The 2021 TX Big Freeze: A Toxic Mix of Politics and Economics - Part 1

First, yes, I'm back again!!  I now have a 18 month old baby girl, so I'm a single dad so a little limited on time these days.  Nevertheless, having gone through 4 nights of freezing cold weather here in Corpus Christi, Texas, I feel the need to do some thinking about the power grid in Texas. 

Background

It is well documented that Texas has it's own power grid, and this power grid emanated out of a strong desire (similar to banking) to remain independent from Federal regulators.  The Texas grid is called the Texas Interconnection and it covers around 90% of the area of the State of Texas.  As you can see from the figure below (taken from the North American Reliability Corporation), there are only 2 energy grids on the continent that are smaller than the size of a State, notably Texas and Florida.  By being smaller than a State that means that as long as they don't trade energy across State borders they can escape being regulated by the Federal Energy Regulatory Commission, as only energy grids taking part in inter-state commerce are regulated at the Federal level.  The Texas Interconnection has gone to extraordinary lengths to ensure that even energy traded from the Western Interconnection to Mexico does not end up being traded to Texas (otherwise that would trigger Federal oversight).  A previous Governor of Texas, Rick Perry, even went as far as to say that Texas would rather be without power for more days than have Federal oversight of the Texas Interconnection (see here), but there are others who feel that this isolation (see here) may soon come to an end.  Indeed the Federal government does still have the jurisdiction to intervene if the State policies are a threat to the wellbeing of Texans.  

Now there are 2 other issues that in normal circumstances would have been mentioned as footnotes, if at all.  The first is the fact that the Texas Interconnection does have links to other States, but they are just not used. There was an incident in 1976 after a Texas utility, for reasons relating to its own regulatory needs, deliberately flipped a switch and sent power to Oklahoma for a few hours. This event, known as the "Midnight Connection," set off a major legal battle that could have brought Texas under the jurisdiction of federal regulators, but it was ultimately resolved in favor of continued Texan independence.  The fact is that Texas does already have 2 connections with the Eastern Interconnection, but apart from the "Midnight Connection" episode, these are not used (but are supposed to be available in case of an emergency).  The other issue is that there are 3 links to the Mexican energy grid, which are usually used for exporting energy rather than importing energy.  

ERCOT

The agency with responsibility for running the Texas Interconnection grid which is made up of private producers of energy of all different types, has been all over the news lately, and of course it is coming under great scrutiny ever since "The Big Freeze" occurred.  It's name, rather ironically, is the Energy Reliability Council of Texas (or ERCOT) and it is a non-profit based in Austin and in Taylor, Texas.  ERCOT is a non-profit with a Board of Directors of various stripes.  So let's go through their bona fides for this obviously important job:

• Bill Magness is the CEO and has a law background and lives in Texas;
• Sally Talberg (who lives in Michigan) is the Chair, who has a background in energy regulatory policy (and not in actually producing energy);
• Peter Cramton (who lives in Germany/Maryland) is the Vice Chairman, and is a Professor of Economics at the University of Maryland and University of Cologne - he is a specialist in auction markets;
• Vanessa Anesetti-Parra is a board member based with Just Energy which is based in Canada, but offers services in Texas;
• Terry Bulger is a banking expert who lives in Illinois;
• Mark Carpenter is an electric utility engineer based in Texas;
• Lori Cobos is the head of the Texas Office of Public Utility Counsel and lives in Texas;
• Raymond Hepper is a retired electric VP for the New England grid system, and it appears as though he lives in MA.  
• DeAnn T. Walker is the Chair of the Public Utility Commission (PUC) of Texas [in an ex-officio capacity]

and most of the other appointees not listed here are representative of the various market segments on either the consumer or producer side of the market in Texas.  Now I believe several of these Board members have resigned, but what I am trying to address here is not exactly who is on the Board, but the makeup of the Board.  

Now if we look at the description of ERCOT and how it is regulated, their website (see here) quite clearly states that "ERCOT is a membership-based 501(c)(4) nonprofit corporation, governed by a board of directors and subject to oversight by the Public Utility Commission of Texas and the Texas Legislature."  So that means that the PUC is regulating ERCOT but the Chair of the PUC has a seat at the table of the ERCOT Board.  

 But let's just step back a minute and look at the composition of the Board of ERCOT.  It consists of many of the representatives of the customers and suppliers of energy in Texas, as well as the head of the regulatory body.  I would suggest that this is not a good governance structure for ERCOT for the following reasons:

1. The PUC Chair is on the Board of the entity they are in charge of regulating;
2. The ERCOT Board consists of individuals who have no direct relationship with Texas, and therefore no "skin in the game" in terms of ensuring that this Body works for the good of all Texans;
3. The ERCOT Board consists of a large number of supplier and customer representatives, with differing incentives - the suppliers clearly want the highest prices for their output and the customers clearly want to pay the lowest amount for this output; and
4.  On the ERCOT Board, coalitions of voting members who are also market participants can easily vote down regulations they do not like. 

