successes and failures of the U.S. natural gas restructuring and from what the British did.” Other visitors from the U.S. power industry made the same trek to Britain and came back with similar conclusions. This seemed to be the new future for electric power.4
ENTER THE MERCHANT GENERATORS
In the United States, policy at both the federal and state level now began to move toward deregulation. The biggest change was to allow new competitors to get into the generation business and sell their power either to utilities or to end users. And since electricity is an undifferentiated commodity, then new entrants would compete on price. The big idea here was to drive down costs through competition. And in the process, these new entrants were determined to disprove Insull’s dictum that competition was an “unsound economic regulator.”
The Federal Energy Policy Act of 1992 specifically allowed these newcomers to sell electricity into interstate transmission lines regulated under federal laws. These were given the name “merchant generators” because they did not own the wires and distribution system but rather would sell to those who did. The merchants might be either independent companies or subsidiaries of utilities in some other part of the country. Whichever, they either built new power plants or bought existing ones from utilities. These merchants were selling into second-by-second electronic markets. To implement the competitive intent of the 1992 Energy Policy Act, the Federal Energy Regulatory Commission promoted “wheeling.” That allowed local utilities in one part of the country to contract with a cheaper generator in another part and wheel—that is, transport—the less expensive power over wires across the United States.
Both merchant generators and traditional utilities realized that they could become more competitive by fueling the new power plants with cheap natural gas. That set off a mad “dash to gas” across the country. In just six years, between 1998 and 2004, the United States added an enormous amount of new generating capacity—equivalent to a quarter of all the capacity that had been built since Edison’s Prince Street station in 1882! Over 90 percent of that capacity burned natural gas. Although not recognized at the time, the dash to gas was also a very big bet on cheap natural gas prices. It led to the overbuild—which produced much more generating capacity than was necessary.
Yet by the end of the 1990s, cheap gas was disappearing. Prices started to rise sharply once again. The wager on cheap natural gas prices proved costly. Many of the independent merchant generators that had made that bet were caught out. Some went bankrupt. Nowhere did the bet on gas go so badly, or more disastrously, than in California.
CALIFORNIA’S STRANGE RESTRUCTURING
A power crisis that erupted in California in 2000 threw the state into disarray, created a vast economic and political firestorm, and shook the entire nation’s electric power system. The brownouts and economic mayhem that rolled over the Golden State would have been expected in a struggling developing nation, but not in the state that was home to Disneyland, and that had given birth to Silicon Valley, the very embodiment of technology and innovation. After all, California was, if an independent country, the seventh-largest economy in the world.
What unfolded in California graphically exposed the dangers of misdesigning a regulatory system. It was also a case study of how short-term politics can overwhelm the needs of sound policy.
According to popular lore, the crisis was manufactured and manipulated by cynical and wily out-of-state power traders, the worst being Enron, the Houston-based natural gas and energy company. Its traders and those of other companies were accused of creating and then exploiting the crisis with a host of complex strategies. Some traders certainly did blatantly, and even illegally, exploit the system and thus accentuated its flaws. Yet that skims over the fundamental cause of the crisis. For, by then, the system was already broken.
The California crisis resulted from three fundamental factors: The first was an unworkable form of partial deregulation that explicitly rejected the normal power-market stabilizers that could have helped avoid or at least blunt the crisis but instead built instability into the new system. The second was a sharp, adverse turn in supply and demand. The third was a political culture that wanted the benefits of increased electric power but without the costs.
This was not the way it was supposed to be. California enacted deregulation, or restructuring, as it was more commonly called, in 1994. At the time, the state was in a bad way economically. Unemployment hit 10 percent, real