Business World: California's Governor Isn't Plugged Into Deregulation Debate
By Max Boot

09/05/1995
The Wall Street Journal
A15
(Copyright (c) 1995, Dow Jones & Company, Inc.)

Last week, Pete Wilson was just around the corner from the Journal's Manhattan offices, announcing (yet again) his presidential candidacy with the Statue of Liberty as a dramatic backdrop. The California governor sought to draw a sharp contrast between himself and the other Republican presidential candidates. "The difference between the others and me is clear," he said. "They promise. As governor, I deliver. They talk. As governor, I've acted. They delay to a more convenient time. As governor, I've decided."

Deliver? Act? Decide? Perhaps Gov. Wilson should have added a postscript: Except in the case of electricity deregulation.

While Gov. Wilson is gallivanting around the country, pursuing his Oval Office dreams, his appointees and aides back home in California are making a mess of this issue. Unless they change course soon, they will blow a chance to turn the Golden State into a shining example of how the free market can light up the lives of ordinary people.

Granted, this issue isn't as sexy as affirmative action or immigration, but arguably it's more important in the day-to-day affairs of Californians. Every time a state resident flicks a light switch, he pays up to 50% more than the national average for electricity. This is the result of decades of misguided policies by state regulators and giant utilities.

In April 1994, the California Public Utilities Commission, whose members are appointed by the governor, issued guidelines for solving this problem: "Consumer choice through direct access -- `retail wheeling' in the jargon of the industry -- represents the cornerstone of our vision for the electric services industry." In other words, bring to electricity the same jolt of deregulation that has already decreased prices in airlines, trucking, natural gas and other industries.

But when the PUC approved a blueprint in May for achieving this goal, it was a free-market solution in name only. Under the PUC plan, all power generators would be required to sell their electricity to a regional "pool," and all privately owned utilities would buy from the same pool. The state-regulated Poolco, as the pool would be called, would set a single price for all electricity purchases in California. Utility users would be forbidden from buying their power elsewhere; they would be locked in to the central system.

The pool plan is being pushed by Southern California Edison Co., an inefficient utility giant, and PUC Chairman Daniel Fessler. They argue that the theoretical construct they've devised is far superior to the messy give-and-take of a normal marketplace, which they're sure will lead to price spikes, service breakdowns and all the other imaginary dangers that airline, trucking and natural gas companies once warned about when they were facing deregulation.

But the PUC plan is something only devotees of Ira Magaziner's health-care "purchasing alliances" could love. "Poolco is an attempt to do something no government has ever managed to do right -- invent a market and force everybody into it to make trades according to rules imposed from above," says Robert Michaels, an economist at California State University, Fullerton.

Instead of Poolco, free-marketers support a "direct access" approach being pushed by one renegade member of the PUC, Jessie Knight Jr. Under Mr. Knight's scheme, electricity users, marketers and generators would have the right to negotiate with each other any way they want. This would allow customers to tap into the wholesale electricity market that already exists in the West; if it's economical, a pool could evolve voluntarily.

Even the most ardent free-marketers don't suggest a complete pull-out by the government. Almost everyone agrees that the electrical grid is a "natural monopoly" that will be maintained by government-regulated utilities for the foreseeable future. But if "direct access" is adopted, the day will soon come when you could choose an electricity supplier much like you select long-distance telephone service -- several companies would use the same lines but compete in delivering different services at different prices.

The major obstacle on the road to a free market in electricity is something known within the industry as "stranded costs." These are all of the bad investments utilities have made over the years -- many, like energy conservation programs, at the behest of regulators. The utilities were expecting to be reimbursed through higher rates (read: taxes) on captive customers. Because ending their monopoly could force shareholders to swallow heavy losses, most utilities are holding out against true competition.

Some economists, like Mr. Michaels, suggest that the utilities shouldn't be saved from the consequences of their folly, such as white elephant nuclear plants. That's probably right, but it's also irrelevant. Given the political muscle of the utilities, they'll be compensated in some form. The question is: How much? Mr. Fessler would maximize the pay-off; Mr. Knight would minimize it.

That's one reason why a formidable lobbying coalition -- ranging from manufacturers to some environmental groups -- has assembled against Poolco. Their opposition has caused Gov. Wilson's aides to sit up and take notice. After standing on the sidelines while the PUC tentatively approved Poolco in May, they've jumped in to broker a compromise. Phil Romero, Mr. Wilson's chief economist, says that under the compromise, a mandatory pool will be instituted, and then "direct access" for all customers will be phased in over five years. But there's a big question about whether you can short-circuit the market with centralized control and then simply switch it back on after a few years.

"Everybody at this point is trying to declare victory without going through the real ordeal of making the hard choices and the hard decisions," says Bill Dombrowski, president of the California Retailers Association.

There's a leadership vacuum here. Gov. Wilson is partly responsible for the problem in the first place -- he appointed Mr. Fessler and the other PUC members. But he hasn't taken a stand on Poolco or a direct hand in the negotiations, no doubt out of fear of offending some large contributor (they're on both sides of the issue). He hasn't even filled a crucial seat on the PUC that could determine which plan is adopted. The governor's nonchalant attitude stands in sharp contrast that of with GOP Attorney General Dan Lungren, a gubernatorial hopeful who's taken a strong stand against Poolco and in favor of direct competition. Maybe Pete Wilson is waiting for a more convenient time to act, but isn't that what he accuses other candidates of doing?

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Mr. Boot is assistant features editor of the Journal editorial page.

(See related letters: "Letters to the Editor: Power to the Free Market" -- WSJ Oct. 9, 1995)