The last point is particularly relevant to "winterizing", expenditure on processes and equipment that will allow energy generation and distribution in severe winter conditions.  If policies are proposed to mandate winterizing for example, the suppliers may not want to do it as they are not sure how much of it they can pass on to their customers, and also the cost of winterizing may be different for different energy generation methods, which will lead to uncertainty as to competitive advantage vs other forms of energy generation.  Similariy, the ERCOT customers (commercial and retail energy companies) may not want to do it either, as it will lead to higher prices, which will lead to less energy purchased, and may increase the attractiveness of natural gas and solar power as alternatives for residential customers.

The PUC

But the rules of the game and the regulation of the Texas Interconnection really falls to the regulators.  As the ERCOT website makes clear, it is the PUC and the Texas legislature that is responsible for oversight of ERCOT, and therefore those are the responsible bodies for dictating the rules under which ERCOT generates and supplies energy to Texas businesses and residents.  

So let's do a deep dive on the PUC now to see what is going on there.  There are 3 PUC commissioners, all of whom are appointed by the Governor and "serve at the pleasure of the Governor".  At present, as the PUC webiste shows (see here), these are:

• DeAnn T. Walker who is the Chair, and has a background in accounting and law;
• Arthur DeAndrea was General Counsel to Governor Abbott and has a background in law; and
• Shelly Botkin who has an undergraduate degree in anthropology and used to work as the Director of Corporate Communications and Government Relations for ERCOT.

I do not know whether these 3 Commissioners are card-carrying Republicans, but I would suspect that if Governor Abbott appointed them (and at least one of them has worked in Governor Abbott's office) then there is a high probability that they are.  Moreover, one of the Commissioners was appointed from ERCOT which could give rise to "regulatory forebearance" ( - the notion that the regulator would go easy on the entities being regulated), and none of them have any direct expertise in the science and technology of power generation.  It also means that 2 out of the 3 Commissioners have a direct person to person relationship directly with ERCOT, and so it likely therefore means that ERCOT's views will be over-represented on the PUC.    

When you do a simple Google search on the Chair too, some worrying evidence comes to light - such as the article from July of 2020 in the Dallas Morning News (see here) regarding the disbanding of the PUC Enforcement Division.    

Now in terms of the grid standards that ERCOT has to comply with, these come from 3 bodies:

• FERC - the Federal Energy Regulatory Commission
• NERC - the North American Electric Reliability Commission
• Texas RE - the Texas Reliability Entity (see here)

The first 2 bodies determine standards and protocols in the US and North America respectively, but as Texas doesn't wants to be independent of the Federal government in terms of everyday activities and supervision, it has created it's own regulatory standards body, the Texas Reliability Entity or Texas RE.

Texas RE

Texas RE is once again a non-profit with a board of directors consisting of 8 individuals.  There is a mix of lawyers and energy executives or past executives, and from the Texas RE website.  This body was likely ultimately responsible for the regulation of ERCOT to certain specified standards that would have to be maintained by ERCOT, but in fact this body had already been fired by the PUC in September 2020, with no replacement made by the PUC.  This is documented here in a Houston Chronicle article.  Of course it is even worse than this, as the Texas RE may have been completely inadequate as supervisor and enforcer of standards for the grid, but I have not managed to find any documentation on this issue, and in any case, the Texas RE no longer has any function in relation to the Texas grid.

Toxic Politics and Economics

 

What is clear from my digging into the regulatory framework for the Texas Interconnection, is that Governor Abbott had failed to act when the PUC fired the Texas RE as monitor enforcers and supervisors of the power grid - they still exist, but their role as I understand it is now just as a supplier of information and a central despository for self-reported violations.  

The economic part of this is that any winterizing that needed to be done was likely not done by the grid participants as they knew that there would be no inspections or enforcement (with fines).  Worse than that, Governor Abbott must have known what was going on at the PUC, and yet he did not act, given that all the PUC commissioners serve "at the pleasure of the Governor".  

Summing Up So Far

In terms of the regulatory structure of the Texas Interconnection, there are 4 potential problems that I have identified:

1. The potential for "coalition building" on the Board of ERCOT to resist doing things that raise costs and therefore prices;
2. The Regulator having a seat on the Board of the representative body of the Regulated entities;
3. The Governor's appointment of Commissioners of the regulator (the PUC), which has led to less than ideally-qualified individuals regulating ERCOT; and 
4. The fact that 2 of the 3 PUC Commissioners have direct current or past dealings with ERCOT, likely leading to "regulatory forebearance.
5. The actual enforcements of standards was up until last year the responsibility of Texas RE, but they were fired by PUC, with no replacement being made - leaving the field completely open to forgo winterization this year.