E388 -

Fan favorite, Peter Van Doren, returns to explain to us what exactly happened to the power grid in Texas during their unusually cold weather.

Hosts
Aaron Ross Powell
Director and Editor
Trevor Burrus
Research Fellow, Constitutional Studies
Guests

Peter Van Doren is editor of the quarterly journal Regulation and an expert in the regulation of housing, land, energy, the environment, transportation, and labor. He has taught at the Woodrow Wilson School of Public and International Affairs (Princeton University), the School of Organization and Management (Yale University), and the University of North Carolina at Chapel Hill. From 1987 to 1988 he was the postdoctoral fellow in political economy at Carnegie Mellon University. His writing has been published in theWall Street Journal, the Washington Post, Journal of Commerce, and the New York Post. Van Doren has also appeared on CNN, CNBC, Fox News Channel, and Voice of America. He received his bachelor’s degree from the Massachusetts Institute of Technology and his master’s degree and doctorate from Yale University.

Shownotes:

Alternating current electricity systems require that demand equals supply in real‐​time. Any supply‐​demand imbalance must be remedied in minutes to avoid collapse of the system that would take weeks to repair. And the Texas system was very close to collapse. So why did the Texas blackouts occur when the weather was bitter cold?

Could a free market electricity system work? What is the rate of return on regulated utilities? Why are all power companies monopolies?

Further Reading:

Transcript

[music]

0:00:06.8 Trevor Burrus: Welcome to Free Thoughts. I’m Trevor Burrus.

0:00:08.0 Aaron Powell: And I’m Aaron Powell.

0:00:10.6 Trevor Burrus: Joining us today is Peter Van Doren, senior fellow at the Cato Institute and editor of Regulation Magazine. Welcome back to the show, Peter.

0:00:20.2 Peter Van Doren: I’m back a little more quickly than we probably planned.

0:00:24.1 Trevor Burrus: Well, when they need to get an energy expert, you are Cato’s resident energy… I mean, so many things, but we haven’t…

0:00:30.2 Aaron Powell: Never not a good time to have PVD on the show.

0:00:34.0 Trevor Burrus: And that too, of course. And we had this whole kerfuffle in Texas with Texas’ energy supply. So before we totally get into the nitty‐​gritty of that, can you give us a general overview of grids, electric grids and how they generally work, so that we can get into how they would break.

0:00:51.6 Peter Van Doren: So electricity systems have three components of generation, which are power plants, natural gas‐​fired, ore nuclear power, or coal, or wind, or solar or hydro, and those power plants are then connected to along a very high voltage long‐​distance transmission system, where… The reason it’s very high voltage is because the power loss is very low at very high voltages, and so the efficiency of the system is maintained by having such high voltages, and then at the point of a local distribution system, the voltage is stepped down a number of times to where we get it to be the 240 volt or 120 volt electricity that we have at our houses, so we have generation, transmission and distribution.

0:01:45.2 Trevor Burrus: But what about the pricing structure of that and the regulation of that?

0:01:51.8 Peter Van Doren: Historically, all three components were owned by one entity and those were called vertically integrated utility companies, and then in the late ‘90s and early 2000s of some states embarked on in effect chopping that vertically integrated system up into basically three components, again, the distribution, the traditional local utility and long‐​distance transmission and generation. The thought was that the provision of transmission and distribution were probably what economists called natural monopolies, that is you don’t have… It’s unlikely to have the possibility of parallel distribution systems and parallel transmission systems owned by different companies that compete, although we could have a little parentheses discussion that in some places that actually exists at the distribution level.

0:02:54.0 Peter Van Doren: But generation… Were thought to be… That competition was possible, and thus, if we divested the generators from the vertically integrated utilities, they could operate on their own and compete with each other and then put bids into an auction market and then a runner of the auction could add up the bids and sort of find the set of bids that “clear the market” so that the supply of electricity equals demand, and those suppliers that bid too much would not be paid, so… And that so circa late ‘90s, early 2000, some states, including Texas, and Texas aggressively embarked on this separation of generation into a competitive market and… But transmission and distribution remain under monopoly regulation, just like the old days.

0:03:58.4 Aaron Powell: So this sounds like it complicates a bit of the story that we were hearing, or at least a bit of the tweeting that we were hearing as Texas was having its power failures, which was on the one hand people saying, this shows that government monopolies don’t work, on the other hand people saying, this shows that free markets and electricity don’t work, that we’ve got both. Is this balance of it correct? Could we get away with a free market in the distribution as well, or are there good reasons why we want at least we want a monopoly there?

