Asleep at the switch

Gray Davis didn’t cause California’s power crunch. But his myopic leadership helped turn a problem into a disaster. Now he has to solve it.

Gov. Gray Davis

Gov. Gray Davis

Bill Bradley is an analyst and consultant who has written extensively on California politics.

For such a momentous event in his governorship, Gray Davis was remarkably alone. When the governor announced his master plan to solve the power crisis a little over a month ago in the Capitol’s traditional press conference locale, a packed Room 1190, no one joined him on stage.His plan sounded all encompassing and in some ways was, but significant aspects of it simply haven’t proved out. By turns masterful, as when he discussed his newfound interventionism in calling for a state takeover of the power grid, and surprisingly nervous, as when he stuttered and asked an aide what the book value of the grid was, the pale and intermittently poised Davis was at once in command and at sea.

The once very accessible Davis, now shielded by a bureaucratic phalanx, isn’t talking about his feelings now. But this can’t be what he conceived for his governorship, the culmination of what he once called “nearly 20 years of work to move 20 feet” down the hall from his office as Jerry Brown’s chief of staff to the Governor’s Office itself.

Gray Davis had a very different sort of governorship in mind when he won his 1998 landslide victory. Raise tremendous amounts of campaign cash, stay out of the way of business and preside over big budget surpluses derived from the flush new economy. Raise tremendous amounts of campaign cash, place himself at the head of the education reform parade. Raise tremendous amounts of campaign cash, win another landslide victory in 2002, and see what happens in 2004. Simple. He certainly never anticipated finding himself in the middle of what even some of his own associates describe as problematic negotiations to take over the power grid owned by California’s reeling private utilities.

With the ballyhooed new economy sagging, and amid the disaster of California’s electric power deregulation, our avowedly middle-of-the-road, don’t-rock-the-boat governor finds himself in a desperate scramble simply to keep the lights on. Increasingly, he is pushing government directly into the energy business in order to do so. Right now, he is negotiating for a state takeover of the power grid long owned by Southern California Edison, San Diego Gas & Electric, and Pacific Gas & Electric.

After early waffling, Davis has embraced the proposal for a state public power authority offered in January by Treasurer Phil Angelides and Senate President Pro Tem John Burton. After earlier pushing a more innocuous plan for the state to bail out the private utilities in exchange for stock options, Davis has embraced another Burton and Angelides proposal, this one to buy out utility transmission lines, further disrupting their former monopoly power, giving the state some leverage over out-of-state power generators, who oppose the plan, and placing the state in position to upgrade and expand the grid more cheaply than the utilities.

The public, of course, will pay for these needed moves whether the grid is owned by the utilities or by the state. Davis was already engaged in a full-court press to buy power in lieu of the credit-less utilities, promote conservation, and bring a host of small “peaker” plants on line to forestall a real meltdown with the coming summer crunch of summer air conditioning. He is in the middle of tremendous activity, but much of it is flawed, and all of it is late, too late to avoid even more damage to the state.

He has not come out against a recent unanimous decision by the state Public Utilities Commission to raise allow Southern California Edison and PG&E to hike rates by some 30 percent—on top of other increases amounting to nearly 20 percent—despite his long-standing stated opposition to raising rates. Many observers note, however, that the PUC—three of whose five members are Davis appointees—wouldn’t have acted without his approval. Davis, they agree, is simply trying to distance himself from any political fallout resulting from the rate hikes.

Davis, of course, is not responsible for the debacle that is California’s electric power deregulation. (Though he did get the Democratic Party to oppose consumer advocate Harvey Rosenfield’s 1998 anti-deregulation initiative.) That was pushed by his Republican predecessor, Pete Wilson, and finally embraced by legislators of both parties in a festival of policy aphasia, media neglect, and a massive blitz of special interest lobbying. But Davis is responsible for his own response to the crisis.

Gray Davis didn’t exactly fiddle while Rome burned. But he did miss the tornado looming on the horizon until it was nearly upon him. The size of the tornado, incidentally, increased earlier this year when, in an event missed by the media, Southern California Edison’s San Onofre nuclear power plant on the coast north of San Diego suffered a major accident. A fire and electrical failure caused the emergency shutdown of one of its two reactors. That reactor, which powers 1.1 million households, will end up being offline for at least the first five months of the year. The state will end up paying at least $500 million for replacement power.

