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<title>October 2000: Big Bang Bungle</title>
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<p align="left"><font face="Arial"><strong><small>About The Author:<br>
<br>
</small></strong><span lang="X-NONE" style="color: black"><font size="2">
ROGER FELDMAN, Co-Chair of Andrews Kurth LLP Climate Change and Carbon
Markets Group has practiced law related to the finance of environmental and
energy projects and companies for 40 years. In particular, he has analyzed
and executed a wide variety and substantial value of project financings. He
chairs the American Bar Association’s Committee on Carbon Trading and
Finance, serves on the Board of the American Council for Renewable Energy,
and has been a senior official in the Federal Energy Administration. He is
a graduate of Brown University, Yale Law School and Harvard Business School.</font></span></font></p>
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<td width="75%" valign="top"><img src="../images/feldman.gif" alt="Washington Viewpoint by Roger Feldman" border="0" WIDTH="375" HEIGHT="75"><p><b><u><br>
October 2000</u><br>
</b></p>
<p><b><font face="Arial" size="6">Big Bang Bungle</font></b></p>
<p><strong>by Roger Feldman -- Bingham, Dana L.L.P.<br>
</strong><font face="Arial" size="2">(<em>originally published by PMA OnLine Magazine:
2000/11</em>)<br>
</font></p>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">Federal legislation crashed
and burned. One California newspaper headline was "Deregulation
Sucks"; the State legislature subsequently concurred. The leading
State utilities declared that the regulatory regimen had resulted in
losses which could bankrupt them. The stolid New York Times proclaimed a
dwindling faith in deregulation and began to explore re-regulatory
options. Time to ask where we go from here. Perhaps we should be
influenced by how we got here. The mindset of those who brought us to this
dance should be avoided if the deregulation saga is to have a happy
ending. Deregulation as psychodrama; regulatory reform as therapy. Here’s
why….</font></p>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">It would be neo-Freudian to
suggest that the economist sages who coached the dismantling of the two
great regulated industrial megaliths of the last century – Soviet Russia
and the US Power industry – are motivated subconsciously more by
machismo as much as by common sense. The "Big Bang" theory of
privatization/deregulation was that very little will happen in an economic
structure without bold change. Its name may have been meant by these sages
to draw analogy to cosmologist’s theory of universal creation;
neo-Freudians will recognize it as an expression of the James Bond like
aspirations of intellectuals. What was their collective subconscious
thinking? In each restructuring case we have seen sweeping change
undertaken in the face of great vulnerability of the economic engine in
question to structural deficiencies, shortages of capacity and market
fluctuations, all of which common sense and foresight could readily
reveal. Ah prudency….</font></p>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">There are practical
consequences to the power industry of the chosen manner in which
deregulation was introduced. As we enter the post-Thermidor period, we now
"discover" a few basic Big Bang principles:</font></p>
<ul>
<li>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">Deregulation in the
absence of sufficient power reserve margins will result in shortages
which will drive up prices.<br>
</font></li>
<li>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">If market forces are
intended to reduce the shortages, prices cannot be capped.<br>
</font></li>
<li>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">If suppliers must meet
the requirements of markets from an auction pool which is susceptible
of price manipulation, the prices they pay will be higher than they
would be otherwise.<br>
</font></li>
<li>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">If suppliers can get
better deals outside of the mandatory pool through bilateral contacts
outside of the pool - even outside of the market it represents - they
will.<br>
</font></li>
<li>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">If power distributors
are not accountable for prices to end use consumers, they will not
absorb hedging risks to absorb those prices; and<br>
</font></li>
<li>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">If gas prices increase
in a deregulated environment, they will rapidly take power prices
upward with them, triggering all of the "greedy" principles
in the affected markets articulated above.</font></li>
</ul>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">These are a few fallouts of
the nike (Just do it!) approach, we should therefore acknowledge and take
commercial cognizance of today, before it is too late:</font></p>
<font FACE="Palatino" SIZE="1"></font>
<ul>
<li>
<p ALIGN="JUSTIFY"><font face="Arial" size="3"> If new
construction to meet newly "discovered" shortages resulting
from deregulation is all gas-fired, and gas prices are rising, the
price of power may not fall anywhere nearly as far as deregulation
proponents expect as supply and demand come into balance.<br>
</font></li>
<li>
<p ALIGN="JUSTIFY"><font face="Arial" size="3"> If gas become
pricier at the margin, and/or subject to reliability related concerns,
new attention to alternative fuel mixes (notably coal and renewables)
will skew current planning/forecasts pertaining to a deregulated
market. Imbalances may affect projected returns on new units and
ultimately may affect the development of these units.</font></li>
</ul>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">Not only the major power
generation suppliers will be affected. There may be New Economy
corollaries: Online purchasing of house brand or multi-brand products,
power products may lose its allure, if all it gets the customer is a
choice of ridiculously high prices, it will lose its allure. (Similarly,
if price spike reactivated re-regulation surges ahead, e-commerce
applications for retail customers will also lose the attractiveness which
they otherwise would provide.)</font></p>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">Since New Economy
businesses are very electricity-intensive and reliability dependent,
renewed focus on distributed generation applications are to be anticipated
if prices continue to surge.</font></p>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">In short, the major
widespread benefits of deregulation can be lost.<br>
<br>
Certain political consequences may follow, relecting the resulting and
inevitable skewing towards short term and populist fixes in this land of
the free (lunch):</font></p>
<ul>
<li>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">In the absence of a Big
Battery to modulate the Big Bang deregulation effect cf. a strategic
petroleum reserve for electricity, the only apparent way to lower
power prices from a political standpoint will be the worst way from an
economic standpoint: price caps.<br>
</font></li>
<font FACE="Palatino" SIZE="1"></font>
<li>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">Many more Congressional
hearings will be launched. But there will be very slow progress toward
consensus deregulation legislation, since the complexities in making
it work, without some centralized imposition of access and standards,
(similar to that in the natural gas arena) are substantial and
possibly politically unacceptable.</font></li>
</ul>
<font FACE="Palatino" SIZE="1"></font>
<p ALIGN="JUSTIFY"><font face="Arial" size="3">In short, neither trying to
fix the Big Bang with another big bang, or with a myriad of "bang
aids" is likely to work. The way out of the Big Bungle lies in a
non-macho program. Policies must create the right price signals to the
private sector to construct needed transmission as well as generation
assets; to properly stimulate distributed generation; and to take
advantage of the negawatts created by network energy management. In short,
to focus on the operating requirements which the actual electric system
must meet, which is necessary to be responsive in a constructive manner to
the new price signals which the Big Bangers unleashed by instituting
deregulation. This is the challenge which the FERC and the next
Administration must take on. In short, no more Mr. Macho Man, consciously
or unconsciously.</font></p>
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text-align:left"><font face="Arial" size="2">
<span lang="X-NONE" style="color: black">ROGER FELDMAN, Co-Chair of Andrews
Kurth LLP Climate Change and Carbon Markets Group has practiced law related
to the finance of environmental and energy projects and companies for 40
years. In particular, he has analyzed and executed a wide variety and
substantial value of project financings. He chairs the American Bar
Association’s Committee on Carbon Trading and Finance, serves on the Board
of the American Council for Renewable Energy, and has been a senior official
in the Federal Energy Administration. He is a graduate of Brown University,
Yale Law School and Harvard Business School.</span></font></p>
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