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Volt Revolt

As experiments with deregulation sputter, a new generation of municipally owned electric utilities is emerging.

The city of San Marcos, up in the desert hills north of San Diego, seems an unusual place for a rebellion. It's a conservative community of 55,000, where newcomers flock to take advantage of good schools, low taxes and mild weather, and to live content lives on suburban cruise control. It takes a lot to push a place like San Marcos over the edge. Apparently, soaring electricity rates and blackouts, the results of California's power crisis, were enough.

San Marcos has had it--had it with San Diego Gas & Electric, the private utility that has served the city for more than a century. And had it with the state government, which since the crisis struck has been buying power for Californians at inflated rates. So San Marcos has decided to go it alone. The city is forming its own electric utility. It wants to take control over the poles and wires that feed electricity to all new homes and businesses that get built inside its borders. And it is buying an $18 million stake in a new power plant up the road in Burbank--a plant that will be owned not by private utilities or the state but by San Marcos and six other Southern California cities.

San Marcos is declaring its energy independence. Public power, officials there believe, will be cheaper. More important, it will shield residents and businesses from disruptive blackouts of the sort that rolled across California a year ago. "Local control" is the new mantra around city hall. "We think we can do a better job," says Rick Gittings, San Marcos' city manager. "And if we make a mistake, it will at least be OUR mistake."

The electricity rebellion is spreading. Around California, a handful of cities are forming municipal utilities and dozens more are looking into it. In San Francisco, voters thwarted a power coup last November by just 500 votes, leading organizers to regroup for a second try. Meanwhile, a handful of Florida cities are looking at public power, as are cities in New York, Kansas, Michigan and Oregon.

Nationwide, public power is enjoying its greatest surge of interest in 80 years. California's power crisis is one reason for the jolt--but not the only reason. Cities in Florida are reacting to bad service from their private utility and are taking advantage of a one-time opportunity in their franchise agreements to look at acquiring control. Meanwhile, some cities are reacting to a recent wave of energy industry sell-offs and mergers, which in many places means that local utilities are owned by giant corporations with distant headquarters. "Local leaders are trying to take control of their energy destiny," says Alan Richardson, president of the American Public Power Association. "They're tired of energy decisions being made by companies thousands of miles away where 'they can affect us but we can't affect them.'"

In the current environment, public power is an idea that appeals to both liberal and conservative sensibilities. The San Francisco campaign, as you might expect in the Bay Area, took on an air of the Paris Commune. Ballot organizers vilified "profit-hungry" energy companies such as Enron and vowed to wrest control away for the common good. In more conservative towns such as San Marcos, what resonates is the idea that government screwed up deregulation. For them, public power is a form of devolution that lets energy decisions lie where they are felt the most: at the local level.

At the same time, however, the electricity market is more volatile and dangerous than it has ever been. And while public power potentially carries significant benefits, there are also substantial risks. Is a small city like San Marcos up to the task? "The city's financial estimates assume that everything will run perfectly," says Lisa Briggs, vice president of the San Diego County Taxpayers Association, noting that deregulation, until recently, was expected to work well, too. "But what if something goes wrong? At this point, the risk involved just doesn't pencil out. It looks to me like poor public policy."

While many municipal officials point to the success of Los Angeles, which has had public power since 1916 and emerged from the crisis unscathed, Seattle's recent experience provides sobering evidence of how topsy-turvy the new world of public power can be.

Like many public power cities in the Northwest, Seattle gets most of its power from hydroelectric dams. But a severe drought last year reduced dam output, forcing Seattle City Light, along with many other public utilities, to buy power from the same volatile market rattling California at the time. Seattle paid out the nose, quickly running up a $530 million tab. Wholesale power that normally cost about $25 per megawatt-hour shot up as high as $2,000.

Seattle City Light, which celebrated its 100th birthday in March, was long proud of its low retail rates. Compared with Puget Sound Energy, the largest private utility in the area, Seattle's rates had consistently averaged about 25 percent lower. That changed in just a few short months. The city was forced to tack a series of rate hikes totaling nearly 60 percent onto its customers' bills. Today, City Light's rates still come out lower than those of Puget Sound Energy, but just barely.

Even worse, the crisis left the city utility's finances in shambles. City Light borrowed money just to pay operating expenses, digging itself deep into debt. Standard & Poor's downgraded the utility's bond rating twice. A city council audit is now investigating how City Light got into such a mess.

Not all public utilities in the region fared so badly. Tacoma's utility had hefty cash reserves, so when wholesale power costs skyrocketed, it didn't need to borrow so much. Tacoma officials also swallowed the political poison of a rate surcharge much earlier than Seattle did. It may have tasted bad at the time, but the debt was paid down quickly (the surcharge was removed last September). And Tacoma aggressively sought alternative power sources, setting up a temporary "generation farm" of diesel-powered generators wheeled in on 8-by-40- foot truck trailers. "We got out there early," says Steven Klein, Tacoma Power's superintendent. "At the time, there weren't any articles about Enron or about the California situation."

Public power has been around almost as long as the light bulb. The first municipal utility formed in 1882. In the following decades, thousands of localities followed suit, putting up poles and wires in an electrification frenzy that sometimes left cities with one public electric company and several private ones. Consolidation swept the industry in the early 20th century, and by the 1920s, the power landscape looked more or less as it does today. More than 2,000 communities have public power in one form or another, where the power company is an extension of local government. Private corporations or rural cooperatives serve the remainder.