Davis press secretary Steve Maviglio sees things differently, pointing out that just months into his term the governor approved “the first major power plants in California in 14 years,” noting that he was engaged with the crisis when it first emerged last spring in San Diego and “pushed the Federal Energy Regulatory Commission for months to do something about wholesale power rates.”

“So much of this was outside our office,” says Maviglio. “President Clinton had always delivered on every single item the governor had ever asked.” Up until he asked for federal price caps on electric power, that is. Yet it is undeniable that the brewing power crisis was not on the horizon scanned by the governor’s view.

After becoming governor just over two years ago, Gray Davis pursued a political method of focusing on a narrow and poll-driven agenda, focusing largely on education reform, a topic with which he engaged in the most summary fashion in the primary election, calling for parent-teacher contracts on kids’ homework, before adopting it as a focus in the general election.

According to a number of his past and present associates, Davis is most engaged by subjects “right in front of him.” In politics, polls tell the pros, which Davis most certainly is, what’s on the top of people’s minds. These are the obvious issues, heavily masticated by press and pols alike. It’s a good way to skim the surface of a mostly detached, traditionally contented electorate. But it is not a good way to anticipate the future. Yet it was a method that served him very well as a candidate in defeating several favored opponents. Staying tightly “on message” was what he knew.

“Gray doesn’t have ideas,” says one longtime associate. “But he does implement well.” The tight focus of the Davis governorship, wholly in keeping with his personal and political style, was praised by opinion leaders as a sign of discipline.

“Energy was not important to Gray,” says former state Senator Tom Hayden, who worked with Davis during the Jerry Brown administration as head of SolarCal before clashing with him during his governorship. “His moving very deliberately and narrowly was seen as good evidence that he was focused. Things aren’t always conspiracies,” he notes. “Sometimes they’re just the result of very mundane circumstances.”

Because he was relatively narrowly focused, Davis’ appointments to his new administration mostly proceeded at a rather slow pace. This was especially true in the energy field, which another longtime associate, confirming Hayden’s view, says was an historical “red-flag area” for the governor. “He saw that Jerry got in hot water with his appointments and anti-nuke policies, and he saw no need to do much on energy besides using the budget surplus to give more money to programs. The field didn’t interest him. To the extent it did, it was an area of confrontation to be avoided.”

Davis’ predecessor, former Gov. Pete Wilson, pushed hard for deregulation.

As a result, Davis’ energy appointments were striking in their tardiness and lack of imagination. He is compensating now by paying a whopping $10 million in fees to private consultants on the power crisis, including current and former Edison executives now representing the state in dealings with Edison and other utilities.

Davis reappointed Pete Wilson’s Energy Commission chairman, William Keese, a veteran Republican lobbyist who presided over Wilson’s disastrously wrong 1998 California Energy Plan, which boasted of Wilson’s legacy of electric-power deregulation and forecast lower prices and a declining rate of growth in electricity demand, the latter being a particularly odd prediction for a state that was then becoming the world’s sixth-largest economy. Since it’s the Energy Commission’s job to forecast California’s energy future, Keese’s record would not seem to recommend him to a Democratic governor. Davis left another commission slot vacant for months before making a hurried appointment.

To the Public Utilities Commission, regulator of the state’s utilities, Davis appointed two political loyalists with little energy expertise: lawyer and veteran political operative Loretta Lynch (now PUC president, increasingly lauded by environmental and consumer groups), who worked for Davis in his campaign and first served as director of the governor’s Office of Planning & Research, and Carl Wood, an early supporter and utility-workers-union official. He made his third appointment earlier this year—Jerry Brown’s cousin, longtime San Francisco Public Defender Jeff Brown. But this, too, was a heavily political appointment, as Jeff Brown also had little energy expertise.

Indeed, one top Democrat says he was appointed as part of a complex political maneuver to enable the governor “to make nice” with his frequent antagonist, John Burton, whose daughter wanted to become San Francisco’s public defender. Sure enough, as soon as Davis appointed Jeff Brown, San Francisco Mayor Willie Brown appointed Burton’s daughter, Kimiko, to replace him.

