About 15 years ago, the state that would eventually become the 2nd world country of California chose to restructure part of its electricity industry in hopes of lowering rising costs and rates.
It was a serious effort, backed by the Republican Governor and his appointed utility regulators, but also endorsed eventually by a Democratic State Legislature. When the Public Utilities Commission issued the basic policy direction, it authorized the state’s investor-owned utilities to work with stakeholders to write the detailed rules that would restructure the industry.
In 1995, Enron was still regarded by most as a friend of consumers and a champion of the wonders of private market competition. The administration and market advocates, including the largest electricity customers in the state, saw Enron officials — people who would eventually go to jail — as market experts. They were trusted players in the design discussions. Only a few, including a consumer advocate group and a public agency staff — bureaucrats — thought this was baloney, but this story is not about them.
Watching the health care reform debates has been deja vu all over again, because so much of what we’re seeing now has parallels to the Enron-dominated discussions of electricity reforms back then. So what was Enron trying to do then, and what does that teach us about what we’re seeing now? (And forget what you may have learned in the movie, Smartest Guys in the Room, because that was mostly the official cover story to hide the horrendous mistakes state and federal regulators made in approving the Enron-inspired rules and mismanaging the crisis that later occurred.)
The most important fact to know is that Enron didn’t produce anything. It didn’t own power plants there. But it had a business plan in which it would buy power (and sometimes operational control) from producers, repackage the deals and resell the power and the deals to others. Enron was like a Wall Street trader, a middleman.
Its business plan thus depended on creating a structure in which Enron could extract rents — money — in the chain between producers and consumers. To do that, it needed a structure and rules to maximize the transactions — and thus money — that would flow through the middleman, Enron’s trading system. Enron would then arrange, buy and sell power and financial contracts, and those contracts functioned like insurance against price volatility. In one sense, therefore, Enron sold something like price insurance, and it would make money by minimizing payments and maximizing revenues.
So what kind of structure and rules did Enron demand? First, it needed to eliminate competing institutions that might be able to connect producers and consumers more directly and efficiently. It argued for, and got, a structure that tended to require middlemen.
There was a proposal for a quasi-government "power pool" — a public pool in which producers could sell and consumers/buyers could purchase power directly without a middleman. For a year of debates, Enron and other marketers did their best to eliminate that "socialist," government-controlled concept, but the small band of bureaucrats and allies convinced the state to keep the pool.
Second, once the pool was accepted, Enron’s next tactic was to limit access to the pool. Enron argued for rules that required all non-utility buyers to arrange private contracts to cover their needs, instead of relying on the public pool. That would result in many more opportunities for Enron to be the middleman in those private contracts. The small band of bureaucrats argued against that limitation with some success, but Enron got concessions that tended to discourage many parties from using the public pool.
Enron’s third tactic was to demand operating rules that would force the public pool to operate at higher costs. The bureaucrats objected to these rules and took the dispute all the way to the Governor’s office, but they lost to the Governor’s largest campaign contributors (he still had debts from a failed Presidential run). It was an important defeat.
The Power Pool was eventually created, but it’s rules hobbled it and forced it to operate at higher costs. One particular rule required the public pool to ignore feasible cost-savings and instead deliberately choose higher cost energy when serving customers of the public pool. That made non-pool contracts more attractive and drove non-utility buyers/sellers to Enron’s traders.
Enron and its gullible supporters convinced state and federal regulators that since they were market competitors, their competition would always achieve the lowest cost results, so the public plan should be deliberately forced not to achieve the lowest cost, because that would drive marketers out of business, and they should be protected. California’s largest electricity customers, and federal regulators, bought this ridiculous argument.
Finally, Enron demanded, and got, rules that required the grid system operator to be separated from a part of the public pool — the market separation fallacy. When combined with other ill-advised rules, this meant that the public plan and system operator were often flying "blind," unaware of grid conditions when Enron and other parties were manipulating the market. The result: Enron and others manipulated the market with virtual impunity, raking off hundreds of millions, and (some claim) billions of dollars.
