California Trading

MARGARET WARNER:

In the winter of 2000/2001, California was hit with soaring energy prices, rolling blackouts. The crisis ended only after the state signed $40 billion in long term energy contracts. The fallout: Sharply higher electricity bills for West Coast consumers, now and in the future.

Then last week, two memos came to light from the files of the now-bankrupt Enron Corporation, suggesting that Enron traders had manipulated prices in California's deregulated energy market using aggressive trading schemes with colorful names like "Death Star" and "Fat Boy." At a hearing today on Capitol Hill, several Senators said the memos amounted to a smoking gun.

SEN. BYRON DORGAN:

These two memoranda describe a strategy by which the Enron corporation attempted to rig the energy market on the West Coast. "Death Star: Enron gets paid for moving energy to relieve congestion without actually moving any energy or relieving any congestion," quote, unquote. Legal? Hardly.

SEN. RON WYDEN:

Manipulation of the market to inflate prices in both California and the Northwest panicked the buyers in my state into accepting higher prices than they ever paid before. The markets were so out of control, that buyers were willing to lock themselves in to high-price, long-term contracts, because they were worried that if they didn't, they would be forced to pay still higher prices in the future. This scheme locked ratepayers up and down the West Coast into overpriced contracts through what amounted, in my view, to a protection racket.

COMMITTEE CHAIRMAN:

Raise your right hand.

MARGARET WARNER:

The committee heard first from the Portland, Oregon, attorneys whose law firm had been hired by Enron to look into the trading practices. They said they warned Enron executives that the schemes were deceptive and possibly illegal.

STEPHEN HALL, Attorney:

As I learned of deceptive practices, I advised the traders with whom I spoke that such practices were deceptive, and that they should stop such practices immediately. I also attended meetings in which Enron traders provided assurances that such practices had been discontinued.

MARGARET WARNER:

Enron attorney Richard Sanders said he acted promptly on the memo.

RICHARD SANDERS, Enron Attorney:

After receiving it and reviewing it, I was not confident that it completely or accurately described many aspects of the trading practices. However, I directed that certain trading practices described therein be suspended, and I authorized additional outside counsel to review the memorandum.

MARGARET WARNER:

But several Senators said that Enron lawyers failed to do enough to stop the questionable trading practices. In California, officials said Congress should make the federal energy regulatory commission order Enron and other energy companies to refund billions of dollars to California consumers.

DAVID FREEMAN:

Now about a year ago, Governor Davis and the California delegation were trying to tell the world this was happening, but the folks at the white house weren't listening, and the folks at FERC weren't listening. Well, now that we have the confession, I trust that the whole world is listening. And we have a simple message: We want our money back. We want our money back.

MARGARET WARNER:

The head of FERC, Patrick Wood, defended his agency, noting it reimposed temporary price caps last June. Wood was asked why federal regulators didn't investigate sooner.

SEN. BYRON DORGAN:

What I am trying to understand that the agency that you head sat on sidelines all during that period, and other people knew what was going on or at least were digging in to it, and doesn't seem to me FERC was. And if you can't rely on the referee or the regulator here, you are at risk for losing billions of dollars in ill- gotten gains for the company, and taking billions of dollars from the customer they shouldn't have to have taken from them.

PATRICK WOOD:

I would agree with your assessment that the FERC has got some changing to do, and quite frankly, it requires bringing in the new blood. And that is why I am grateful that Congress has given us the resources to allow us to do that.

MARGARET WARNER:

A second Senate committee heard from many of the same witnesses this afternoon.

MARGARET WARNER:

So did Enron and perhaps other energy companies manipulate prices in California's energy market? We put that question to Loretta Lynch, president of the California Public Utilities Commission, which regulates the state's energy markets. She testified at today's hearing. And Eugene Peters, vice president of legislative affairs at the Electric Power Supply Association, which represents the nation's private power suppliers, producers, and marketers. Enron was a member before its collapse. Welcome to you both.

Ms. Lynch, this morning at the hearing, you said that the practices outlined in these memos were both fraudulent, and you said it amounted to manipulation. Give us a couple of examples of how they worked to manipulate energy prices.