With all of his appointees, Davis has enforced something of a gag order. His inner circle of top political advisers aside, no one is to speak without clearance from the governor’s press office. Indeed, according to someone who was there, Davis made an example of Resources Secretary Mary Nichols early on, chastising her at a Cabinet meeting for announcing a policy initiative consistent with his agenda without clearing it with him first.

So it is no surprise that key sources on this story asked to remain unnamed, fearing disapproval from the Governor’s Office. “They’re like church mice,” says one Democratic legislator (who himself asked to remain anonymous).

As Davis pursued his tightly focused policy agenda, he also pursued a huge political agenda, serving as state chairman of Al Gore’s presidential campaign and pushing and opposing initiative campaigns. But his real agenda was political fundraising, some of it for Democrats, most of it for his own re-election. Davis has smashed all fundraising records, amassing over $26 million since his election.

Davis pollster Paul Maslin rejects suggestions that the governor’s energy policies have been tainted by the roughly one million dollars he has raised from utilities and power generators, money that he has stopped taking since the onset of the power crisis. “He raises money across the board,” says Maslin. “When you do that, no one’s getting special favors.”

Perhaps so. Yet the governor’s penchant for fundraising has a real effect on his leadership style. Political fundraising occupies a huge share of his mind. Says one Democrat who has known Davis for decades: “Gray sizes people up as he walks down the hall. ‘Is that a $1,000 person, a $10,000 person…?'”

With much of his attention focused on fundraising and his relatively narrow policy agenda, without a strong energy policy team, Davis proceeded to miss several boats with which he—and we—might have cleared the harbor before the storm hit.

But once the growing storm became apparent last summer, the governor looked primarily to Washington and his allies in the Clinton administration for relief. This turned out to be a major mistake. The Clinton energy team, most notably in the form of then Energy Secretary Bill Richardson, did end up helping the state tremendously by ordering power generators to continue supplying electricity to the state even after the states’ utilities, drained by sky-high wholesale prices, stopped paying. But the Federal Energy Regulatory Commission, dominated by market-oriented policymakers, declined to cap those skyrocketing wholesale prices. Davis spent months tilting at that windmill.

Meanwhile, the opportunity to lock in affordable prices through long-term contracts was being lost. The PUC did vote last summer to allow the big utilities to enter into long-term power contracts, which they had previously not done as part of the deregulation scheme. Such contracts would have saved billions of dollars. But Davis did not press the utilities to enter into those contracts.

The utilities chose to delay. During Assembly oversight hearings in February, put in play by Speaker Bob Hertzberg, who, unlike Senate leader John Burton, has been relatively sympathetic to them, utility representatives complained that they could not receive assurances from the PUC that they would not be second-guessed on the terms of the contracts if they looked too generous in retrospect. PUC President Lynch counters by noting that her agency authorized the utilities to go forward and that that action would certainly look very good today.

While the governor focused on his hoped-for deus ex machina in Washington, the Legislature, while very much in the act today, took a very short-term view last year, choosing only to pass a short-term bailout for San Diego Gas & Electric and its customers, who felt the impact of deregulation first when their rates went up last year.

Davis saw that he really was on his own, according to gubernatorial pollster Maslin, when the U.S. Supreme Court ruled against Al Gore in the Florida recount last December, which handed the presidency to George W. Bush. Not only would Davis not be able to make his case to a friendly President Gore, to whom California’s treasure trove of votes delivered a clear victory in the national popular vote, he would have to contend with Bush’s radical capitalist ideology, oil industry background, and political and financial closeness to the Southern cartel of power generators running up the price of electricity in the California market. “It was obvious that things would be very tough,” says Maslin.

Davis went through several permutations—including delivering a State of the State address that included not a word of criticism of the big utilities, which lobbied through the deregulation debacle—before finally embracing an approach dependent on a high degree of government intervention that, say his advisers, he would probably never have gone for even a few months ago. Within the political establishment, Burton and Angelides brought significant pressure to bear for direct government intervention. And Davis was forced into the emergency-power-buying business by the utilities’ lack of creditworthiness with power generators.