If you recognize this pattern, it’s because we’re seeing analogous tactics and strategies in the current health care reform debates.
We see a powerful group of middlemen, the insurance industry, trying to structure the market to require that they remain in the middle of, and extract a rent from, all money flows between providers and patients, as though that’s the only logical structure, even though it’s not.
We see efforts to eliminate any public alternative — the public plan (operating inside a public exchange) — that might be more efficient in reducing and covering costs.
And we see the middlemen and their political supporters in Congress deliberately hobbling the public plan, raising its costs, and restricting access to that public option, on the theory that we shouldn’t do anything to undermine the current private insurance industry. After all, they argue, private markets are always more efficient than a government operation.
There are, of course, many differences between the products, markets, and details; the analogy goes only so far. And Enron’s California strategy has been misinterpreted to explain many evils that later befell that market, that were caused by other factors. Still, the most important lessons we should learn, at least from this long-ago bureaucrat’s perspective, are these:
Build the public option.
Make it as efficient as you can.
Make it available to everyone (open access), and let people/businesses choose.
Structure its pricing to encourage producers to be more efficient.
Don’t separate the markets, because that encourages manipulation by rent-seeking middlemen.
And never, never, trust the market zealots.
Video from Bill Moyer’s Journal, July 11, 2009, interviewing former insurance executive, Wendell Potter
Related ideas:
Ezra Klein, on Wyden’s proposal for open access
dday at Digby’s place, The "killer app"
Scarecrow, What should a public health plan option include?



36 Comments




BRILLIANT.
Recommended.
Scarecrow, thanks for this and the extraordinary body of work you’ve been contributing to this site. I really hope I can get behind the final health reform bill, misgivings notwithstanding. Not optimistic.
Thanks, and I appreciate your efforts, selise’ and others’ keeping a clear picture of the eventual goal in front of us.
There are no guarantees where this is heading, but there is a scenario, now becoming more plausible, in which 5-10 years from now, the path we’re on gets to your destination. All the seeds for that are there, but have to recognize them, protect them and nurture them.
In 1996, I resigned from that other life in despair, but we had left a foundation that we could fix later – and we did. This last April, a new set of market rules went into effect in California — my friends wrote them. The system operators are now operating the grid transparently, (no flying blind), the prices are creating incentives for efficient power plants, the operators are dispatching power plants at the lowest cost every hour, and buyers/sellers can use the public pool as much or as little as they need.
The lights are on, except perhaps the Legislative Chambers of the State Capitol Building, where they can’t seem to pay their electricity bills. But that’s not my fault.
I hope your post makes it to the “Main” page and beyond. It’s a most interesting parallel — that of utility and health care markets. I would argue that the issues in health care are even more pernicious. Providers and payers have much more to do with the generation of demand and the products themselves. For example, it is not an accident that there are 28-30 day residential rehab programs — oftentimes, that’s what just happens to be covered in the benefits package. And, these benefits are not premised on exhaustive efficacy-based research.
Further, this has been going on for decades. When I was in graduate school in 1976, we were studying a “National Health Insurance” legislative proposal. Health as a percentage of GNP was roughly 7 percent; the largest industry in the country. We discussed how, if something wasn’t done then, that its percentage would theoretically just keep increasing indefinitely — maybe even into double figures! Needless to say, we hit that mark a long time ago.
Indeed. Wizards and warlocks don’t create anything either. They give the appearance of creation but they really only create ephemera.
And after all the wizardry, we are the ones left to clean up the damage done.
True they did a get a cut from power revenue and then they gamed the system to get more, then they hid debt in funny companies and borrowed money using their own inflated stock as collateral.
Enron resembles the food business as described in “The End of Food” good book.
The thing is this business model has to keep growing to survive Enron, Food, Insurance these industries have nothing to do with each other so why do they all have the same business plan?