LORETTA LYNCH:

Sure. When California had a price cap on its market, sellers could only sell for $250 a megawatt, which is the amount of power used to power 1,000 homes. So if you wanted to make more money, you would sell it out of state to an affiliate, which Enron did, and then that affiliate would sell it back in state at sometimes quadruple the price, or more. And in fact, the memo details how Enron did that: Sold out of state to its affiliate for $250, sold back in for $1,250, essentially skirting the price cap.

MARGARET WARNER:

And how about creating artificial shortages, which was another one of the accusations, how did that work?

LORETTA LYNCH:

Absolutely, they did that in several different ways. One was that they would create what's called congestion. I liken it to cars on a freeway. If you just have a one-lane road, the cars can only go one way. So they would schedule power to go on a transmission line this way, when they knew somebody else was scheduling it to go on transmission line this way, and the power grid operator would say, "wait a minute, we'll pay you if you'll back down your power." So they never intended to send that power down that line. They just knew that they could essentially create a cash crash, and get paid for doing it.

MARGARET WARNER:

Does this sound like manipulation to you, Mr. Peters?

EUGENE PETERS:

Well, let me just say for the record that we… there is an ongoing investigation, a very serious investigation at the Federal Energy Regulatory Commission, and we fully support it. As to the elements outlined in the memo, I think it's important to sort of understand that this is a complicated issue and that there's a lot that goes beyond… that is going on here, and it needs to be fully investigated. The last point that was made, let me just sort of expand on that, the congestion issue, because I just left the hearing in a Senate energy committee where Terry Winter, who is in charge of the whole transmission system, was talking about this one particular issue. And if you follow the memo, there's a point in there where they… where Enron says that they made something like $30 million by using this strategy.

MARGARET WARNER:

This was the so-called "Death Star" strategy?

EUGENE PETERS:

This was the congestion tragedy, exactly. And it was very interesting because Terry Winter corrected that. He said, "we looked at it," now, and they made, in fact, $33 million, not $30. But the thing that was curious about his testimony, he says when they went back and they actually looked at who won and who lost and what the impact was on prices in California, they found out that most of the impact was on other sort of wholesale suppliers, my members, and that the impact on California consumers was no more than $100,000. Now, $100,000 is a significant amount of money, it's more than a lot of people make, but it's important to keep these things in perspective and to understand what this memo was and what it wasn't. Just one last point on this.

MARGARET WARNER:

Let me first…

EUGENE PETERS:

Sure.

MARGARET WARNER:

…Let me interrupt you just for a sec, just to stay with the practices for one more minute. Would you call these, though, illegal, Ms. Lynch, or was this just clever use of the California law and the federal law, just kind of clever trading practices?

LORETTA LYNCH:

I absolutely call it illegal, and Enron knew it. Enron explains how they were going to have to falsify data to the grid operator to get away with these practices. You don't call something Death Star if you don't think that there's a problem with it. But moreover, they also cite very specifically how they were doing something they knew the federal regulators didn't approve of, how they were doing something they knew the Arizona regulators didn't approve of, and frankly, they were doing many things that the California regulators have never approved of. It may be complicated, all the layers of fraud and deceit and misrepresentation, but it's simple at the end of the day. At the end of the day, they broke the law; they had a corporate practice of making sure that they could gain the market to gouge California's customers. And we want our money back. It's not just a couple of million dollars. It's $30 billion and counting.

MARGARET WARNER:

Do you think these practices were illegal?

EUGENE PETERS:

I think it's an open question. I think some of them could have been illegal; some could be very legal. But what I think, if you look at them consistently what they've done, and what they were doing was to sort of exploit the seams of the system, essentially regulatory gaps. One of the things that exist in the West is a pretty consistent broad regional marketplace. What California has sort of tried to do is isolate themselves from that marketplace. Very difficult to do. Terry Winter, again, going to his testimony today, he said he had two problems that he has to deal with. One is he can't really see very well beyond his boundaries; and two, even within the state there are municipal utilities and public power entities that he can't quite understand what they're doing.

MARGARET WARNER:

And explaining who Terry Winter is, he's the head of this ISO that buys and sells the power?

EUGENE PETERS:

Well, he's kind of like the traffic controller for the transmission system in California. And he's the guy, ultimately, that's got to decide who is doing the right thing and the wrong thing, and he's the guy who is in charge of what's called market monitoring.

MARGARET WARNER:

But go to Mr. Peters' point now, which is maybe this… if this went on, and maybe it even was illegal, but that in the big scheme of things, this did not cause the California energy crisis, and this was just a very small piece of the bigger picture.

