In his “State of the State” speech to the California legislature in 2001, then-Governor Gray Davis demanded that lawmakers there make “withholding of electricity” a criminal offense. At the time, California was in the throes of an electricity crisis, made so by its own policies, but Davis, along with Paul Krugman and others chose to blame producers of electricity.The California electricity fiasco has been well-documented in the press, and on this page as well.
Economists like George Reisman have destroyed the many myths that sprang up while the state was suffering through rolling blackouts and extremely high wholesale rates. However, as is usually the case when energy issues come to the fore, in the end the political classes always lay all the blame upon energy producers. (This is logical, as the only other alternative would be for politicians to blame themselves, which is an impossibility in this politicized age.) Thus, it was of no surprise recently when the U.S. Department of Justice indicted Reliant Energy Services for what it said was “a conspiracy and scheme to defraud the California electricity market and its participants and to manipulate the price of electricity in California.”
Attorney General John Ashcroft himself announced the indictment of this economic crime. Thus, while Gray Davis did not get what he wanted at first, in the end the disgraced governor received his supposed “vindication” in the end. However, at the risk of being a voice in the wilderness, let me say that the only fraudulent thing here is the indictment itself. As one who has devoted much of his time to the study of federal crimes, I can say that once again we have a case in which government prosecutors have built a series of “crimes” around an activity that was perfectly legal.
Furthermore, the indictment not only alleges criminal behavior where there was none, but also goes one step further: it attempts to repeal the laws of economics. (In other words, if Ashcroft is correct here, then perhaps one can expect federal goon squads to conduct raids on economics professors whenever they attempt to explain laws of supply and demand.) The charges are based upon the following alleged events, according to the CNN.com article:
… the six-count indictment stems from allegations that Reliant Energy illegally manipulated prices during June 2000 by shutting down two power plants for two days. The move caused electricity prices to rise for the remainder of the week, according to the indictment. Artificially inflated spot prices were then posted for market participants throughout California, including Pacific Gas & Electric Co. in San Francisco. Once those prices were inflated, the indictment says Reliant Energy Services then sold power at the higher prices, the AP reported. The scheme cost California ratepayers $32 million, according to federal authorities.
While no doubt the scenario is perfectly logical in Sacramento and Washington, D.C., it raises some important issues. The first is this: shutting down power plants is costly in and of itself. It is not easy to shut down a plant, and startups also are costly and time consuming. Thus, electricity producers prefer to keep their operations running as long as possible unless the marginal cost of producing electricity is more than what can be received for power in the marketplace. Yet, to give Ashcroft his due, it is obvious that if a plant shuts down, and no other producers increase production, that prices of a product will rise, ceteris paribus (everything else being equal). But even there, the assumption here is that the only reason a company would shut down a power plant would be to purposely take power off the market. In fact, one of the objections to Davis’ demands was that every time a plant shut down for maintenance, managers for the plant would face the possibility of prison, creating its own set of harrowing circumstances, as unsafe conditions would be the norm, since managers would be fearful of dealing with safety hazards that require at least some operational shutdowns. However, there is another problem, one that the government has conveniently ignored. If a reduction in supply of a good, ceteris paribus, leads to price increases, then the addition of supply must lead to price decreases. In other words, if Reliant’s alleged actions first led to price increases, then when Reliant’s plants came back on line – and other producers rushed into the market to take advantage of the price increases by providing more electricity – the prices would then fall. Unless there were government interference in the market for electricity, withholding electricity in order for a company to enjoy higher prices would be a self-defeating strategy. As noted previously, not only would the addition of later supplies drive down the price, the higher prices would entice companies selling electricity elsewhere to divert their supplies to California, thus placing more electricity for sale than had been their previously. Second, since shutdowns and startups are costly activities, companies like Reliant that would use such strategies would likely be making themselves worse off in the long run. That is because the gains from higher prices would be short-lived at best, and when one factors in the startup and shutdown costs, then the company would ultimately earn a lower net income than it would have received had it kept the plant on line. Now, I am not saying anything that would be particularly profound, at least to an economist or someone in the electricity business. Furthermore, the article does not say if the “scheme” even worked. Yes, it does say that prices rose, but it does not say that later they came back down. In other words, if Reliant had the “power” to “manipulate” the market, as the DOJ indictment alleges, then why did electricity prices eventually fall, as was the case in California, and prices were falling even before the government stepped in with unwise price controls over the western power grids. The California electricity crisis provided the opportunities for people to learn about the dangers of price controls. Instead, we have learned yet another lesson about the political classes and how they will “manipulate” the political “markets” (if I may use such a term) to turn the truth on its head. Furthermore, this indictment sets a very bad precedent in the energy markets as a whole. That is because the United States has not seen a new oil refinery built since the Gerald Ford Administration in the mid-1970s, and refineries are being pushed to the limits. That means that any time a refinery is temporarily shut down for explosions, accidents, or even simple maintenance, that the DOJ now is going to look to see if criminal indictments can be handed down against oil producers for “withholding fuels.” As the power of governments at all levels has grown exponentially in recent decades, so has the prison population of this country. That is no accident. Today, we see more and more the government using criminal charges as a way not only to punish supposed “criminals,” but also to engage in political manipulation. The Reliant indictments simply are another cog in the giant wheel of federal injustice.
