The future is bright for investors in the power market, butrather dim for the nation’s power users, Salomon Smith Barney (SSB)warned in a new report titled “The U.S. Electric Shock.”
SSB said the power crisis won’t be confined to California andthe West for very long. Power shortages are going to spread toeastern states over the next few years not only because of delaysin power plant construction but also because of delays in gassupply development and constraints on the gas pipeline grid.
“In our opinion, the investment community’s media driven focuson California’s electric power problems has led many to miss thebigger picture,” the report stated. “The current U.S. economicweakness is masking electricity needs near term.”
Current poor economic conditions mean power consumption fromindustrial customers, who account for 32% of the country’s electricpower usage, is below the trendline, according to SSB. As a result,reserve margins “look a bit healthier than they will once economicrecovery ensues. Hence, we are likely to hear about more brownoutsand rolling blackouts around the nation and not just Stage Threealerts in California. The warning signs are there but are beingoverlooked, in our view.”
SSB said disparate state-by-state deregulation and theuncertainties surrounding timing and cost of fuel sources, havehindered generation construction. “[S]everal policies may be neededto encourage [generation construction], including allowing pricesto spike short term as market forces act freely, creatingincentives to speed new investment. In addition, environmentalobjections may need to be balanced against siting needs for newpower plants. Some have even argued that pollution constraints mayneed to be relaxed near term so that coal-fired power can be useduntil the new gas-fired plants get completed.”
Another thing to bear in mind is that forecasts have erred onthe side of slower demand growth, SSB said. A key problem in theCalifornia crisis was that electricity demand had been forecast togrow only 1.8%/year by the North American Electric ReliabilityCouncil (NERC) in 1990. Annual economic growth in the stateaveraged 2%-3% while Californian power needs actually grew 4%-6%.
Reserve margins are plummeting nationwide. In the early 1980s,reserve margins nationwide got up to 30% but now have dropped toabout 15%. New England, New York, New Mexico, Arizona, and southernNevada in particular are areas of concern. “These areas are regionswhere generation reserve margins are not sufficient enough duringpeak load conditions usually associated with extended heat waves,but this does not fully build in the potential for industrialrecovery, in our opinion. States in the Southeast, the Midwest, theWest, and the Pacific Northwest could be affected by electricityshortages.”
Recovery of the chemical industry also could trigger powershortages. Chemical processing alone accounts for nearly 10% of thenation’s electricity use. States such as Texas, Oklahoma,Louisiana, and New Jersey would be most affected by a recovery inthe chemicals sector, which is down 20% year over year currently.
“The Southeast could also be hit if the paper industryrecovers,” SSB said. “Moreover, should smelters be put back intoproduction, we think that the Pacific Northwest and Arizona couldexperience additional power pressures. Plus, if manufacturingrebounds, the Midwestern U.S. could face challenges.”
Another major hurdle will be continuing the transition to anelectricity superhighway through formation of regional transmissionorganizations. Currently, 33% of electricity users are being servedby an RTO with another 22% waiting for approval, according to theSSB report. By the end of the 2001, it is likely that as much as80% of U.S. customers will be served by RTOs. The existing system,however, wasn’t built to be a superhighway. It was meant to deliversupply from a generating facility to a set of customers, i.e.,point to multi-point, not multi-point to multi-point. “In 1995,”SSB said, “25,000 inter-regional transactions took place and thatnumber hit two million in 1999; thus, many transmission lines arebasically ‘maxed out!’ Thus, access to power becomes questionable.”
One other factor is that FERC cannot use federal eminent domainpowers to push through construction of power transmission in thesame way it pushed through gas pipeline construction. State andlocal regulators have considerable control over the powertransmission system. As a result energy policy changes are neededin this area on a broad scale.
NERC estimates that more than 10,000 MW of generating capacitywill have to be added nationally every year through 2008 just tokeep up with the 1.8% annual growth forecasts, “which could easilybe too low,” according to SSB. New gas wells, pipelines and powertransmission lines must be built to keep up with the growth, andgenerators will need open access to the grid. A lot of work clearlyneeds to be done in a short period of time.
For information on the report, contact Salomon Smith Barney at(212) 428-5200.
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