for use in emergencies and the like.

So that, I am not aware of any defense installations that have

ready substitutes for the conventional natural gas service.

Senator ENZI. Okay. It was my understanding that some of that

natural gas was going to generate electricity.

Mr. FYGI. That is correct.

Chairman GRAMM. Would the Senator yield?

The issue, it seems to me, is as follows. We claim national defense implications because of the electric service area of PG&E.

We then allocate gas, which may or may not have been used to

generate electricity.

It is my understanding that the gas allocations for PG&E, obviously the G being gas in PG&E, are primarily to small users and

that the vast majority of defense installations and defense contractors would be buying gas directly and not through PG&E.

Did anybody ever look to see what national defense or NASA installations bought gas from PG&E?

Mr. FYGI. We were provided information on that subject.

Chairman GRAMM. You were or weren’t?

Mr. FYGI. We were. I am sorry. Yet, I do not parse the national

defense element of the legal equation in quite the same fashion as

your question seems to indicate. We considered it sufficient that

the presence of these installations in PG&E’s gas and electricity

service area directly implicated continuity of national defense functions that were dependent on continuity of service by PG&E as a

physically viable entity to deliver both gas and electricity.

Chairman GRAMM. Well, I would just like to note for the record

that Beall Air Force Base does have back-up power generation.

As far as we can determine, they do not buy gas from PG&E,

but it is delivered through their pipelines, which would not have

been affected.

Mr. FYGI. Actually, they would. Under our scenario, under our

high-apprehension scenario, if PG&E had not been able to receive

enough volumes of purchased gas to serve its so-called core customers—you know, the residences and the small businesses—then

PG&E would have to capture those volumes of gas that were independently being provided through PG&E’s system to the Beall Air

Force bases and 3M and other manufacturing facilities of the

world.

Chairman GRAMM. But——

18

Mr. FYGI. And that would have disrupted those industrial activities and would also have had the effect of eliminating electric generation capacity that was operating.

So it is all inter-woven to a very significant degree.

Chairman GRAMM. I guess it seems to me that—and we all have

a different view of this—if we were concerned about these facilities

and their war-making capacity, then we would have simply prevented PG&E from seizing gas that was not PG&E’s, but, instead,

was simply being transmitted through their pipelines.

Mr. FYGI. I think one can conclude safely that that was not the

entirety of the objective.

Senator ENZI. That is all my questions.

Chairman GRAMM. Senator Stabenow.

Senator STABENOW. Thank you, Mr. Chairman. I appreciate the

testimony this morning on a very serious topic.

I know that in Michigan, we are at the early stages of deregulation and watching very closely what is happened in California to

learn from the situation.

I also, Mr. Chairman, did want to indicate, noting that coming

in just a moment late to the Committee, that the only member that

I have more seniority over, Senator Corzine, jumped me in seniority this morning.

I am going to watch him extremely closely at every other meeting

to determine how he is using the fact that he has no seniority on

this Committee.

[Laughter.]

Senator CORZINE. Why, thank you.

[Laughter.]

Chairman GRAMM. Well, you do have to watch people.

[Laughter.]

Senator STABENOW. I am watching and I am learning, Mr. Chairman very quickly.

[Laughter.]

Chairman GRAMM. I was way down there and I got all the way

up here.

[Laughter.]

Senator STABENOW. I noticed that.

Chairman GRAMM. Over dead bodies and—— Senator STABENOW. And I am watching very closely.

[Laughter.]

Which is a topic of another hearing, I think.

[Laughter.]

Let me ask, though, if you might follow up more from the Chairman’s questions as it relates to the specifics.

I had similar questions as it relates to contractors that you had

talked about and the contractors’ installations and how this action

would affect their missions and daily activities.

I think this is a very important question as we look at the impact

and the actions that were taken. And let me also say that I think

it is important to note for us on the Committee that this in fact

was an action by both Administrations, the first which Secretary

Richardson initiated on January 19, and then followed up by Secretary Abraham, who indicated the circumstances that led to the

issuance of the order continued to exist.

19

We have both administrations appearing to view, at least on the

surface, this issue in the same way.

But I do share the Chairman’s questions and concerns about the

specifics of how this relates to contractors and installations and

their ability to carry out their mission and their daily activities.

If you could expand a bit on that.

Mr. FYGI. When you say contractors, I assume you do not mean

the contractors who are the vendors of natural gas to PG&E.

Senator STABENOW. I am talking about defense contractors, the

installations.

If you could talk about your view of how this would impact their

mission, their daily activities.

Mr. FYGI. Well, I think my response would be that, were the situation to have deteriorated as it appeared it might, to the point

where PG&E, to keep homes heated, had to siphon off volumes of

natural gas to industrial customers, including military and other

Federal installations, that event would have had an enormously

disruptive effect on the continuity and the operational capability of

the Federal activities at those defense installations.

Senator STABENOW. So, in other words, rather than a direct impact, you are looking at the broader impact of what was happening

in California.

Mr. FYGI. The broader impact and the consequential impacts,

were the sequence of events that was predictable under California

law, to have unfolded in that worst possible way. And the object

of the order was to prevent that sequence from occurring.

Senator STABENOW. Okay. Thank you, Mr. Chairman.

Chairman GRAMM. Thank you. Let me just try to summarize

some concerns.

I think we really came very close to getting down to the question

that this Committee is going to have to examine when you answered my question about the situation of defense facilities with

back-up electric generation.

They are not buying gas from PG&E, but PG&E is delivering the

gas in many cases, not all cases, but in many of the cases. And

PG&E, under a State mandate, puts the retail consumer, the homeowner, at the top of the cue.

I was not here when this bill was drafted. But I had one of my

trusty staff members go out and look at the photos of our chairmen. If you want to get some humility, all you have to do is look

at those photos. I am embarrassed to say that I do not know

Burnet Maybank, who was chairman of this Committee from 1949

to 1952, when this bill was written.

But it seems to me that what the Committee must have had in

mind when they wrote the law was exactly the situation you are

talking about, to the following extent. And that is, you have these

defense installations and a policy of preempting gas shippage, even

though the utility doesn’t own the gas, which is a legal question in

and of itself in my mind—that you would preempt the gas even

though PG&E does not own it for civilian use.