0:04:37.0 Peter Van Doren: Well, again, the question is, if you deregulated entry into transmission and distribution, what would occur? Well, there’s lots and lots and lots of infrastructure that would have to be laid. And at the distribution level, some of the concern at the local level is not only economics but also aesthetics, if people remember when fiber‐​optic cable was first put into the District of Columbia, do you remember the street that runs in front of Cato, and it kept being dug up and dug up, and more and more fiber got laid down, and finally the district said, “Look, we’re just going to have one corridor and the fiber that’s laid down is done, we’re just not going to keep opening streets up every time somebody wants to lay down more fiber optic cable,” so some of the… There’s an analogous concern when it comes to the ownership of the poles, and then would you have wires overhead and who would have access to the wires?

0:05:43.6 Peter Van Doren: And so those concerns, plus the sort of natural monopoly characteristics, which is, it’s not clear anyone would enter. The only way to make money through distribution and transmission is it’s just fixed costs, it’s almost all fixed and no marginal, and so then you’d have two competing sets of fixed costs, one of which was utilized and one of which was new and empty, and both of which would have the same pricing structures, and so why would anyone opt to use the new infrastructure whose costs were probably the same or maybe more than because they were newer and not depreciated, etcetera, etcetera. So basically, you’re… My answer’s probably too long, but you said is the notion that transmission and distribution are monopolies, natural monopolies, and while generation is not, is that probably correct, and I think the answer is yes.

0:06:50.5 Trevor Burrus: Now, in terms of pricing, this is, I guess this a big picture of public utilities question. But if you do have… I mean, if you’re the power company in Virginia… In my house in Virginia, I don’t have a choice about competing power companies, so it seems like you could absolutely kind of just take me to… Take me to the bank in terms of charging whatever you want because there’s no competitive pressure from a competitor. It’s very hard to get into the market, as you said. So what is the general thing that we’ve set up to make that not happen?

0:07:27.3 Peter Van Doren: Well, in your state, Virginia, actually, they started down the deregulatory path. They passed legislation, actually, in the early 2000s, but then the so‐​called California debacle hit in 2001, 2002. And ever since then, because the “California experiment” melted down as well, that froze states’ efforts at that point in time. And in fact, Virginia then retreated. It went backwards. It repealed the statute that was going to lead to generator deregulation, and it went back to the traditional model. So Virginia has traditional vertically integrated utilities that are regulated by a State Public Service Commission, where the utility submits data on its costs, and then the Commission sets tariffs, and then that is the rate for electricity, a different one for residential and commercial and industrial, and those rates are fixed by the Commission.

0:08:30.2 Peter Van Doren: They look at the profits ever year of Dominion Energy, the company in Virginia, and they then assess whether the rate of return that that company made was too high or too low relative to the rate of return that the Commission determined would be an appropriate return given the cost of capital that the utility faced.

0:08:52.1 Trevor Burrus: So if you own a utility, like if you own Dominion or you’re one of the profit shares in that, it seems like you’re sitting pretty, and to some extent, you don’t have competitive pressure. There’s a Commission that sets things back and forth, so in terms of feeling pretty confident about not losing your job or not losing your business, you probably are… Feel pretty risk‐​free.

0:09:15.1 Peter Van Doren: Yes. I wrote an article, oh, goodness, more than 20 years ago. It was actually an internal debate at Cato, which is if we deregulated, what do we owe the utilities once we change the rules and then the market value of their assets changes, given that they’re not protected anymore, right? And I said well, the utilities claim that their return ought to equal the return on the S&P 500. But then I said that the companies in the S&P 500 face risk, whereas if you’re a regulated utility, you really don’t. So one… So yes, the rate of return on regulated utilities has always been more or less like the S&P 500, even though those assets don’t face the risk that most of the assets in the S&P 500 do. And I think… At least I argued at the time that one should treat those kinds of assets more like bonds rather than stocks, and that the appropriate rate of return on capital actually would be lower than the S&P 500.