I agree that the differences actually make the case harder for advocates of health insurance “competition.” For electricity, there is at least an identifiable, uniform commodity — energy — which can be traded in a market either bilaterally or in an exchange. That is not the case with “health care.” As Krugman has reminded us, arguments for insurance “markets” ignore economic studies decades old that show the market conditions that might lead to a good outcome do not exist. We can introduce “competition,” but there is no reason to believe that alone leads to a decent outcome.
http://delong.typepad.com/sdj/…..-answ.html
And wespeg had an excellent diary on this a few days ago.
Thanks for the happy ending in CA : )
This is a truly outstanding post Scarecrow. Framing is the lion’s share of the battle in any political debate. Your analogy to Enron could give us a leg up in the framing department. I hope we can help to make it a widespread comparison. It would be exceedingly difficult for lawmakers to defend implementing a system takes the Enron approach…
Because Wall Street demands an infinite-growth business model (hence the voracious appetite to expand into foreign markets). There is no planning on the horizon as far as I can see for a sustainable business model to accomodate saturated markets or limited resources where we dare not let demand exceed supply. Go figure.
The mainstream media also seems to have Enroned itself with high debt and very probably funny loans. Mitt’s Bain Capital is in trouble with Clearchannel.
And now http://www.desmoinesregister.c…../-1/NEWS04
All of that right Wing Media consolidation when Bush relaxed Media ownership rules and bought himself some very good press is now biting the Media in the Ass.
Think about it Sinclair mostly owns Fox tv stations but they can’t service the debt they used to buy those stations.
What happens to Fox if they lose that many tv stations? Not all the 58 are Fox stations but that still is a big chunk of revenue.
I’m starting to think Kenny Boy wrote the business plan for many GOP friendly industries that since they have to grow or they collapse are thanks to the slow economy in trouble.
I wonder what other industries we don’t know about are next.
This business model is Suicide. This business model is Heroin push the needle in your arm get a rush of pleasure/cash never knowing or caring if this time might be the last.
Brilliant analysis Scarecrow!
first, want to add my thanks to scarecrow for a great post.
also was going to suggest another item for scarecrow’s list that i think qualifies as an enron lesson: don’t do anything to make the insurance companies more politically/economically powerful as it will just make future regulatory attempts more, not less, difficult.
i wonder, what are the chances the california electricity market rules would have gotten rewritten right if a politically powerful enron was still around to influence the process?
i don’t know if there are any analogies in this to the enron story, but if there is not a way to get the incentives right — to change the insurance business model from one where competition is about denial of care and patient skimming to one where competition is about providing healthcare — i can’t see it working. really want to be convinced otherwise though.
in case it wasn’t clear, my comment @13 was about, in part, the mandate and the massive transfer of $$ to insurance companies that would result.
I am sure this will come as a relief to everyone but Larry Summers says the Obama stimulus is on track despite the lost of jobs. And that cliff up ahead? Not to worry. Probably just a mirage or something.
http://www.nytimes.com/2009/07…..1&hpw
I think after the AIG bailout I’m more worried about them and the banks who lent to them getting more bailout cash. Than about them getting powerful for the next 2 years.
The casino system of financing is another reason why the Enron Grow or Die companies are in trouble.
Not just because the Casino financing boom is over but because some people like AIG and the banks can’t afford to pay what they owe which is why they need a bailout.
Credit Default Swaps are Financial WMD as Buffet put it all by themselves.
I keep reading up on these issues and I keep finding entirely new ways different companies and markets can fail and bring down the economy.
Larry should have worked for Bush he has those (RP) Reality Protection, Rose colored glasses and so far a pretty strong track record of being wrong.
Has he been right about anything yet?
I agree selise. Without a public plan available to everyone from the get go (including those with crappy employer-based health insurance plans), then a mandate just makes this whole thing nothing more than a huge transfer of wealth from the taxpayers to the insurance companies. You can hear them salivating about it now. I wonder how long it will take Goldman to find a way to get a cut of the action
; )
The Enron model was never sustainable, because it required an increasing extraction of rents that couldn’t be supported. So I’m not sure there is a plausible scenario that would still have Enron around.