My guess is that Senator Maybank probably thought, well, we

are talking about a period where we have some conflict going on

in the world or where something critical is happening.

20

And second, my guess is that he envisioned, and the Congress

envisioned, that the use of the Defense Production Act would be to

say to PG&E, you cannot preempt this gas for civilian use. It has

to flow through to these military installations.

I am sorry that Senator Maybank is not here to answer our question; I am sure he is, too.

[Laughter.]

But what we have now decided—and your answer, I think, was

very instructive—is that military need that was not our only objective here. We could have easily resolved the defense problem. But

our objective was beyond that, to affect the civilian situation there.

And at least it seems to me, and I know you can argue these

things endlessly from a legal point of view, but when the law says

in Section 101(a) that the President is authorized to use this provision only where necessary or appropriate to promote national defense, then it should not be used to accomplish purposes, however

meritorious, which bear no relation to national defense.

It seems to me that very real example is where we call into question of where it is appropriate to use this law and where it is not.

Mr. FYGI. Mr. Chairman, as to strictly a question of law, the

statute in 101(a) does not use the word only. Perhaps you are reading from an element of the legislative history.

Chairman GRAMM. It has a quotation mark around it. But it

could be.

I am not trying to get into a legal argument.

It seems to me the question that we have to ask ourselves in the

year 2001, is whether there ought to be a higher standard for taking people’s property and allocating resources and dictating price,

and whether any President should be delegated such powerful responsibilities. In the middle of a war, where decisions have to be

made every day, I think you can understand that.

But in peacetime, I think one of the questions that we are going

to have to ask ourselves is not a question of whether the law applied to this situation. I would say that there is a question of

whether the law applied to the circumstance.

A legal argument could be made if we were arguing in front of

the Supreme Court, and I think I could make a strong argument.

But given how the law has been used in the past, my guess is

you might win that case. But we are in the business of making law,

and not debating how it should be interpreted.

Mr. FYGI. Justice Scalia has said as much in his concurring

opinion.

Chairman GRAMM. And it seems to me that this is something

that we need to look at.

I want to thank both of you for coming today. This has been a

very good hearing. I would have to say that this is a complicated

issue, not one we deal with every day.

The Congress has routinely extended the Defense Production Act

without taking a comprehensive look at it, except to add some tangential energy powers during the energy crisis of the 1970’s. And

I think that one thing that this example makes very clear is that

this is something that we should not do in the future.

We are not going to extend the Defense Production Act as it is

now written. It is either going to die or it is going to be dramatiVerDate 11-MAY-2000 09:33 Apr 10, 2002 Jkt 000000 PO 00000 Frm 00024 Fmt 6633 Sfmt 6633 76811.TXT SBANK4 PsN: SBANK4
21

cally rewritten because whether a President can appeal to precedent or not, in a free society, in the midst of peacetime, it ought

to be an extraordinary action, in my opinion, for the government

to be taking people’s property and dictating prices.

There ought to be comprehensive, detailed findings. It should be

a decision made by the President under the strictest constraints.

And again, you took the law as it was, precedents as they were.

You made a decision. We can debate about its being right or wrong.

You make a strong case for your side. But what we have to decide

is how do we want it to be in the future.

I want to thank you for your testimony. It is been very helpful

and very instructive. And in listening to you, it reminds me of

something we often forget. And that is, there are a lot of people in

the Federal Government that have extraordinary ability and while

we generally do not know their names, they provide great service

to this country.

I want to thank both of you for coming today because I think this

has been, for what we are trying to do—not to affix blame, not to

say, this was a Democratic Administration or Republican Administration—basically to take a long, hard, dispassionate look at this

old law written in a very different world, whether we want this law

to continue to operate, not as Burnet Maybank may have written

it or envisioned it, but as it has been applied.

This is the decision we have to make. And your testimony has

been very, very beneficial, and I want to thank you.

The Committee stands adjourned.

[Whereupon, at 11:29 a.m., the hearing was adjourned.]

[Prepared statements, response to written questions, and additional material supplied for the record follow:]

22

PREPARED STATEMENT SENATOR MICHAEL B. ENZI

I would like to thank the Chairman and the Committee for holding this hearing

today. This hearing provides the Senate an opportunity to look at, and learn more

about, the impact that the implementation of one our Nation’s Federal defense powers, the Defense Production Act, has had on private individuals in each of our

respective States. To fully understand what is going on in the West and the way

the decision to use this act to bail out California’s energy market is perceived in

Wyoming, one must first realize the large shadow California already casts on its

neighboring States.

In the West water is king. As the snows melt along the Rocky Mountains and flow

into the Colorado River, then out to the Pacific Ocean, each State along the Colorado River Basin has certain legislated water rights that are carefully laid out in

a specific order of hierarchy. Over the years, many of these rights have existed on

a purely speculative level. Even though the full capacity of those rights have not

been developed, the rights, nonetheless, have been maintained with the understanding that someday these States will eventually use their full share of the water.

Southern California, however, developed its water rights early and often.

While the rest of the area has been slower to develop, California experienced an

early rapid economic growth and a large population influx that often resulted in the

State’s demands for Colorado River water to exceed its allocated rights. As California has never been bashful about going after water to feed its ever-growing economy, Western States perceive California as a huge straw that sucks the water out

of the other Western States.

The question that must be asked about the California energy crisis, is ‘‘Is this another California straw?’’ Will the rest of the West now be forced to provide for all

of California’s energy needs just as we provide for the State’s water?

This is a very real fear, especially in light of the fact that by invoking the Defense

Production Act that ordered energy contractors to deliver energy to California residents, the Federal Government not only required contractors to put aside their regular free market remedies for customers who can’t pay their bills, but the Defense

Production Act makes the duty to deliver those goods and services a superior priority to all other contracts. Had a conflict arisen between providing energy for California and any of the companies’ other contracts, such as for the States of Oregon,

Nevada, Idaho, Arizona, New Mexico, or Wyoming, then the Defense Production Act

would have required the contractors to fill California’s demands first. Only after

California is adequately provided for could any energy left over be used to fill the

needs of other States.