0:10:28.1 Aaron Powell: Do these companies… So say Dominion Power that we have in Virginia, it seems like every year or so, something happens where everyone gets really mad at them for something, like power goes down for a while or whatever, but we’re mad at Dominion for a while, but then Dominion is still our energy provider, and they’ve built all of this infrastructure. Do those companies ever get kicked out? Is there a mechanism by which… So as Trevor was saying, it feels pretty risk‐​free, but do they ever say like, “Look, you’ve messed it up enough that we’re going to bring another company in to take over”?

0:11:01.7 Peter Van Doren: Well, technically, they operate under a franchise granted by the Commonwealth of Virginia. And so yes, that franchise could be revoked. But all the physical assets would remain. You just basically would have a different… I mean, you could revoke the charter. You would then give it to some other entity, probably just another out‐​of‐​state vertically integrated power company. And then those executives would then run the same system under a rate of return regulation, and then one would see whether or not the performance did or did not get better. We actually have something like that in Maryland. Again, the transmission and distribution assets, even in deregulated states like Maryland, those are still monopolies in Maryland.

0:11:55.1 Peter Van Doren: Those assets of Capco were, the local Washington DC power company, were purchased by a company called Exelon. And it turns out Exelon does have a better maintenance record. I mean, the big issue for the distribution and transmission systems is, do they maintain the trees, do they cut the trees down so that during storms, limbs don’t cut down or fall on to the local distribution system and lock the power out? For the transmission system, the issue is whether the trees are cut enough in the transmission corridor so that sagging transmission lines in the summer don’t contact tall trees and then arc out and then short the system off.

0:12:40.9 Peter Van Doren: The big blackout in the Northeast, what was that? 2001 or ’02 or ’03, somewhere in there, maybe 2003, that blackout was caused by sagging transmission lines in Ohio touching trees in the transmission corridor, and then arcing out and shutting off power basically to, what, 50 million people in 12 states or something like that. And so, yes, the tree management is actually the biggest issue for local distribution systems, and that’s what prevents power outages during storms is making sure the tree limbs and trees don’t, aren’t overshadowing the local distribution lines so that when the ice or the winds hit, that everything doesn’t fall down.

0:13:29.3 Trevor Burrus: So in that broader picture, how has Texas set up its power system and how is it a little bit different than the other states?

0:13:39.4 Peter Van Doren: Well, Texas is… Of the deregulated states, Texas is the most radical in two ways, which are separate, actually. One predates the deregulation and that’s Texas does not have alternating current connections to any other state. Texas is isolated. There are three transmission systems in the US, the so‐​called Western interconnection, the Eastern interconnection, and Texas. Texas is isolated from the other two. It only has direct current connections and those are very small. So Texas has to… The supply and demand of electricity has to balance within Texas itself, and it cannot call on… During emergencies, it cannot call on resources anywhere in the rest of the United States, so it is isolated.

0:14:29.3 Aaron Powell: Can you quickly just explain what you mean by alternating and direct current and why they’re different and why they have to be balanced, one has to be balanced this way?

0:14:37.9 Peter Van Doren: Okay, the power in all US households is what’s called 60 Hz, 60 cycles per second, alternating current. So if we had a picture, it would look like a sine wave where the zero was no voltage, and then it goes up and down in a sine wave way 60 times a second. And in an alternating current system, it’s best to think of the relationship between consumers and generators as one big system. It’s one gigantic machine in which the frequency of everybody at all times, at all generators and all consumers and all motors and all lights, has to be 60 cycles per second. Any loss of generation capacity in that system results in what’s called frequency degradation. The cycles per second start to sag below 60, and that places increased load on the remaining generators, and they start to work harder, and then they can’t spin at 60 cycles per second.

0:15:50.5 Peter Van Doren: And then if this is not remedied quickly in real time through emergency generation procedures, or what’s called shedding load, I.e., blackouts, then the whole system will crash and we need what’s called a black startup, which is… Every generator would then trigger and then shut itself off because of the imbalance in cycles per second, and it would take weeks to restart every generator and get the system back up. And when ERCOT… You probably read in the press or our listeners have heard that ERCOT, the manager of just the transmission system in Texas defends itself by saying, “If they had not intentionally blacked out the parts of Texas that they did, the whole Texas system would have collapsed and we would still… Everyone in Texas would still be without power today.”

0:16:50.2 Trevor Burrus: You said deregulated, which is a loaded word around Cato. You said that Texas is deregulated. But I mean, it’s not a free market system. I mean, there’s rate setting and…

0:17:02.5 Peter Van Doren: Well, it’s as close as you get. I mean, it is remarkably close.

