Top energy regulators and industry officials debated the causes of last year’s record high gas prices in California during a House subcommittee hearing last week that featured a thorough review of the El Paso market manipulation case and all the issues contributing to the serious natural gas market malfunction. FERC Chairman Pat Wood said he does not see a need for legislative action. He believes last year’s high gas prices were the result mainly of multiple supply and demand factors and a mismatch between interstate and California intrastate pipeline capacity, which state LDCs and regulators are in the process of correcting.

“The Commission has consistently urged the State of California to eliminate any disincentives that may prevent expansion of intrastate infrastructure and provide relief to California customers,” Wood told the Government Reform subcommittee on Energy Policy chaired by Doug Ose (R-CA), echoing comments made by interstate pipeline representatives. Wood said that recently the California Public Utility Commission (CPUC) has made some progress. The CPUC recently approved a new merchant storage project, and Southern California Gas Co. (SoCalGas) has several intrastate pipeline expansions underway that will add 375 MMcf/d to the in-state grid, he noted, indicating that this would help solve the problem.

However, Gay Friedman, senior vice president of legislative affairs for the Interstate Natural Gas Association of America, told the subcommittee the CPUC is up to its old tricks and continues to erect barriers to new pipeline capacity development, placing the state in danger of facing continued market problems. She noted that SoCalGas recently replaced a controversial back-up residual load service — which increases rates on customers who bypass the LDC with service on interstate lines — with a new peaking service, which “still does not level the playing field.”

“Under the peaking service, if an electric generator, for example, wants to take natural gas from SoCalGas and also from a competing pipeline, the generator will have to pay a higher rate for SoCalGas’s service than captive customers taking service entirely from SoCal,” she explained.

“Additionally, just last week San Diego Gas and Electric filed a request for authorization of a peaking service in response to potential competition from the proposed North Baja Pipeline Project,” she added. “These two peaking services discourage the development of interstate pipelines that can directly serve California end-users.”

Friedman claims the mismatch between capacity at the Southern California border and the capacity within the SoCal Gas system was the “fundamental problem” last year, and was caused by the state’s “long history of discouraging the construction of interstate natural gas pipelines.”

SoCalGas representative Lad Lorenz, director of capacity and operational planning, said the charges by interstate pipelines and others about its ability to handle gas receipts at the border were “self-serving” and completely untrue. He said SoCalGas has “adequate infrastructure to meet the needs of all its customers, core and noncore, firm and interruptible.

“The interstate pipeline companies simply want intrastate utility systems to expand their take-away capability solely to have somewhere to dump surplus supplies when the electric generation plants are not operating,” Lorenz told the subcommittee. “Although it is clear that a policy supporting expanded growth of the utility infrastructure would benefit interstate suppliers, it is unclear why utility ratepayers should fund excess capacity.

“Randomly overbuilding the intrastate infrastructure will impose significant costs on business and consumers, and will threaten our weakened economy,” he said. “For that reason, we appreciate your decision to hold this hearing to examine this issue more fully, and for the House’s decision to urge state and federal authorities to better coordinate on assessing the adequacy of future infrastructure.”

Lorenz said SoCalGas’ firm transmission capacity is 1,280 Bcf/year. Last year, “due to an unforeseeable confluence of unusual events, total receipts were 1,114 Bcf, the highest ever on the SoCalGas system,” he said. “However, even under these unusual conditions, the utility’s system operated at only an 87% load factor.”

There are three key reasons why last year was so unusual in terms of gas demand. First, southern California experienced the coldest winter in the last 19 years, with heating degree-days (HDD) of 1,588 compared to a normal winter of 1,252 HDD, he said. Demand increased by 33 Bcf. Second, there were a series of planned and unplanned nuclear plant outages that significantly increased gas demand by approximately 30 Bcf. Finally, the West experienced what Lorenz called a 1-in-75-year drought condition that severely limited the availability of hydro-electric power exports to California. He said the drought alone increased gas demand in Southern California by 225 Bcf because of the need for replacement gas-fired power generation. “Yet, even under these conditions, the SoCalGas system had adequate capacity and no curtailments of firm or interruptible gas service occurred.”