The questions presented by this Committee as it reviews the implementation

of the Defense Production Act are whether or not the Act was used properly, and

what the possibilities of using this Act are in the future. While I am certain that

these are appropriate questions, I can’t help but recognize that the real issue underlying the California Energy Crisis has more to do with a failure to develop a national energy policy than it does with the short-term efforts employed to fend off

economic disaster.

California’s version of deregulation shows the same inherent weakness that exists

in the direction that our Nation is currently heading toward when it comes to the

development of domestic energy supplies. The California system prohibited any new

power plant construction for many years and encouraged companies to take existing

plants off line. This occurred even though experts accurately predicted that California’s energy and electricity needs would continue to grow and outpace supply.

The comparison between California and the rest of the Nation is almost frightening. For the past several years the national trend has been to shut down efficient

and steady coal-fired power plants, thereby decreasing our Nation’s base load of

electricity supply, and to replace those plants with the now popular natural gas

plants. The result has been that no new coal fired plants are scheduled for construction, and the natural gas plants that were supposed to be our saving grace, are now

being priced out of the market because of the astronomical leap in the cost of natural gas. When you couple this decline in power production with a projected nationwide increase in demand for electricity to fuel our new high-tech economy, you begin

to realize that there is vast potential for the current California emergency to spread

to the rest of the United States.

We have got to stop focusing on the symptoms and start dealing directly with the

disease. Short-term economic band aids and artificially controlled prices will only

make the situation worse. Our goals of establishing stability and prices that are

truly market based can only be reached by acting on a plan that allows us to better

meet our own energy demands.

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Mr. Chairman, I am again grateful to you and the Committee for holding this

hearing. I hope that we can use this opportunity as a starting point for restoring

stability to our Nation’s energy market.

—————

PREPARED STATEMENT OF ERIC J. FYGI

ACTING GENERAL COUNSEL

U.S. DEPARTMENT OF ENERGY

FEBRUARY 9, 2001

Mr. Chairman and Members of the Committee: I am pleased to appear before the

Committee in response to its request for testimony by the Department as to the circumstances and analyses that prompted the Department to employ the Defense Production Act of 1950 in responding to actual and threatened interruptions of natural

gas supplies in northern and central California in January of this year. I am accompanied by Paul F. Carrier, the Director of the Office of Energy Emergencies in the

Department’s Office of Policy.

The circumstances that gave rise to the interruption of natural gas supplies in

northern and central California actually began with the cumulative effects of electricity sales within the State under California’s 1996 electricity restructuring legislation. Under that structure State-regulated electric utilities were required to sell

electricity to their customers at frozen rates that could not be adjusted upward to

reflect increased acquisition costs of wholesale electric power. At the same time, the

State required PG&E and other State-regulated electric utilities to purchase their

electricity supplies in the day-ahead or real time spot market (in contrast to longterm contracting, which permits hedging), provided for partial divestiture of the

utilities’ fossil generation assets, and required utilities to sell their electricity into

the Power Exchange rather than use it to serve their customers. In addition, growth

in electricity demand far outpaced growth in electricity supply. Between 1996 and

1999, demand in California rose 5,500 MW, while supply rose only 670 MW. This

combination of factors—and the constraints on hydropower throughout the Northwest—put the utilities in the position of buying wholesale power for as much as 30

cents per kilowatt-hour, while only being allowed to sell it for 7 cents.

Beginning in May 2000, State-regulated electric utilities began to accumulate

huge debts in the form of unrecovered wholesale, power costs as a result of the rate

freeze. These unrecovered wholesale power costs significantly weakened the financial health of the utilities and, in many cases, the utilities approached insolvency.

PG&E’s debts alone totaled $6.6 billion.

The reluctance of electricity generators and marketers to sell to PG&E and Southern California Edison, the other major State-regulated electric utility that accumulated large unrecovered wholesale power costs, deepened as the financial condition

of the utilities worsened. In order to prevent loss of electricity supplies to the customers of the utilities, then-Secretary of Energy Richardson issued an emergency

order under the Federal Power Act on December 14, 2000 directing certain electricity generators and marketers to continue to sell electricity upon request by the

California Independent System Operator, a nonprofit corporation established by the

1996 California electricity restructuring law charged with operation of the transmission system and assuring system reliability in California. This emergency order

was extended to 3 a.m. EST on February 7, 2001.

The poor financial condition of PG&E also led some natural gas suppliers to terminate sales to the utility, out of concern that the losses the utility was incurring

in its electricity operations would lead to insolvency, notwithstanding the fact that

PG&E’s gas operations themselves could recover costs under its tariff. Unlike Southern California Edison, PG&E is both a gas and electric utility.

On January 9, 2001, one supplier, which supplied approximately 14 percent of

PG&E’s core gas supplies, terminated sales to PG&E. Other gas suppliers soon followed suit, still others threatened to stop deliveries absent prepayments or credit

guarantees. About 25 percent of PG&E’s January baseload supply of natural gas

was terminated and substantial additional volumes were threatened.

PG&E serves 3.9 million ‘‘core’’ gas customers in California, both residential consumers and small businesses. PG&E also transports natural gas to about 5,000

‘‘noncore’’ customers, including industrial consumers and electricity generators.

Electricity generation accounts for roughly two-thirds of noncore gas consumption.

If PG&E experienced a shortage in gas deliveries, it would have to increase withdrawals from gas already in storage and divert gas from noncore customers. DiverVerDate 11-MAY-2000 09:33 Apr 10, 2002 Jkt 000000 PO 00000 Frm 00027 Fmt 6633 Sfmt 6621 76811.TXT SBANK4 PsN: SBANK4
24

sion from noncore customers would exacerbate the California electricity shortage,

since two-thirds of PG&E’s noncore gas is used for electricity generation.