0:17:06.5 Trevor Burrus: I mean, not on the distribution…

0:17:06.8 Peter Van Doren: In the sense of generation.

0:17:10.8 Trevor Burrus: Okay. So the generation. So people can build a power plant and compete for contracts to put power into the system for distribution to homes.

0:17:21.7 Peter Van Doren: Correct.

0:17:21.8 Trevor Burrus: Okay.

0:17:21.9 Peter Van Doren: Correct. And Texas is the only US system that has what are… Not what are called… It has no capacity system, no capacity requirements. That is, there’s no regulatory directive about how much supply has to equal or exceed peak demand in the previous year, usually in the summer, although in this recent cold snap in Texas, for the first time ever, winter demand got very close to summer peak. Texas does not have any rules about that there have to be so many extra generators hanging around in case bad things happen. And that’s… All other states do. Even the market‐​oriented states like Maryland and New England and New York, we have deregulated generation systems, but we also have what are called capacity requirements added on on top of all of that.

0:18:24.5 Trevor Burrus: So these are extra… You said… ‘Cause one thing about power generation, which I think is important, if I’m correct here. I mean, power, in this sense, can’t really be stored effectively, so you have to have the real‐​time generation capacity to basically turn on new generators, and that’s what you’re talking about, that there’d be requirements of how many generators you kind of have to… Because you can’t put the electricity into a reservoir like you do with water. There are batteries, but they don’t really work as well. So this is a requirement of some percentage of the grid in order to accommodate these kind of shocks that come from state regulators or maybe federal regulators. So you’re saying Texas has none of that. So how do they deal with that?

0:19:07.7 Peter Van Doren: Correct. Correct. They deal with it only through prices that rise in real time as supply gets very close to current demand. And then the system, in effect, as the shortage becomes more obvious, in effect in the auction markets, the price of power gets bid up. And as I said in what I’ve written about the Texas system, normally Texas average is kind of 5 cents a kilowatt hour. In the recent episode they went through, it was $9 a kilowatt hour, not 5 cents. And that price and the profits that result from that high price alone are supposed to induce enough generators to exist in the hope that they will get those kind of what economists call rents, those prices that are very much greater than marginal cost. It’s the hope of those profits alone that Texas relies on to induce enough supply to exist in bad times.

0:20:26.6 Aaron Powell: So this seems… Especially if I’m putting on my pro‐​regulation hat, this seems crazy and…

0:20:36.2 Peter Van Doren: Well, if you saw the news coverage this week… So when people said Texas is crazy, they didn’t mean that generation was deregulated per se, because many states have that. But what Texas is… How Texas is different is that they rely only on prices to get everything to work, which is pretty… Given that, as Trevor’s just said earlier, this market’s unique because there’s no inventory. You can’t store electricity easily. There’s something called pumped‐​storage hydro, which is you pump water up at night when power is cheap and you let it go downhill in the daytime for peak demand in the summer. So Texas actually has some of that, and there’s some of that in the Northeast where there’s mountains and you can store water.

0:21:31.6 Peter Van Doren: But that doesn’t last very long. These are not… Pumped‐​storage hydro is meant for peak demand in the summer for a few hours. It’s not meant to be a back‐​up source for days like what we just saw in Texas.

0:21:44.9 Aaron Powell: So let me just talk through how I am understanding this to see, because it sounds like kind of exactly the sort of setup that is built to make people think markets are the worst solution to this kind of thing. So we’ve got a bunch of companies competing to supply power, but they can’t store it. So they have to essentially guess how much power is going to be needed by the people of Texas at any given time and produce as close to exactly that as they can manage. They have not been required to bring on back‐​up generators in case there is a power spike. And generators, you could build a bunch of back‐​up generators, but if they just sit unused, then that’s probably significant capital costs that you may never see a return on investment on.

0:22:38.7 Aaron Powell: And so there’s a little bit of a playing the risk, of guessing, because as you said, if the price… So then if there’s a spike, the price is going to go up, but even if that price goes up by 1000%, it’s not going to bring… You can’t install generators fast enough to like up the amount of power that’s available. So the generators have to have been built long before this in anticipation. But then you’re asking the companies to weigh the risks of basically, it’s going to cost me X number of dollars to install generators that may not ever get used or maybe used once every 100 years. And so I have a cost times a kind of probability of recuperating that cost versus there may be a huge event that spikes the price, but then I have to guess whether the money I’m going to make from that spiked price is going to equal or hopefully exceed the money I would have put into building the generators to meet that extra need.