LORETTA LYNCH:

That's simply not the facts. Each transaction might have been a small transaction, but every grain of water, every drop of sand makes a mighty ocean. That's the point: Transaction upon transaction in the millions, not just by Enron. Enron is not alone here and Enron admits it in the memos that they called these things by their arrogant names with other companies. So they could identify who was gaining the market at what point so they all could benefit. Because California's market paid the highest price offered to everybody. So if you were going to offer him power at $50, and I offered him power at $100, at the end of the day, we'd both be paid $100. So everybody benefited off of Enron's gain, and Enron benefited off of everyone else's gain. The only people who lost were California's businesses and families.

MARGARET WARNER:

You're shaking your head.

EUGENE PETERS:

Just from day one, this was really never a market, this was more of a lottery. I mean, Loretta Lynch does a good job of explaining what was happening here, which is, essentially, people get into the market and what the high bid was everyone got. There was disincentives for every utility to contract what's called long-term, essentially to secure… at a lower rate and then to spot price your long- term power supply. The fact of the matter was, you had three things that hit in California all at the same time, well documented: You had low water, you had ten years of economic growth, and you had hot weather. And you can shake your head all you want, but the fact of the matter is that, initially, that's what drove things through the stratosphere. You combine that with a system which penalizes companies for planning ahead and you've got yourself a problem. Enron, I'm not going to condone or I can't even… I don't know whether they did or didn't do, but the fact of the matter is, California was a train wreck.

MARGARET WARNER:

Do you agree with her that other companies engaged in these practices, too?

EUGENE PETERS:

No, I don't agree with that. It could be true, that's what the investigation is going to find out. I can't speak for all my companies, and the fact of the matter, if they've done something illegal, they'll have to be punished as well.

MARGARET WARNER:

So what needs to happen next in your view, in California's view?

LORETTA LYNCH:

What needs to happen next is the federal regulators need to start doing their job. First they need to do a thorough investigation, not a white wash. In fact, California asked the feds to enforce our subpoenas against all the sellers in November of 2000. They never acted until they finally issued subpoenas just last week. So the feds have to investigate, they have to keep the price caps on, and they must offer orders on. They have bounded California's markets by requiring the sellers to sell in at a price-capped price.

MARGARET WARNER:

This is now when price caps were re-imposed in June…

LORETTA LYNCH:

They've been re-imposed…

MARGARET WARNER:

…Last June.

LORETTA LYNCH:

By Chairman Pat Wood of the Federal Energy Regulatory Commission. But they're set to expire October 1. And the sequel to "Star Wars" is coming back to California October 1, when the Death Star reappears, and "Get Shorty" reappears, and "Fat Boy" reappears to gouge us again unless the FERC acts.

EUGENE PETERS:

Two things: One is, right now the price caps are on but they're ineffective. The price paid for power in California is below the price caps, so whether that they are or not is irrelevant at the moment. What they need to do, what we all need to do are two things. And both things are under way. One is the Senate passed two weeks ago an energy bill that includes key provisions, which will both improve enforcement practices and essentially create the possibility for a much more seamless marketplace. Those need to be passed into law. The second thing that has to happen is there's a FERC, federal energy regulatory energy process, under way now to come up with standard-market designs, standard rules, so that if there is a system, a transmission system in the Northwest, that it can be well coordinated with California and with the Southwest. That is a market that moves; is a regional market…

MARGARET WARNER:

Briefly, do you think that California is entitled to refunds and to get out of its long-term contracts, which are other things it's asking for?

EUGENE PETERS:

The refund question is in front of FERC. We obviously do not think that anywhere near the kind of refunds that are being talked about by California are in order. If that is proved to be the case, then that will be what happens. As for long-term contracts, a very different issue. Long-term contracts are always negotiated essentially by suppliers, they look at what it costs to build a power plant, what the available gas supplies are, or whatever, and they negotiate it that way, and at the same time, they sign contracts, too.

LORETTA LYNCH:

You know, I agree with one thing. He said that California has never had an energy market; it's been a lottery from day one. The problem is, each and every seller promised it wasn't so. But they knew better, because they knew they set the system up to gain the system. It was a lottery that was rigged for the sellers and against consumers.

MARGARET WARNER:

We have to leave it there. Thank you, both.