PG&E and Southern California Edison first sought redress at the State level by

applying to the California Public Utilities Commission for retail electricity rate increases. On January 4, 2001, the California Public Utilities Commission increased

retail electricity rates by a surcharge of one cent a kilowatt-hour among its classes

of customers. It did so for a period of 90 days, and did not otherwise alter the rate

freeze under which PG&E and Southern California Edison were operating. PG&E

also sought action from the State to prevent a loss of gas supplies. PG&E asked the

California Public Utilities Commission for emergency authorization to draw on the

gas supplies of the other major gas utility in the State. As of February 7, 2001, the

California Public Utilities Commission had not acted on this request.

On January 10, 2001 PG&E and its parent filed a Form 8–K with the Securities

and Exchange Commission in which they announced suspension of dividend payments and postponement of release of financial results for the fourth quarter of

2000. The stated reason for postponing release of financial results was that the outcome of then on-going State and Federal efforts involving the California electricity

market could result in measures that ‘‘significantly and adversely affect’’ PG&E Corporation’s financial results.

Beginning the first week in January, the Department was advised by PG&E’s General Counsel that debt rating agencies had reacted negatively to the California

Public Utilities Commission’s January 4 Order, and that if PG&E’s outstanding debt

were reduced to junk status that event would constitute a default under PG&E’s various natural gas supply contracts. Were that event to occur it would accelerate

the payment obligation of all of PG&E’s natural gas supply contracts. While we understand that at the time PG&E had acquiesced in pre-paying some of its natural

gas suppliers, the normal payment schedule of PG&E was that its contracts required payment in full on the 25th day of each month for the entire prior month’s deliveries of natural gas to PG&E for sale to its gas customers. While PG&E’s tariff

with the California Public Utilities Commission enabled it to recover the full

amount of increased acquisition costs for natural gas resold by PG&E (unlike the

case for electricity), because of PG&E’s precarious operating revenue posture stemming from the electricity market, PG&E indicated that it could not continue to purchase the needed volumes of natural gas if it were required to pre-pay for them.

At about the same time, beginning January 9, 2001, then-Treasury Secretary

Summers and then-Energy Secretary Richardson participated in extensive meetings

that included the Governor of California, California legislative leaders and the

President of the California Public Utilities Commission, the CEO’s or Presidents of

the major California electricity suppliers, and the CEO’s of the California investorowned utilities or their parents. While the objective of these meetings was to assist

the State of California in formulating a solution to the evolving situation, no such

solution was announced.

On January 12, 2001 the CEO of PG&E formally requested President Clinton to

invoke emergency authorities in order to assure continuity of natural gas supplies

through PG&E to its service territory in northern and central California. That letter

was accompanied by an affidavit executed the same day by the Chief Financial Officer, Treasurer and Senior Vice President of PG&E that described in detail the circumstances giving rise to the threatened interruption of natural gas supply through

PG&E to northern and central California. On January 13, 2001 Governor Davis sent

a letter to President Clinton in which the Governor described his inquiry into the

circumstances, his finding that there was an ‘‘imminent likelihood that natural gas

supplies in northern and central California will be interrupted,’’ and requested the

assistance of the President and the Secretary of Energy on an urgent basis.

On January 15, 2001 then-Deputy Energy Secretary Glauthier conducted a telephone conference that included operational executives of PG&E in order to ascertain

further the logistical and operational circumstances that necessitated immediate action at the Federal level. On January 16, 2001 Reuters reported that Standard &

Poor’s had downgraded PG&E’s debt to ‘‘low junk’’ status. President Clinton’s instructions to the Secretary of Energy, and the Secretary of Energy’s accompanying

Order to PG&E and its natural gas suppliers, were issued on January 19, 2001. As

the text of each document indicates, their issuance was based not only on the emergency provisions of the Natural Gas Policy Act of 1978, but also on the Defense Production Act of 1950. I now turn to the reasons that prompted the Department to

formulate this approach.

When it appeared in early January that it might prove necessary to formulate

emergency orders for continued delivery of natural gas through PG&E, we first examined the emergency provisions of the Natural Gas Policy Act of 1978, 15 U.S.C.

3361–3364. Those provisions appeared useful in that they authorized designation of

25

continued use of natural gas for electricity generation as a ‘‘high-priority use’’ in

an emergency, and authorized specification by the Federal Government of the

‘‘terms and conditions’’ including ‘‘fair and equitable prices’’ for natural gas delivered

under an order. The ability to determine that continued use of natural gas was a

‘‘high-priority use’’ under the Natural Gas Policy Act was quite important because,

without such Federal action, under California law, any reduction in gas volumes

available to PG&E as merchant impairing its ability to serve its ‘‘core customers’’

(residences and small businesses) would result in mandated redirection of gas

volumes delivered through PG&E (but not owned by it) destined for noncore customers, including most significantly electricity generators. Were such redirection to

occur it would have further reduced the volumes of natural gas available for electricity, generation in California.

Despite the technical utility of Section 302 of the Natural Gas Policy Act, 15

U.S.C. 3362, in these respects, we remained concerned that it only would ‘‘authorize’’ purchase, rather than also to require deliveries, of natural gas to enable PG&E

to continue to distribute sufficient volumes of natural gas. During January PG&E

advanced arguments asserting that the allusion to an ‘‘order’’ in Section 302 suggested that it embraced an ability to impose a supply mandate. Based on textual

analysis of the Natural Gas Policy Act we remained unpersuaded on this point. In

forming our view of this question we also consulted with an attorney of the Federal

Energy Regulatory Commission who had been designated by the Commission’s General Counsel to aid us in our examination of this question. Our textual analysis coupled with that of the Federal Energy Regulatory Commission attorney, together

with our understanding of the provenance of Section 302 as having had the original

objective simply of permitting emergency sales into interstate commerce by nonjurisdictional gas producers without becoming thereby subject to then-existing wellhead

price controls, prompted us to conclude that the Natural Gas Policy Act’s emergency

provisions, standing alone, would not suffice if the Federal Government were to

mandate continuity of natural gas deliveries through PG&E to all of its service territory in northern and central California.