0:23:42.4 Aaron Powell: So this seems to be pushing a really critical thing, namely the power of the ability of people in Texas to have power to heat their homes and turn on their lights entirely in the hands of companies wagering profits against, in this case, what a cold snap that was the first time in 120 years, or something, so longer than a lot of these companies have even been around. This just seems… Is it really that kind of nonsensical, because I’m looking at this and it’s like… It seems like… Well, just the obvious solution would be to say you have to have a bunch of back‐​up or for the state to pay for a bunch of back‐​up.

0:24:21.1 Peter Van Doren: First, I want to honor Aaron for… He’s now an honorary member of the Center for American Progress. [laughter] And you have exactly stated what has been repeated in the last week‐​and‐​a‐​half, over and over and over and over and over again by, so… I’ll push back slightly and in the following way. The analysts have predicted that the Texas system could never work ever since it was first created 20 years ago. And yet, except for two instances, one in 2011 and one last week, it has worked in the sense that there is the… There’s what’s called the capacity margin. The excess capacity in the Texas system above and beyond last summer’s peak has basically been in the kind of 8–12% range, whereas in the Northeast, we’re in the high 20s. Okay.

0:25:29.3 Peter Van Doren: So it’s certainly fair to say that the back‐​up stuff in the Texas system, the back‐​up generation capacity is the lowest in the country, but it is not absurdly low. And in fact, in a paper I’ve written, a little blog post I’ve written, I dug around in papers and said, up until this week, when the 30% in the Northeast looks like a good deal, academic criticism of the capacity markets outside of Texas has been intense, because everyone argued the capacity was way too high and resulted in excess costs for consumers all the time, as you correctly stated, that is just lying around, it’s never used, and people get sick of paying for that in their average rates.

0:26:24.8 Peter Van Doren: The capacity market design in the deregulated states that have them, their intention is to have capacity about in the 15% range, and yet in actuality, they have capacity almost double that. So if Texas… So here’s my pushback intellectually against the Center for American Progress view, which is, okay, yeah, have a Texas capacity requirement. But guess what, states that have those requirements, they only save 15%, and the loss of generation capacity in Texas was so large. I initially thought it was somewhere around a third, but the latest I’ve read, believe it or not, is that it may have been at its peak more than half, 52,000 megawatts out of an 80‐​some‐​odd thousand megawatt system was probably offline at the worst part of the debacle in Texas.

0:27:26.4 Trevor Burrus: So there doesn’t exist… So there’s not a power system that exists that would be… Unless you had absurd capacity requirements of more than 50%.

0:27:35.9 Peter Van Doren: Well, no one… That’s what I’m saying. A well‐​run capacity system up until this point was thought to be 15. And to be sure, the Northeast has more than that, but academics have criticized the organization of those capacity markets for defects that they have said have led to excessive capacity. Now, no one’s going to write a paper like that in the next few months, I suspect, but I’ve found a paper saying it before we know what happened to Texas, and now the question is… They’re just trade‐​offs, which is you run Monte… Both Aaron and Trevor, you said it well, which is, you can run these Monte Carlo simulations of, “Alright, now and then stuff happens. And then the question is, does it pass the cost‐​benefit test. How worried about rare events should you be?”

0:28:29.3 Peter Van Doren: And there have been studies that do that and they try to value what’s called loss of load, how valuable are kilowatt hours to customers, and Texas actually ran such an exercise. They found that residential customers appear only willing to pay about what they pay retail, which is an 11 cents an hour kind of… Per kilowatt hour. Right now, people would say they would be willing to pay more than that, but notice the people in Texas who received household prices which were very high, which led to power bills that are in the thousands of dollars because of last week.

0:29:09.9 Peter Van Doren: All of those people say that no, they’re not willing to pay that much to keep up the grid, and yet, it was that extreme money that kept… Whatever part of the Texas grid kept going. I thought it was two‐​thirds; now, it may be less than half. And those generators made a ton of money last week in Texas because they were running.