Public power keeps the lights on in one out of seven American households, ranging from cities as large as Los Angeles to places as small as Hartley, Iowa. Although rates vary from place to place, public utilities charge on average 8 percent less for electricity than privately owned utilities do. This is partly because public utilities don't need to turn a profit or pay dividends to shareholders. It is also because they enjoy access to tax-exempt financing that private utilities don't.

This prospect of lower rates has driven scores of cities to look at "municipalizing" their utilities. Yet very few have pulled it off. The reason, quite simply, is that the privately owned utilities don't want them to. They are afraid of losing customers. What's more, since the private utilities own the poles and wires, they hold all the cards. Cities must go through a messy condemnation process, which the private utilities can sometimes drag out for decades. Most of the time, local officials who embark on a municipalization drive either get worn out-- or voted out--before they're successful.

Consider Las Cruces, New Mexico. Upset with the rates charged by its local private utility, Las Cruces began investigating public power in the late 1980s. In 1994, the city offered to buy El Paso Electric's distribution system. The utility balked, so the city tried condemning the poles and wires. The two sides duked it out in court for years before finally calling a truce in 2000. Las Cruces agreed to keep El Paso Electric as its utility, although in exchange, the utility had to pay the city $21 million for its legal bills and other expenses.

Despite the obstacles, dozens of cities are currently looking at municipalization. A significant number of them are in Florida. The movement there is fueled by a quirk of local franchising law. In the next few years, franchise agreements between some 44 cities and the private Florida Power Corp. are expiring. The old agreements gave each city the right to buy out their portion of the utility. Most cities are waiving their option, but several, including Bellair, Casselberry and Winter Park are pursuing what they see as a one-time opportunity. Florida Power has each of them tied up in court. "We won't make another decision this big for decades," says Winter Park commissioner John Eckbert. "We haven't had reliable power at reasonable rates for some time and this is our one chance to secure that."

As San Marcos gears up to battle San Diego Gas & Electric, the city is trying a different approach than that of Las Cruces. Rather than condemn the utility's existing poles and wires, the city is focusing its efforts on new development only. After builders put the finishing touches on housing or commercial developments, they would turn the electrical infrastructure over to the city, not SDG&E. This won't change much in the short term, since existing customers will stick with SDG&E. But as San Marcos continues its rapid growth, city officials figure they will take more and more of SDG&E's business.

The other piece of San Marcos' plan involves generation. During the California crisis, the cities that had their own power plants, such as Los Angeles, fared the best. They had the luxury of staying out of the volatile wholesale market where power prices peaked at 100 times their normal levels. They also avoided rolling blackouts. Seeking to bolster their energy independence, seven Southern California cities are banding together to build a massive 250-megawatt power plant, known as the "Magnolia Project." In addition to San Marcos and Burbank (the host city), Anaheim, Cerritos, Colton, Glendale and Pasadena are also in on the deal. San Marcos bought an $18 million stake in the $215 million plant and expects to receive 20 megawatts--enough to serve 20,000 homes--when the plant opens in 2004.

The idea is for San Marcos to pump this power into the homes of its new customers. Whatever is left over, the city will sell back to the wholesale market. Revenues from those sales will be refunded to San Marcos residents still served by SDG&E in the form of an "energy credit." Revenues will also help pay off the city's share of the power plant. "We think we can lower rates," says city manager Gittings. "And with strategic partnerships in the municipal utility world, we could provide a more reliable system--one that does not rely on a profit motive."

SDG&E is irate. Afraid that San Marcos might set a precedent for other cities in its territory, the utility hopes to crush the plan. SDG&E threatened to sue if the city moves forward on acquiring the new poles and wires. And it countered claims by the city's consultant that ratepayers stood to save $30 to $40 a month. In reality, a report by SDG&E declared, ratepayers would pay much more. "This is a pricey experiment," says SDG&E spokesman Art Larson. "It leads the taxpayers of San Marcos into an expensive minefield that's littered with doubt, risk and uncertainty."

In truth, there are substantial risks. San Marcos is depending on getting a good price for its power on the wholesale market. Yet in recent years, the wholesale market has both soared and crashed. Uncertainty about San Marcos' plan grew even more in February when the city's consultant revised its numbers downward, showing that ratepayers might expect to save only $10 or $15 a month. The disappointing news prompted the city council to let voters decide whether developers should be required to turn over power lines. That ballot is sure to be one of the most hotly debated and closely watched in California this November. "If the city can show with certainty that it can deliver services in a cost-effective manner, then we're all for it," says Briggs of the taxpayers association. "But you could easily see this thing turning upside down. Then everyone's on the hook, not just the new residents but the whole city."

Seattle, meanwhile, is getting a handle on things at City Light. The utility will build up a rainy-day fund (or in this case, a dry-day fund) in case crisis strikes again. It signed long-term power contracts in order to shield ratepayers from short-term volatility. And just as an investor would diversify between stocks and bonds, Seattle is reducing its reliance on hydropower. The city signed the nation's largest public-utility deal for wind power and is buying power from a natural gas-fired plant in Oregon.

For all the tough times, however, Seattle's commitment to public power is not waning one bit. If anything, it has only grown stronger. Heidi Wills, chairman of the city council's energy committee, notes that Seattle chose to protect low-income residents from the rate surcharge--a choice that a private utility with shareholders might not have made. Local control, it seems, didn't spare Seattle from suffering the power crisis. But it did let Seattle decide for itself how it would suffer. "Our utility's board of directors is the city council, elected by their customers," Wills says. "We're in a unique position to take into account all the values of our customers and our community."

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