We then considered whether the Defense Production Act provided the authority

to complement the emergency provisions of the Natural Gas Policy Act such that

the entities (largely resellers and not producers), had recently provided PG&E with

natural gas could be directed to continue to make similar volumes available to

PG&E. We concluded that the Defense Production Act would provide this authority.

Title I of the Defense Production Act authorizes the President to require the priority performance of contracts or orders in certain circumstances. Under Section

101(a), 50 U.S.C. App. 2071(a), the President may require performance on a priority

basis of contracts or orders that he deems ‘‘necessary or appropriate to promote the

national defense.’’ In determining what the national defense requires, it is clear

the President may consider the potential impact of shortages of energy supplies. In

the Energy Security Act Congress specifically designated energy as a ‘‘strategic and

critical material’’ within the meaning of the Defense Production Act and also added

language to its Declaration of Policy that establishes a link between assuring the

availability of energy supplies and maintaining defense preparedness. The Defense

Production Act’s Declaration of Policy, 50 U.S.C. App. 2062(a)(7), states:

[I]n order to ensure national defense preparedness, which is essential to

national security, it is necessary and appropriate to assure the availability

of domestic energy supplies for national defense needs.

PG&E’s customer base in northern and central California includes a number of

defense (including ‘‘space,’’ as the term ‘‘defense’’ is defined in the Defense Production Act) installations and defense contractors that use natural gas and electricity

and that clearly would be adversely impacted by interruption of natural gas service.

Continuity of supply to these facilities was threatened in the same fashion as other

industrial natural gas consumers in PG&E’s service territory.

Section 101(c) of the Defense Production Act, 50 U.S.C. App. 2071(c), authorizes

the President to require priority performance of contracts or orders for goods to

maximize domestic energy supplies if he makes certain findings, including that the

good is scarce and critical and essential to maximizing domestic energy supplies. In

the situation existing in California in mid January, natural gas supplies would have

become acutely scarce had the withholding by PG&E’s suppliers continued and expanded to more suppliers than those that already had terminated deliveries. Moreover, continuity of natural gas supply is critical and essential in PG&E’s service

area to electric energy generation, petroleum refining, and maintaining energy facilities. These factors seemed directly to bear on the terms of Section 101(c) of the

Defense Production Act relating to continuity of energy production.

26

Accordingly, we structured the emergency natural gas order to include the supply

obligation authorized by the Defense Production Act. Our understanding of the Defense Production Act regime was that it is broad enough to embrace mandates for

priority performance of new orders to vendors, as well as priority performance of

existing contracts. Thus this authority fit well in a transactional sense in which

some vendors’ contracts to supply gas might have expired by their terms just before

the order.

This aspect of the Defense Production Act regime permitted the Department to

impose a temporary supply assurance for natural gas to northern and central California comparable to that done with the electricity orders for the area of the State

served by the California Independent System Operator by the Department’s prior

orders under Section 202(c) of the Federal Power Act. The Department’s emergency

natural gas order was directed just to the group of suppliers that had provided

PG&E natural gas on commercial terms during the 30-day period prior to issuance

of the order. This approach was chosen as the least intrusive means that would

achieve the public health and safety and defense preparedness objectives of continuing for the near term natural gas supplies into PG&E’s service area. The order

is best understood as an emergency, temporary action designed to afford California

the opportunity to abate the emergency by its necessary further actions.

This concludes my prepared statement. Mr. Carrier and I will be pleased to respond to any questions the Committee may have.

27

RESPONSE TO WRITTEN QUESTIONS OF SENATOR GRAMM

FROM ERIC J. FYGI

Q.1. In the Federal Order issued by former Energy Secretary Richardson on January 19, 2001, and extended by Secretary Abraham

on January 23, 2001, the authorities under both the Natural Gas

Policy Act of 1978 and the Defense Production Act of 1950 were

used. The Order listed four items: (1) Authorized Pacific Gas &

Electric to purchase emergency natural gas supplies; (2) required

suppliers that had contracted with Pacific Gas & Electric within 30

days of the Order to supply natural gas to Pacific Gas & Electric

under terms consistent with those previous contracts, with the exception of terms requiring accelerated payments, prepayments, or

other ‘‘extraordinary payment terms;’’ (3) required that the natural

gas purchased by Pacific Gas & Electric be used only for sale by

Pacific Gas & Electric for ‘‘high priority’’ uses; (4) required Pacific

Gas & Electric and their suppliers to submit a weekly report listing

the volumes and prices of the natural gas delivered, transported,

or contracted under the order to the Department of Energy. Which

part(s) of this order would not have been possible had the authorities under the Defense Production Act not been used?

A.1. The element of the emergency orders requiring PG&E’s natural gas vendors to continue supplying PG&E volumes of natural

gas conforming to then-current or recent commercial contracts with

PG&E was premised on the Defense Production Act. Although

PG&E advanced a legal argument that the text of Section 302 of

the Natural Gas Policy Act might have authorized this element of

the emergency order, we concluded it was legally prudent to include reliance on the Defense Production Act in view of its clearlyestablished authority to require priority performance of existing

contracts with, and priority fulfillment of new orders by, entities

receiving priority assistance under the Defense Production Act.

Q.2. The Federal Order specified the terms of the contract between

Pacific Gas & Electric and the suppliers affected by the order, as

those that are consistent with the terms of previous contracts in

existence within 30 days of the order, with the exception of ‘‘extraordinary payment terms.’’ This specification of contract terms

had the effect of setting the prices of natural gas to be sold under

the Order.

A.2. We do not agree that the emergency orders’ requirement that

natural gas continue to be provided to PG&E on terms consistent

with the regular commercial prices in PG&E’s contracts with its

natural gas vendors constituted the ‘‘setting [of] prices’’ by the

emergency order.

Q.2a. Was the Natural Gas Policy Act or the Defense Production

Act used to set prices under the Order?

A.2a. To the extent that it might have proven necessary to ‘‘set

prices’’ under the emergency order, the authority to do so would

have been the Natural Gas Policy Act.

Q.2b. Did any of the contracts require or allow the supplies to be

paid a higher price for natural gas if Pacific Gas & Electric’s credit

worthiness came into question? If so, which suppliers held such

contracts and what would the price have been?