0:29:33.0 Trevor Burrus: So maybe people will… Those are some… Those are why you get into that business. If you can bid into the auction market for excess capacity, and then occasionally every 10 years you make 10 times what you made… [chuckle] I mean, more than that, you said it went to 9…

0:29:50.1 Peter Van Doren: A gazillion. A gazillion times.

0:29:53.6 Trevor Burrus: Then you say, “Well, my company exists for these black‐​swan events. I’m going to start a company and we’ll run it like… Maybe even do some stuff, but every 10 or 20 years we’ll be there and we’ll make a ton of money.” But it seems a viable… It reminds me of here in DC, coming from Denver, maybe three to five times in the 10 years I’ve been here, we’ve had pretty significant snowstorms. I wasn’t here for snow‐​pocalypse. You and Aaron were, but the… So two feet or more. And we just don’t have the snow removal capacity for that two‐​foot snow‐​storm, like Denver does. I think that they bring in snow removal stuff from West Virginia, and it would be pretty irrational if we had that many snow‐​plows sitting around rusting in lots for the every five year two‐​foot snow‐​storm. So the interesting question with both snow removal, other things where black‐​swan events or relatively rare events make a big difference is it seems like an inherent problem that neither governments nor economic free market economic systems are able to deal with very well.

0:31:07.9 Peter Van Doren: I’ll add one more. Just one more… I think your snow‐​plow analogy is quite telling and listeners ought to be able to relate to that. Having pandemics. How often has the US dealt with large pandemics and it ought to have a kind of robust vaccine supply system? Well, we’re facing all that. Same thing with snow‐​plows, same thing with electricity. Electricity’s slightly different in the following way. Texas did have excess capacity, 12% above last summer’s peak demand. The problem was that all the generators that did exist, couldn’t operate. They froze. That they were what’s called inadequately winterized. And I spent some time trying to figure out what that meant.

0:32:06.8 Peter Van Doren: I did not know, basically, most of the guts of Texas generators are outdoors. They’re not enclosed in buildings. And I said, what? And then I read some reports and turns out Texas is hot. So if they put all this stuff indoors, they’d have to deal with getting rid of the heat in the summer from generators and systems and steam turbines and all of that, and that would require air… And they don’t want to do that. And so it’s all outdoors. So then how can you make something that’s outdoors deal with the temperature of 6 degrees Fahrenheit? And the answer is you have to put anti‐​freeze in the water systems and you have to use heat tape around exposed stuff that needs to be warm.

0:32:58.5 Peter Van Doren: And it turns out that mostly seems to not have been done by generators in Texas. And that… The ’89 storm was cold, the 2011 and now this one. Those are the three worst. But Texas has had below‐​freezing events before and generators go out, not as many, and they fail to winterize. And so the… What I’m… I would like to see somewhere somebody write a paper on the cost‐​benefit calculations that the generators went through. I don’t know whether it passes a cost‐​benefit test or not, but because they weren’t operational, they lost out on a lot of money, and they’ve made a lot of customers mad. But the fact that they’ve done this more than once suggests… I don’t know what it suggests, I’ll leave it as a puzzle. It’s not just that you need excess capacity, you need generators that actually can run in weather situations that don’t occur very frequently, but not as infrequently as one imagines in Texas.

0:34:08.1 Aaron Powell: Bad weather events tend to be localised, at least from the national level. We don’t tend to get an enormous blizzard across the entire continental United States. It’s in a region in it and then maybe in one state, it’s hit particularly hard, and it seems like a solution to that, like I can buy… There are manufacturers of foodstuffs all over the country and I can buy my food from them, and because we have this national highway system that interconnects all of them. And so if food producers in one part of the country get hit really hard, that part of the country doesn’t starve, because food can be shipped in from elsewhere. Electricity moves a whole lot faster than big rig trucks, wouldn’t a solution to this be to have a national power grid so that if the Texas manufacturers of electricity hit a snag, we can just pump power in from anywhere else in the country?

0:35:13.4 Peter Van Doren: That is also what many of the critics of the Texas system have argued this past week‐​and‐​a‐​half. And again, as we said earlier, Texas has two unique features. First, they’re deregulated in the way that other states aren’t, but two, they don’t have capacity markets, which we just talked about, but third, they don’t have interstate alternating current connections to anywhere else in the United States, and that is intentionally to avoid federal regulation. Texas is a big state, it’s a big market, so I kinda looked up the data and the question is how undiversified is Texas because it’s isolated. And the answer is, it’s sort of in the middle of the pack.