Outside the establishment, consumer advocate Harvey Rosenfield, a former Ralph Nader disciple and veteran initiative promoter, frightened politicians with serious talk of an omnibus energy initiative in the 2002 election. But of at least equal importance to Davis’ shift to more social-democratic policies were the results of extensive polling and focus group research.

Former SMUD maverick David Freeman now serves as the governor’s chief negotiator with power generators.

Polls for newspapers indicated that most Californians blamed the big utilities and believed that power companies manipulated the situation to drive up prices and create a crisis. Private research indicated still more.

“We found,” says Maslin, “that even some people who don’t like government have had enough. They want a sense of control. They think government can give them that and the market’s given them chaos.” Especially telling was a focus group with middle-aged, middle-class white men, who often disdain government programs and wax enthusiastic about individualism and private enterprise. Not this time. In the face of the market power of the big energy companies, they wanted strong government intervention to reassert a sense of control.

Yet, even with his newfound activism, Davis may be continuing to miss something that he very much missed last year—the underlying crisis of the natural-gas market. In addition to directly providing heating and cooking fuel for many Californians, natural gas, the cleanest burning of the conventional fossil fuels, has become the fuel of choice for electric-power generation in California.

Several legal actions seek to prove that natural-gas marketers have been manipulating the market in California, including collusion to kill a big pipeline project in 1996 that would have limited gas prices. They are “pushing gas prices to the top of what the market will bear,” California Energy Commission officials say. Natural-gas prices, which went up around the nation, go up magically by a factor of two or three when the gas hits the California border.

Natural gas may be the center of future problems for Davis and California as well, points out former Sacramento Municipal Utility District President Ed Smeloff, now head of New York’s Pace Law School energy project.

There has been no public review of the long-term power contracts negotiated by L.A. Department of Water & Power chief Dave Freeman, the former SMUD general manager who served as Davis’ chief negotiator with the power generators. There was a definite need for confidentiality while the contracts were being negotiated, since Freeman needed to leverage one member of the cartel against another. But when negotiations are completed—despite Davis’ pronouncements, many have not been—it seems like good public policy to have Freeman come forward before a legislative committee and explain the structure of the contracts. Some of the contracts are very long-term, up to 20 years. Most of the power plants tied to these contracts use natural gas. “Whether the prices negotiated in these contracts turn out to be beneficial in the future,” points out Smeloff, will depend on whether gas prices are higher or lower.”

Some around Davis, like Freeman, have an idiosyncratic view of natural-gas pricing. Freeman believes that the oil and gas producers in Texas exaggerate estimates of known gas reserves and that prices are likely to go much higher in the future. Many others believe that there is a continental market for gas, with Southeast gas competing against Canadian and Rocky Mountain gas with many players in the market. Indeed, energy consultant Jim Caldwell suggests that the Davis administration should look to “the blue-eyed Arabs” of Canada’s Alberta province for future deals. But Davis’ sudden rush of activity may preclude that.

“Freeman is brilliant and an able negotiator,” says Smeloff, who recruited him to manage SMUD, “yet his view needs to be checked and balanced by the sunlight of democratic review.” The contracts he is proposing to enter into, some $43 billion worth, are the largest long-term commitment of public funds for the purchase of electricity in history. (Though it’s not clear that the state will pay all or even most of that money, once the utilities are stabilized and can begin paying for power again.) In the end it may turn out to be reasonable to accept higher prices for electricity in later years for more stability over this summer and next. But that tradeoff should be made explicitly by elected officials.

A great deal of new drilling for gas is underway in the U.S. and Canada. Most analysts expect the price of natural gas to drop in the next two years. If that is the case, then the contracts California may enter into will be way over market price.

On the other hand, some skeptics believe that gas prices will not drop that low because of increased demand for gas in the power sector. Whatever the case, this issue deserves far more public airing than it’s gotten. Davis and Freeman should articulate the view of the negotiating team as to why the deals will be beneficial over the long run.

Probably the worst-case scenario for California is to enter into long-term high-price contracts and then have the price of natural gas drop considerably in a year or two. Many industrial customers will then be tempted to self-generate, which is becoming easier to do with advances in technology. That could leave residential and small-business customers holding the bag for the contracts the state is entering into.