28

A.2b. We do not know whether any of the inventory of contracts

between PG&E and its gas vendors provided for per-unit price escalation in the event of a credit worthiness problem. Instead our

understanding was that, in such an event, some contracts might

have accelerated the timing of PG&E’s payment obligation (collapsing the prior normal payment interval of net—25th of the

month—for the next prior month’s deliveries) or provision of external credit guarantees. Our understanding also was that some vendors holding individual recently-expired contracts with PG&E were

requiring, as a condition of future deliveries, advance payments or

third-party credit guarantees which PG&E could not then provide.

Imposition of the up-front payment and credit guarantee requirements was not feasible because, although PG&E’s natural gas tariffs for its sales of natural gas allowed full recovery of its natural

gas acquisition costs, in its electricity revenue-starved situation

PG&E could not either advance funds for paying for its natural gas

acquisition costs before receiving its revenues from those sales or

secure new credit guarantees.

Q.2c. If the contract signed by the supplier and the purchaser required or allowed a different price to be charged under different

conditions, such as a reduction in the buyers’ credit rating, can a

price required under the existing contractual agreements be considered an ‘‘extraordinary payment’’?

A.2c. We are not aware of any such contracted-for price differential. None was presented to us during the period the emergency orders were in effect. The only question regarding the economic terms

of the emergency order was presented by a unit of Goldman Sachs,

which is described in the attached order.

Q.2d. Regarding those natural gas sales where the Defense Production Act authority was invoked, if the existing contractual agreement requires a specific price to be paid under certain conditions

and if those conditions exist, how can the Department of Energy

order prohibit that contractual price and impose another price

without violating the statutory ban on the ‘‘imposition of wage or

price controls’’?

A.2d. As was stated above, the emergency orders did not purport

to impose general price controls. To the contrary, they embedded

in their terms the regular contract prices currently and recently (in

the next prior 30-day period) charged by natural gas vendors to

PG&E. No disagreement of the price to be charged PG&E was

brought to our attention by the natural gas vendors or by PG&E.

Therefore the Department had no occasion to impose sales prices

by vendors of natural gas to PG&E under the orders, and the orders instead incorporated simply the current and recent (within the

prior 30 days) contract sales prices between PG&E and its vendors.

Q.2e. If the Department of Energy can mandate suppliers to provide natural gas based on the contracted prices of the last 30 days,

and have such a mandate not be considered a price control, could

not the Department of Energy require suppliers to use the contracted price of 2 years ago and still maintain that this is not a

price control?

29

A.2e. As was stated above, there was no specified price in the

emergency orders requiring continuity of supply to PG&E on normal commercial contract terms. We do not understand the Defense

Production Act as a device that would permit any rollback ‘‘price

control’’ of the sort that is suggested in the question. None was considered or imposed in the California emergency natural gas orders.

Q.3. While it is necessary for the President to declare an emergency under the Natural Gas Policy Act, such a formal declaration

was not used for the Department of Energy to invoke the Defense

Production Act to allocate materials or to set the priority performance of contracts.

A.3. The emergency declaration by President Clinton was necessary to invoke the emergency provisions of the Natural Gas

Policy Act. That is because President Carter’s 1980 delegation

withheld from the Secretary of Energy the authority to make the

emergency finding necessary to invoke these authorities. Therefore

invocation of the emergency authorities of the Natural Gas Policy

Act was dependent on the President’s January 19, 2001 finding.

Q.3a. Why was President Clinton’s January 19, 2001, White House

Memorandum needed in order for the Department of Energy to exercise its authorities under the Defense Production Act?

A.3a. The President’s Memorandum of January 19, 2001 was necessary to instruct the Secretary of Energy as to the authorities he

should employ to meet the declared natural gas supply emergency

in northern and central California, and procedurally how to use

those authorities in this emergency setting.

Q.3b. In your view, did the Memorandum waive the Department

of Energy’s own regulatory procedures for implementing the Defense Production Act?

A.3b. The President’s Memorandum, by its terms, supplanted for

this emergency period internal governmental procedures otherwise

stemming from the various prior executive orders relating to use of

the Defense Production Act in its normal, nonemergency application. Those procedures are structured for nonemergency application

of the Defense Production Act priority assistance authority, and

have the effect of minimizing governmental intrusion into the general economy.

Q.3c. Is it your opinion that the Memorandum properly waived the

requirements of Executive Orders 11790 and 12919?

A.3c. The President’s Memorandum speaks for itself, and we have

no occasion to doubt its legal effectiveness in governing the manner

it specified for action by the Secretary of Energy in carrying out

the statutory authority vested in the President.

Q.3d. Are Executive Orders 11790 and 12919 still in effect, or did

the White House Memorandum permanently waive the requirements of those orders?

A.3d. Executive Orders 11790 and 12919 remain in effect for the

general and regular administration of the Defense Production Act.

The provisions of the President’s Memorandum of January 19, 2001

by their terms apply only to the natural gas emergency in northern

and central California that was declared pursuant to Section 301

30

of the Natural Gas Policy Act. Unless extended by further action

by the President, such an emergency declaration expires 120 days

after its issuance.

Q.4. Were alternatives to using the Defense Production Act in the

context of Pacific Gas & Electric’s inability to purchase natural gas

evaluated by the Department of Energy or, to your knowledge, any

other governmental entity? Did the Department of Energy consider,

for example: Using the Defense Production Act to force Pacific Gas

& Electric to prioritize transmission-only service for defense installations and defense contractors in order to ensure that their natural gas supplies would not be confiscated and redirected for core

customer use?

A.4. This approach was not seriously considered. It would have

constituted an attempt at Federal micro-management incompatible

with the emergency circumstance that was presented. The unknown collateral effects of permitting events to work their will

under such a limited approach likely would have had adverse operational effects on defense-related facilities and activities that such

an approach would not have accurately predicted.

Q.4a. The ability of the California Public Utilities Commission to

order the ‘‘ring-fencing’’ of natural gas accounts receivables to

be used as collateral by Pacific Gas & Electric so that they may

continue to enter into natural gas purchase contracts with their

suppliers?