0:35:54.1 Peter Van Doren: The PJM system in Maryland and New Jersey, which actually goes all the way to Illinois, it was originally just this part of the Northeast, but now it’s much, much bigger. That has kind of 150 million gigawatts… Sorry, 150 gigawatt peak demand in the summer. Texas is in the kind of high 70s, low 80s. And then, but New York is half of the size of Texas, so systems vary as to how big they are. Even in the Eastern interconnection, which is sort of everybody is interconnected, the links between what used to be called local utility areas, they exist, but they’re not that thick. So the notion that power plants in Ohio can be called up to solve something that’s going on in Maine is sort of technically true, but not as robust as your initial question was indicating.

0:36:58.8 Peter Van Doren: We’d have to actually measure… There are places where I could go find how big the alternating current connections are between the various parts of the Northeast, so it’s sort of one big system, and yet it’s really not. It’s a bunch of segmented systems with connections between them. Texas has no connections to that, so the issue is, if it were connected to Louisiana and Oklahoma, which also were cold, by the way, we’ll find out eventually when the report is issued how much power generation capacity was available in nearby states that also were cold and also faced large demand. And how much of it, had Texas had connections, would have been available to kind of help bail Texas out?

0:37:45.5 Peter Van Doren: So you asked the correct question, but we don’t yet know the answer, and I want to push back a bit in that the eastern and western interconnections aren’t actually as much connected as you implied in your initial… In your question.

0:38:02.8 Trevor Burrus: It seems that there’s a back story to this which is related to a lesson that you have taught me and us and listeners of Free Thoughts over the years, which is that a lot of times when free markets work correctly, people don’t like how they work. So they’re actually… They’re opposed to a well‐​functioning market and when it comes to electricity…

0:38:25.9 Peter Van Doren: People don’t like $9 a kilowatt hour, that’s for sure.

0:38:30.5 Trevor Burrus: Precisely, and that’s the interesting backstop, is that we, in the Western world, take electricity for granted so much that we essentially expect to pay comparatively a pittance for it. And when the price goes up and down due to actual supply constraints and changes in demand, both of those at the same time, you would say, “Well, then you’re going to have to pay,” but we don’t want to do that. We want to say, “I should be able to turn anything on,” and if you think about it… And there are countries where intermittent power is a reality, it’s just a fact of life, and those people might have an understanding of the cost and value of electricity. Because the consumer surplus for electricity at the rates that we pay has got to be massive. If you think about how important electricity is to the world.

0:39:23.7 Peter Van Doren: Well, that’s what we talked about. Remember I said that Texas had done this loss of load study, what’s people’s willingness to pay to avoid blackouts. And for commercial and industrial customers, it’s very large. They actually are willing to pay in the $6 to $9 a kilowatt hour range. Ironically, they also have their own backup, often have their own backup power systems, and they have what are called interruptible contracts with the grid. In other words, they receive a low price of power from the grid because the grid can turn them off during emergencies. Texas did that. Texas has a bunch of interruptible customers, they’re just mostly not residential, and even that shedding all those customers in a market‐​like way by contract, that wasn’t enough to get demand down enough to equal the supply that existed. But it’s much rarer for residential customers to be willing to be interrupted.

0:40:27.3 Peter Van Doren: Sometimes in the summer, though, I was part of a system here in Maryland where I signed up for a lower price in return for air conditioner cycling during a peak demand problem, and you can do that, people… That’s available almost everywhere, and people do that and then… But it’s a select kind of people, the people that they have knowledge, they know what’s going on, and it’s not that they’re cut off, they’re just cycled, whereas in Texas, what happened is the cycling and the interruptible contracts weren’t enough, they actually had to cut off people to thought who thought they had total reliable fixed price contract power.

0:41:11.7 Trevor Burrus: Yeah, and that was just because of the massive failure of power generation, but it is interesting, though, because if you survey someone… I feel like this is a good example of talk is cheap, one of the most important economic concepts, because I feel like maybe you go and you do a survey on excess capacity in Texas, and you say, how much are you willing to pay for electricity, but people might be thinking, oh, the electricity company, it’s easy to generate power, they’re just trying to take me for more money or something, but if you were put into a situation and you didn’t have electricity for a while, and you said how much is refrigeration worth to you? I think it’s worth a lot. Maybe $9 a kilowatt hour, right? Up to that level, like it’s worth a lot.