It’s clear that events in California’s power crisis are happening too swiftly and too slowly. Too swiftly for informed, democratic decision-making. Too slowly for the pace of events.

As is his custom, Davis called his recent announcement of some long-term power contracts “a major breakthrough.” But the situation is still far darker than he describes, with deals to take over the Southern California Edison and San Diego Gas & Electric transmission lines still incomplete, Pacific Gas & Electric still balking, real concern in his own ranks about the negotiations with all the utilities, and the long-term contracts he has coming in much higher than his target price and leaving the state still looking to the exorbitant spot market for the summer. In fact, some of the contracts he says he has are denied by the companies. And looming over all is a supply problem with the coming summer air conditioning crunch.

The more we wait, the more we pay. And the out-of-state power generators that bought much of the state’s generating capacity after deregulation want every dime they are overcharging for. In the short term, Treasurer Phil Angelides is pursuing bridge financing. In the longer term, a big revenue bonds deal is to reimburse the general fund for all these emergency short-term purchases. But the total is swiftly mounting.

More than $4 billion from the state’s general fund has been spent since January to buy power on the spot market on an emergency basis. The state is buying about a third of the power used by customers of Southern California Edison and Pacific Gas & Electric, both of which have been denied credit by suppliers who haven’t been paid by the reeling utilities. The plan is for the state to recover those short-term costs not covered by consumer payments flowing to the utilities—which the utilities still haven’t passed on to the state—by issuing $10 billion in revenue bonds in late May, with the balance going to finance cheaper long-term contracts. What balance is left, that is.

The long-term contracts that have just been agreed to are at much higher rates than the governor’s oft-declared goal of 5.5 cents per kilowatt-hour. Indeed, the price over the first five years is a whopping 44 percent higher.

And a Davis source concedes that long-term contracts lauded by the governor won’t cover much of the coming crunch time—summer peak demand, when some 30 to 45 percent of the state’s power will still have to be bought on the expensive spot market. Other estimates of the shortfall are higher.

“Energy was not important to Gray,” says former state Sen. Tom Hayden, who clashed with Davis while serving as head of SolarCal for former Gov. Jerry Brown.

There’s yet another pitfall with these deals. “Signing all these long-term contracts tied to natural gas may shortchange new investment in renewable technology,” notes Center for Energy Efficiency and Renewable Technologies Director V. John White.

While the Public Utilities Commission works to get Edison and PG&E to pass on the money they are collecting from ratepayers to partially reimburse the state’s buying power for them in the expensive spot market, Treasurer Phil Angelides is working to arrange short-term “bridge financing” to reimburse the state’s general fund for the billions flowing now to out-of-state power generators to keep the lights on. “We intend to have $4 to $6 billion in short-term loans from banks and financial institutions in place by the end of the month,” says Deputy Treasurer Cathy Calfo. Assuming there is no delay, that is.

These bridge loans are to be paid off by the proceeds from what will be the biggest municipal bond sale in U.S. history, the $10 billion revenue bond sale slated for May to finance the state’s long-term power contracts.

One way or another, as you see, the Southern cartel of out-of-state power generators will get the money they say they are owed. But they insist on getting their money upfront, as well.

Davis says that one or two power companies will accept partial payment. It’s not clear which companies those might be, and Davis won’t say. What is clear is that some of the biggest players in the power business say they will not accept partial payment. Enron, Reliant, and Duke Power all say they won’t take a penny less than they are owed. And they have engaged in heel dragging on long-term contracts for more affordable power to try to assure that they will be paid for all the power they’ve already provided at their gouge-plus rates.

Enron, incidentally, is headed by George W. Bush intimate Ken Lay, an old Texas buddy of the new president who helped lobby through California’s deregulation scheme. Lay and Enron have provided over half a million dollars to Bush, along with his campaign plane. Lay is regarded as the most influential member of the Bush Energy Advisory Team. He took notable pleasure in turning Davis down when the governor phoned him asking for support of California’s takeover of the power grid. Reliant, yet another Texas firm, boasts as an influential board member one James Baker, U.S. secretary of state in the administration of George Bush the Elder and, more recently, the Bush family field marshal in blocking the Florida recount.

