As part of the deregulation deal enacted by the California Legislature in 1996, California’s utility companies — Pacific Gas & Electric Co., Southern California Edison and Dan Diego Gas and Electric — insisted that residential and small business electricity rates be frozen at 50% above the market price until 2002, in order to allow them to recoup from ratepayers cost overruns, non-economic investments and other management mistakes. Through last June, this enabled the utilities to collect roughly $20 billion in subsidies from ratepayers.
Now, however, manipulated wholesale rates have soared above the frozen rate, and, the rate freeze the utilities insisted upon has ironically prevented them from raising residential and small business rates to cover the shortfall. So PG&E and Edison have sued the California Public Utilities Commission (PUC) in federal court, claiming that AB 1890’s rate-freeze violates federal law and asking a federal judge to declare the frozen rates unlawful and void.
On January 22 Edison asked for a preliminary injunction ordering the PUC, within seven days, to adopt new rates that, according to PUC staff, could increase residential bills by about 70%. The judge rejected their request for an early hearing, so their motion will be heard on February 12. A similar request by PG&E for a temporary restraining order was denied by another judge on January 29.
The utilities’ duplicitous effort to renege on the agreement they wrote into law is opposed by consumer groups and attorneys for the PUC. There is strong confidence that the utilities’ lawsuits will be denied.
What is the basis of the lawsuits?
The utilities claim that under a doctrine of federal law, known as the Filed Rate Doctrine, they must be allowed to pass through the cost of electricity to residential ratepayers.
The doctrine originates in the rule that a utility may only charge its customers pursuant to a “filed rate” — that is, a rate that has been filed and approved by the regulatory agency. Traditionally, the doctrine was cited when utilities filed a rate, experienced unanticipated higher costs, and tried to surcharge their customers for the increase. The filed-rate doctrine says that once the utility files a rate, it must charge that rate and cannot recoup any “undercollections.” (This, for example, happened when OPEC drove up oil costs. The utilities tried to recover their losses. The Public Utilities Commission said no, we may eventually raise rates prospectively for you, but you can’t recapture your losses retroactively.)
In recent years, a variant of the doctrine has arisen when the Federal Energy Regulatory Commission (which regulates wholesale power rates) has reviewed and approved a rate under which a utility purchased power and then the utility’s state PUC (which regulates retail rates) refused to let the utility pass the costs of that purchased power through to the ratepayer. In those cases, federal courts have said that the supremacy of federal law compels the state to allow the utility to pass through the rates it paid under the federally-approved filed rate. However, those cases all involved state regulatory action taken after the federal approval of a specific rate, where the state clearly was attempting to undermine a federal order finding the wholesale rate “just and reasonable.”
The filed-rate doctrine has never been used to preempt state rates in a case like this. The cornerstone of preemption-by-filed-rate is that the federal government finds a rate just and reasonable and the state tries to subvert that rate. That obviously isn’t the situation in this case.
Under the new deregulation philosophy of the FERC, that agency does not review rates — only market mechanisms. The FERC never found the wholesale rates being paid by the California utilities to be “just and reasonable.” It would be perverse to say that the state was subverting federal regulation when there is no federal regulation.
In fact, the FERC has now conceded that prices in the unregulated market were unjust and unreasonable.
Not only does the California rate freeze not undermine any federal orders, it was relied upon by the FERC when FERC approved portions of California’s deregulation law. In order to get FERC approval to sell wholesale power, the utilities had to show that they would not use their market power to drive up wholesale rates. They were given that approval only after they pointed out that they were net buyers of wholesale power and that California’s rate-freeze prevented them from reaping any benefit from higher wholesale prices. The FERC cited and relied on that fact in allowing SCE and PG&E to engage in the wholesale market. That has two important legal implications:
o It means that the FERC has incorporated the California rate-freeze in its filed rate. The state’s continued enforcement of the freeze therefore cannot violate the federally-approved rate.
o It means that the California utilities, having used the rate-freeze to secure a lucrative benefit in the right to sell at stratospheric prices in the wholesale market, cannot now disavow the rate-freeze — an application of the doctrine of “judicial estoppel.”
The filed-rate doctrine has never been applied to void a pre-existing rate by subsequent federal action. It has never been used to void state regulation by operation of an unregulated wholesale market. The utilities’ lawsuits are truly unprecedented and unfounded.
But didn’t a federal judge say the filed-rate doctrine does apply?
This issue has never been raised or litigated before. A district court judge in Los Angeles issued a preliminarily ruling in which he incorrectly stated that the filed-rate doctrine applies. However, the judge has yet to address the main arguments raised by the PUC: FERC concordance in deregulation of the wholesale rates, FERC approval and incorporation of the California rate-freeze, and estoppel against the utilities for using the rate-freeze to obtain the right to sell at wholesale.
While it is possible that this judge will rule in favor of the utilities, he will be reversed on appeal. Indeed, nobody expects this issue of first-impression to be decided by a single lower-court judge — particularly one deciding the case under the threat of blackouts and bankruptcies. This case is destined to be decided by the appellate courts, where logic and law both point to a decision in favor of the PUC and consumers.
Okay, but what about the equities? Didn’t the utilities pay for this power for their customers? Shouldn’t the customers have to pay for that power?
Here is the fundamental equity: Edison and PG&E voluntarily entered into a five-year fixed-price contract, which the Legislature imposed on ratepayers in 1996. The utilities thought wholesale rates would fall, allowing them to enjoy high returns — and they did make billions of dollars in the early years. Anybody in the utility business knows that when they enter a fixed-price contract they are accepting the risk that their costs will rise. Now, the utilities are trying to get out of the deal they knowingly made.
What if the utilities do win? When and how will that impact consumers?
Any final court decision on the subject is years away. (With passage of ABX 1, the likelihood that the utilities can win a preliminary injunction ordering rate increases has evaporated — they would have to prove to the court that they face imminent collapse and thus require immediate rate hikes. AB1X solves the utilities’ immediate problems).
Even if the utilities were ultimately to prevail, the utilities would still be required to show, in hearings before the Public Utilities Commission, that every dollar they spent was necessary and properly incurred. In light of the recent PUC audits, which show that the utilities precipitated and exacerbated their recent financial problems and have overstated their losses by up to 45%, it is unlikely that consumers would see any rate increases for years, and the amount would be modest by comparison. Indeed, the only appellate decision on the subject says that the state can stretch any such payments out without paying interest.
If a court declares the rate freeze invalid, aren’t ratepayers entitled to get their money back?
Yes. Ratepayers were forced to pay $20 billion in subsidies under the rate freeze as a quid pro quo for deregulation; the deregulation law promised a minimum 20% reduction in rates once the rate freeze was over. If the freeze is declared invalid, then the ratepayers are entitled to receive their money back. Consumer groups will seek to intervene in the court case to make the argument that they are entitled to a refund of the $20 billion.
Cases: SCE v. Lynch, U.S.D.C. Central Dist. Cal. No. CV-00-12056-RSWL (Mcx). PG&E v. Lynch, U.S.D.C. N.Dist. Cal. No. C-00-4128 (SBA) (being transferred to Central Dist.).