A.4a. When the likelihood of interruption of natural gas supplies

to PG&E was brought to our attention in early January and confirmed formally in PG&E’s and the California Governor’s January

12 and 13, 2001 correspondence to President Clinton, the California

Public Utilities Commission had yet to take action that would segregate PG&E’s natural gas receivables. After the emergency orders

were issued the California Public Utilities Commission did so, on

January 31, 2001.

Q.4b. The ability of the California Public Utilities Commission to

issue an order, similar to the Federal Order, requiring other California natural gas local distribution companies regulated by them

to sell natural gas to Pacific Gas & Electric?

A.4b. While we were aware that PG&E had made an emergency

request on January 18, 2001 for an order directing Southern California Gas Company to provide ‘‘mutual assistance,’’ that is, to sell

gas to PG&E for PG&E’s core customer needs, the California Public

Utilities Commission had not entered such an order at the time the

Department issued either of its emergency orders.

Q.4c. An emergency facilitation of contracts between Pacific Gas &

Electric’s core customers and others that purchase natural gas directly from Pacific Gas & Electric, and alternative natural gas distributors, producers, marketers, or traders, using Pacific Gas &

Electric for transmission-only service?

A.4c. We do not understand what is meant by ‘‘emergency facilitation’’ between ‘‘core customers,’’ and ‘‘others,’’ and ‘‘alternative natural gas distributors, producers, marketers, or traders.’’ We were

unaware of any ‘‘emergency facilitation’’ authority that was available here, and the question’s terms imply the desirability of some

31

sort of onmidirectional consultation instead of taking decisive executive action deemed necessary to deal with an emergency placing

millions of natural gas consumers and electricity consumers at risk

of breakdown in service.

Q.4d. Allowing Pacific Gas & Electric to reorganize or liquidate

through bankruptcy?

A.4d. The potential of relying on a voluntary bankruptcy scenario

was evaluated informally in connection with this emergency. This

evaluation indicated two conclusions: (1) The reorganization provisions of the Bankruptcy Code generally are useful for a going concern when its operating revenues cover its operating costs, but

when the concern’s threatened insolvency stems from a significant

negative operating cash flow (as appeared to be the case with

PG&E), reorganization under bankruptcy protection is not an assured pathway to continued near-term operation of the utility; and

(2) under the Bankruptcy Code, neither a reorganization nor a liquidation bankruptcy proceeding could afford the bankruptcy court

the unilateral ability to raise customer electricity rates without approval by the California Public Utilities Commission.

Please furnish the Senate Banking Committee with copies of the

Department of Energy’s, or any other governmental entity’s, evaluations of all alternatives considered, including those listed above.

As was described in the Department’s testimony for the February

9, 2001 hearing, the matter was presented to the Department as

an emergency circumstance. Much of the inquiry was done orally

by and among senior officials of the prior Administration, and was

directed to understanding the need for immediate action rather

than simply awaiting the next Administration. The evaluation of

alternatives was not preceded by documentation of this sort, although one document summarized the situation for the then-head

of the National Economic Council. The legal evaluation was done

through submitting the text of the proposed Presidential Memorandum to the Office of the Counsel to the President and the Justice Department’s Office of Legal Counsel. Because of the emergency nature of the matter (with additional delivery interruptions

anticipated on January 19, 2001), the legal evaluation was directed

to the draft text of the President’s Memorandum itself without ancillary written analyses. The legal evaluation was expressed orally

during a conference call among the responsible DOE General Counsel attorneys and those in the White House Counsel’s Office and

Justice’s Office of Legal Counsel.

Q.5. In his letter dated January 9, 2001, the President of Pacific

Gas & Electric indicated that the natural gas crisis was ‘‘a creditbased shortage, not a physical supply shortage.’’ In assessing possible credit assistance to Pacific Gas & Electric, the California Electricity Oversight Board determined that the California Constitution

prohibited any guarantee or credit backing by the State of California to Pacific Gas & Electric. Yet numerous credit and loan

guarantee programs are available to private parties throughout the

State of California on a wide range of activities. Given the numerous State-sponsored loan, loan guarantee and financing programs,

why was it deemed unreasonable for any of these State programs

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to be utilized, redirected, or similarly created, in order to address

the credit problems of Pacific Gas & Electric?

A.5. Whether it would have been reasonable for the State of California to establish a credit or loan guarantee program to assure

continuity of natural gas supplies in northern and central California is not a question on which this Department formulated a position. Instead the Department was confronted in January 2001 by

the fact that, in the view of the California authorities, such financial assistance could not be immediately forthcoming. The Department’s action was taken to stem a ‘‘run on the bank,’’ and by its

terms was temporary in nature and therefore did not indicate the

Department’s view whether such State-granted credit or financial

guarantees were a proper measure for the State to initiate.

Q.6. The Department of Energy generally uses its authority under

the Defense Production Act to force the prioritization of contractual

agreements already in place between buyers and suppliers that

also include agreed upon terms, including quantities and prices. In

this case, the Department of Energy used the Defense Production

Act to force natural gas sellers to sell to Pacific Gas & Electric even

if there were no exiting contracts in place. Does Section 101(a) of

the Defense Production Act apply only to the prioritization of contracts or does it also grant authority to force sellers to enter into

a new contact or to extend a contract, or to compel a sale even

where no sale to any party was contemplated by the supplier?

Please explain.

A.6. Section 101(a) of the Defense Production Act, by its terms, authorizes priority performance of both existing ‘‘contracts’’ and priority performance of new ‘‘orders’’ for ‘‘materials.’’ This structure

indicates that the authority of Section 101(a) is not limited to the

performance of existing contracts. It also suggests, however, that

the obligor to the recipient of priority assistance filling a new

‘‘order’’ is in the regular commercial business of providing to commercial buyers the ‘‘materials’’ that are the subject of the order.

Q.6a. Has the Department of Energy ever used the Defense Production Act to force suppliers to sell to purchasers without the existence of a contractual agreement between the two parties? Please

furnish the Committee with the details, including the dates and

parties involved, of all instances in which the Defense Production

Act was used to force the initiation or the extension of a contract.