Why isn’t Davis making the Bush connection a big issue? One Davis advisor says they simply need to work with the new administration, which most experts say holds the ability to block a state takeover of the power grid. One potentially good sign is that President Bush will almost certainly replace his initial choice as head of the Federal Energy Regulatory Commission, who was very hostile to the grid takeover.

And why aren’t Edison and PG&E making more of an issue of the Big Gouge? (After all, the Southern cartel is refusing to sell to them.) Because they are part of the high-flying power generators’ club now. With the once conservatively managed Edison now transformed into Edison International and Mission Energy, the Edison crew has invested in fossil-fuel plants in Mexico and throughout Asia. And PG&E has done much the same, emerging as a huge force in the power markets of the Northeastern U.S.

Indeed, PG&E is now the fourth-largest electricity marketer in the nation, just behind Duke and ahead of Reliant. Enron is number one.

What of the state’s proposed takeover of private utility transmission lines?

“I’m not feeling better yet,” says one Davis associate of the overall utility negotiations. There is significant disagreement within the Davis circle about these negotiations. Some around the governor think the tentative deal to buy Edison’s transmission lines he announced last month was too soft and favorable toward the corporate giant, though the governor’s negotiators toughened up some as events progressed.

With regard to the glacial PG&E negotiations, a Davis advisor describes the utility’s position as “a ridiculous wish list.” After first refusing to consider a sale, PG&E reportedly wants a whopping $10 billion for its transmission lines.

Finally, there is the shortfall in supply. One good sign for Davis is that California’s electric power consumption dipped 8 percent last month, a heartening development, if still short of the governor’s goal of a 10 percent reduction, which he announced in February on Meet the Press.

We shouldn’t have had the problems we had last winter. In 1996, when deregulation was passed, California’s private and public utilities owned 46,000 megawatts of generating capacity, half again as much as needed to meet peak demand in the winter. But the private utilities chose to sell off much of their generating capacity, investing much of the proceeds in projects outside the state. The out-of-state firms that bought their former California plants have manipulated the market, keeping plants off line for unusual amounts of maintenance and driving up prices.

The governor could use the police powers he has under the state of emergency he declared in January to force plants to produce power and seize them if they do not. But, while he has made a few rhetorical allusions to it, he has shied away from such drastic action, though that may well be what is necessary to convince power companies to deal with the state in good faith.

However trumped-up the blackouts of winter may be, we definitely have a problem in summer, with air conditioning driving the state’s peak demand 50 percent higher than it is now. The Davis plan to deal with this includes the 10 percent reduction in demand from conservation and a crash program to bring 5,000 megawatts of new generating capacity online through small “peaker” plants. The state is off to a very late start in securing such plants, and the goal most likely won’t be met.

Meanwhile, the Legislature is scuffling. While erstwhile deregulation champion Senator Steve Peace (D-San Diego) warns that “the Lone Star flag will fly over the Capitol dome” unless the governor seizes Texas-owned power plants, which he shows no sign of doing, the drain of state resources into the exorbitant spot market will continue.

Also, frequently cited agreements to pay renewable power producers are not yet in place. Unlike the utilities, with the plants they didn’t get around to selling, and the out-of-state power companies who bought the utilities’ former plants, they haven’t been paid in months. And, aided by one Democratic absence and a couple of quibbles, Senate Republicans succeeded for now in narrowly blocking a $1 billion energy conservation program requiring a two-thirds emergency vote.

Though his demeanor doesn’t always reflect it, Governor Davis says he is on top of things. The reality is that he has a long way to go. The man who elevated Davis to the top ranks of politics, former Governor Jerry Brown, now the mayor of Oakland, defends his former chief of staff, though Brown’s views on energy are much more progressive.

“He’s in a difficult spot,” says Brown. “He was slow off the mark, but he’s very intelligent and capable. This thing hit a lot of people by surprise.” That seems a generous point of view, especially given the sometimes chilly relations between the two men.

Had Davis had a broader field of view, a more anticipatory approach using the vast resources at his disposal, he might not have found himself so far behind the curve at the beginning of the year. But we are where we are, and the governor is moving forward. Pray that it is enough.