“The interstate pipelines, however, have not focused their concerns on whether our system is adequate to ensure reliable supply to our customers, but rather on whether our system is matched up to their system. Why are so many interstate pipelines considering expansions? The answer is that they want to serve the growing demand from new gas-fired electric power generation plants. But where are these plants to be located? Unfortunately, not on the SoCalGas system. Therefore, if demand is not increasing in our service territory, we do not believe our customers should pay to match the interstate expansions.”

The majority of the new power plants planned or under construction in the western U.S. will be in Arizona, Nevada, New Mexico and across the border in Mexico rather than in the state of California, he noted. Of the 27,000 MW of new gas-fired power plants under construction in the West, only about 2,900 MW are to be located in southern California, he said. In addition, the new out-of-state plants, due to their higher efficiency and lower cost generation, will displace current electric power generation demand on the SoCalGas system, reducing gas use in Southern California.

Regarding existing capacity mismatches, Lorenz quoted Energy Information Administration statistics that show the total intrastate California mismatch was only 8% compared to California’s total interstate receipt capacity of about 7.3 Bcf. Of the 8%, only 140 MMcf/d (or 2%) is attributable to the SoCalGas system, he said. “However, in reality, mismatches are not the issue. The real issue is the adequacy of the intrastate utility infrastructure to meet the needs of its customers.”

Adequate intrastate capacity (3,500 MMcf/d) currently exists, he said. The market has a projected a capacity requirement of less than 3,000 MMcf/d, “leaving about 500 MMcf/d of slack capacity.” Lorenz said SoCalGas has a policy of maintaining 15-20% slack capacity on its intrastate system and is moving forward with “least-cost” expansions and interconnections to maintains that excess. Southern California Gas is undertaking expansion projects that will add 375 MMcf/d (11%) of firm backbone transmission capacity to its system. The expansions include:

The North Needles and Wheeler Ridge expansion projects are expected to be completed by Dec. 31. The 40 MMcf/d expansion on SoCalGas line 85, which transports in-state gas production, is expected to be completed by the end of January. The Kramer Junction pipeline has been delayed at least until Jan. 31 because federal permits have not been received.

“Requiring in-state utilities to build pipelines to match the ultimate carrying capacity of interstate pipelines, only to find the capacity unutilized, would raise our customers’ bills and saddle small businesses and residential customers with stranded capacity,” said Lorenz.

Meanwhile, state regulators still standby their charge that the real cause of the price increases last year was market manipulation by El Paso Corp. subsidiaries. Last year, the CPUC charged El Paso Corp. with pipeline affiliate rule violations and market manipulation through the withholding of pipeline capacity on its southwestern pipeline system by El Paso Merchant Energy. A FERC administrative law judge decided earlier this month that El Paso did violate affiliate rules and had market power, but there was insufficient evidence to determine whether it used its market power to manipulate the price of natural gas.

Chairman Ose heard lengthy arguments from representatives of El Paso Corp. and the consulting firm that provided evidence in the El Paso case on behalf of the CPUC. Harvard Economist Joseph Kalt said on behalf of El Paso that unexpected supply and demand fundamentals led to the price increases. But Paul Carpenter of the Brattle Group testified that energy overcharges related to El Paso’s exercise of market power in the state amounted to about $5 billion over a 15 month period starting in May 2000 — $6 billion if the impact on the Southern California Edison’s power customers is considered.

“Last year’s extraordinarily high natural gas prices resulted largely from the illegal exercise of market power on an interstate pipeline,” said CPUC President Loretta Lynch. She urged Ose to work closely with FERC to “make sure they have adequate remedies available in the Natural Gas Act to provide refunds where appropriate where market power has been exercised for past behavior.” She noted that there is disagreement on whether FERC currently has that authority.

“The Congress can make certain that FERC has the full panoply of tools available when they find market power to make sure that Californians eventually don’t find a violation without a remedy,” she said. “We want to make sure the Natural Gas Act provides all the remedies that the FERC believes it needs, to make sure that our markets are competitive going forward and to deter practices that have happened in the past.”

Ose plans to keep a close eye on FERC’s actions on the California gas market, particularly its final decision in the El Paso market manipulation case and its study on the California gas market, a Capitol Hill source said. However, he does not have immediate plans to draw up any legislation addressing these issues, the source added.

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