A.6a. The available records that document the Department’s historical use of the Defense Production Act do not indicate whether

the priority assistance was extended to performance of an existing

contact or to the filling of a new order not yet memorialized in an

existing contract. The records do suggest that the entities subject

to priority assistance orders were in the regular business of providing the called-for materials or services to the commercial sector.

Q.6b. Consider that the Federal Government wants, or determines

that there is a need for, a commodity that is generally available

from the marketplace. Can the Federal Government use the Defense Production Act to require that a holder of that commodity

make a sale to the government, or to some third party, even though

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the holder does not, and has no intention to, make the product

available for sale?

A.6b. On these facts, it is difficult to understand how the Defense

Production Act might come into play. Additional, and less abstract,

facts might suggest that the Defense Production Act could become

relevant. If, however, a ‘‘commodity’’ is in fact ‘‘generally available’’

and in fact is made available without discrimination to entities in

circumstances that meet all defense or energy-related needs, then

it is difficult to understand the role of priority assistance under the

Defense Production Act.

Q.7. In your view, does money and credit meet the definition of

‘‘materials, services and facilities’’ as it is used in Sections 101(a)

and 101(c) of the Defense Production Act?

A.7. We never have had occasion to consider whether money or

credit might meet the definition of ‘‘materials, services, and facilities’’ under Sections 101(a) and 101(c) of the Defense Production

Act. In the case at hand, we viewed natural gas to be ‘‘materials’’

within the meaning of the Defense Production Act, and as we indicated during the February 9, 2001 hearing, we believe that the text

and the legislative history of the 1950 Act support understanding

the Defense Production Act to include natural gas (as well as the

explicitly mentioned ‘‘petroleum’’) as a ‘‘material’’ susceptible to priority assistance under the Defense Production Act.

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PREPARED STATEMENT OF ELI D. BEBOUT

FORMER SPEAKER OF THE WYOMING HOUSE OF REPRESENTATIVES

PAST CHAIRMAN OF THE ENERGY COUNCIL

FEBRUARY 9, 2001

My name is Eli Bebout; I’m a former speaker of the Wyoming House of Representatives, and past Chairman of the Energy Council, a group composed of legislative

representatives from 10 energy-producing States, Venezuela and Alberta, Canada.

It is a privilege to subit testimony into the record regarding Wyoming’s perspective

on the Western energy crisis.

First of all, the California energy crisis is a situation precipitated by California

and its misguided effort 5 years ago to deregulate the utility industry. But instead,

California’s State government actually re-regulated the industry, stripping longterm power contracts from its energy companies, and prohibiting other suppliers

from competing in the California energy marketplace. Instead of curbing consumer

demand with open market rates, California encouraged demand with artificially low

demand with open market rates, California encouraged demand with artificially low

prices and spot prices. Instead of addressing their rising energy consumption by the

construction of additional power plants, Californians ignored their power deficit, and

created almost impossible hurdles for plant siting.

So now the California power crisis is both a Western States problem and a national concern. Wyoming and other western States cannot ignore the fact that the

western power grid has linked all of us to the California energy situation, and the

grid is both part of the problem, and part of the solution.

I am in agreement with Wyoming’s Senator Mike Enzi who stated that President

Clinton’s solution to the problem was inappropriate. His sanctioning the National

Defense Act of 1950 to force companies to continue providing natural gas to a heavily indebted California public utility was a misuse of that law. The law was written

to protect national security in a time of war. And as Senator Enzi correctly stated,

it would have given California an unfair power priority over every other western

State. I was glad to see that President Bush ended that order—it is time to think

about other solutions—both in the near and the long term.

The Western Governors’ Association has considered the energy crisis at length,

and their recommendations are worth reviewing. Many of the short-term solutions

fall in the California jurisdiction—conservation measures and consumption shifting

must come first. The most critical thing California must do as soon as possible is

remove the impediments to a free marketplace—allowing California power companies to enter into long term power contracts, adopting rate reforms that will more

accurately reflect actual costs. The free marketplace must allow true competition in

the electrical grid—so there is direct access to the market for all buyers and sellers.

The rate changes might be painful for California consumers at first, but the solutions have to start in California. The other part of the problem is the lack of a national energy policy. So in the long-term, there is much that we can all work toward.

The Energy Council has developed a proposal for a national energy policy, and

that will be presented to the appropriate national Energy Subcommittee in March.

Many of the recommendations found in that proposal are similar to those being discussed by Senator Murkowski, which include focusing on natural market forces and

increasing the supply side of the power equation. I also know our Wyoming Senators

are working with Senator Murkowski on this.

On the supply side, we can streamline the cumbersome regulatory processes to

site and build new power-generating plants, particularly in Wyoming—not jeopardizing any part of the environment—but working together more efficiently and quickly, pulling together State, local and tribal governments to act on these issues. We

can reactivate retired generating plants, and get additional energy from those areas.

Homeowners can be encouraged to install their own small systems, such as wind

turbines, fuel cells, and solar. In fact, the Wyoming legislature is working on a bill

to help in this area. We can supplement research and development for promising

renewable energy technologies and enable exploration and development of promising

domestic oil, natural gas, coal, geothermal, or wind resources. We can improve our

energy infrastructure with additional gas pipelines, power plants, and extensive

power database to help predict and manage demands. We need access to our Federal

lands to allow responsible development, in an environmentally-sound way, of the

tremendous natural resources that are available.

On the demand side, we can accelerate the development of more energy efficient

products in the marketplace, and adopt building codes that will improve conservation. More information and tax incentives for energy conservation could be provided

to individuals.

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To sum up, the crisis started in California, and the solution has to start in California. Wyoming—the BTU capitol of the Western Hemisphere—will continue to

provide as much energy as it can to its neighboring States. But as a Nation, we need

a national energy policy, and it should remove impediments to new powerplants,

allow suppliers to compete in the marketplace, provide incentives for the development of alternatives energy sources, and encourage conservation.

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