0:41:56.6 Peter Van Doren: Except here’s the weird… There are people in Texas, we’ve seen the pictures. So there are people who lost power and then they had waterline breaks in their house and then they… I mean, they are suffering enormous damages from this, and then, right, that company, Giddy, that had wholesale prices plus $9.99 a month, that was their retail model, and they had 29,000 customers and all those customers are getting large bills, and they’re, you know what, I don’t know what words we can use on the pod, but they are not happy, and the Governor of Texas says… Who’s a strident Republican and all that, he’s saying, this is highway robbery.

0:42:37.3 Peter Van Doren: I mean, no one is defending markets right now except good old Bill Hogan from Harvard. He’s the guru of electricity deregulatory design. He helped design the Texas system. And he said it worked. It worked the way it was supposed to, I.e., high prices are trying to restrain demand and generate supply, but it meant that somewhere around a half of customers didn’t have power, so when people say they want an electricity system to work well, they don’t mean it in a Bill Hogan kind of way, they mean, I want low prices all the time and power all the time, and I don’t want to have to worry about anything full‐​stop, and that’s tough. That’s hard to organize.

0:43:32.4 Aaron Powell: Given the story that you’ve told us today of how this works and what went wrong, and given how damaging this turned out to be for the people of Texas, and so we in an ideal world would not have something like this occur again, and given how many people, including our friends at the Center for American Progress, are kicking around policy solutions to all of this, from a public policy perspective, what, if anything, should we do or can we do to try to make it so that the next time Texas gets hit by weather like this, it doesn’t end up being as much of a problem?

0:44:13.0 Peter Van Doren: I guess for me, I think the cheapest way to resolve this and create stability for the future is to have a much more engineering and cost‐​benefit discussion of what’s called winterization, of both the electric generation system, I.e., the fact they use lots of water, not only that, you know, I found out by deep reading that a lot of the sensors that these power plants use are based on Venturi tubes that have standing water in them, and the water froze and then that trips a circuit that says the plant has to go offline, not because the plant couldn’t run, but because its sensors couldn’t tell it enough, and the sensors are water‐​based. Okay, is there another… So there’s lots of little Mr. Fix‐​it kind of things of the winterization sort, I think, that probably pass a cost‐​benefit test and wouldn’t lead to extraordinary average cost increases, because yes, they’re lying around most of the time, but we’re talking heat tape and anti‐​freeze.

0:45:22.4 Peter Van Doren: So if I read correctly, again, I could be wrong, but… So that’s possibility number one, and the mystery is how come so many generators don’t seem to do it. I don’t know. The second thing has to do with the natural gas system. In the writing I’ve done, I said one possibility that is, you see allusion to it in the media, which is the power plants are ready and up and could run, but their natural gas supply was cut, so then you go, what makes natural gas systems cut? And the answer is, there’s water in natural gas as it comes up from deep under the earth. That water can freeze if at the well‐​head you don’t have ways to in effect heat the output of the well enough so that the water doesn’t freeze. Even if you do that, there’s water stored at all natural gas well‐​heads, ’cause water is a by‐​product of natural gas production.

0:46:20.8 Peter Van Doren: The water is stored in containers and then has to be checked and monitored and drained every so often by technicians. In a snowstorm, it turns out they couldn’t get there, and then an automatic circuit trips off the natural gas supply because the water tank hasn’t been emptied. Again, so to me, that sounds like not rocket science, but just sort of simple things that could be done that haven’t been done. And I don’t know why free market prices weren’t sufficient to have it done, but if it’s going to be done by regulation, it’s probably going to be something like that, rather than saying Texas has to join the Eastern interconnection or Texas has to have 40% excess capacity, which again, does seem very expensive to me and unlikely to be cost‐​effective relative to the damages. But the little things I just talked about, unless I’m missing something, those seem sort of Tim “The Tool Man” Taylor sensible kind of solutions.

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0:47:40.5 Aaron Powell: Thank you for listening. If you enjoy Free Thoughts, make sure to rate and review us in Apple Podcasts or in your favorite podcast app. Free Thoughts is produced by Landry Ayres. If you’d like to learn more about libertarianism, visit us on the web at www​.lib​er​tar​i​an​ism​.org.