Their collapse was across the entire set of businesses, not just electricity trading.
People once thought Enron’s Skilling was a genius, because they couldn’t figure out how the company was making so much money; but it wasn’t making money. It was an illusion, just like a ponzi scheme. He was just a deluded fool, partnered with a real scam artist, his CFO Fastow.
Their market traders in California were just run of the mill vultures who get attracted to trading, but the rules made it easy for them to scam the ISO and Power Exchange. E.g., creating phony schedules that looked like transmission congestion and then getting paid to relieve the congestion — all by doing nothing — no real injections, no real withdrawals, no real flows – just phony schedules.
The insurance model is well down that road.
Krugman responds to Summers:
http://krugman.blogs.nytimes.c…..rs-at-iie/
Krugman responds to Summers
http://krugman.blogs.nytimes.c…..rs-at-iie/
Insurance companies = making sure people die so they can make obscene profits and the pain and suffering of the policy holders palin and simple. Profit and Health Care are antithetical of each other.
I don’t know how to avoid the new flow of $$ to insurance, short of total sp. If you say, we want to cover 20 million more people, you either give them money and force them to buy insurance, or you put them all under Medicare, in which case they have the option to go Medicare Advantage and have the Govt subsidize the insurers even more.
I don’t have a problem in the abstract with paying insurers to perform an accounting function — collecting premiums and paying claims to providers. But the incentives are to expand the “costs” of that function to maximize the difference between premiums and payouts. So this necessary function probably can’t be performed on a for-profit basis, especially with Wall Street demanding that the companies reduce “losses.”
So I’m happy to support a transition that provides a means to start stripping away their market share. If an all-at-once transition is deemed “too much to do at once,” (people can agree or disagree on that) then at least put in a means to have it happen over time through customer choice.
i would say without a working public option….
there are lots of ways to design a non-working public option or so that it’s primary function is as a dumping ground for the sick (the people insurance companies don’t want).
i don’t want a public option that serves as nothing more than a fig leaf to the mandate… but i don’t see anything coming out of congress (other than the CPC letter) that gives me hope they are even thinking about these issues.
Odd you should mention Enron as an analogy. Did not know they never owned power plants. But their plan to control the market was close power plants , export energy and hike prices. Guess they learned their lesson.
Larry Summers through D E Shaw Group ..he is part owner but does not want that known..(wikipedia) has a wind farm business First Wind. It is under investigation in several states for anti trust violations, fraud, and bribery of public officials. ME and NE are targeted. His job with Obama gives him the inside track. You can tell there are heavy hitters politically. Just as mean and corrupt as Enron. In fact D E Shaw bought a lot on Enron assets and got quite a few employees. They have their eye on California again with the free transmission lines.(sorry I got off topic..pet peeve)
i agree. and as i’ve said before, i’m ok in theory with the gradual transition via this method also. i’m just still trying to see how it would acutally work in practice in the real world… and not end up being a dead end. the massive transfer of $$ makes all the other parts of the reform that much more important, because if the reform is screwed up this time, it could be much harder to get it right next time if we’ve made
enronthe insurance companies even more powerful.p.s. re the denial of care model. kip sullivan left this comment in epu land on what he calls Managed Care 2.0.
http://campaignsilo.firedoglak…..ment-32145
this makes my head hurt. going to find some advil…
There are no “free transmission lines” in California. I don’t even know what that means.
Thanks for the heads-up on that Kip Sullivan comment. Valuable context and insight.
Thanks, Scarecrow. Excellent post.
California wouldn’t be $26 billion in deficit if FERC had invalidated Enron, etal.’s fraudulent market manipulated contracts with the state energy authority.
But Rove knew this was the sure route to recalling Davis and installing Arnold as governator. California’s 2/3’s rule on passing a budget only makes the corpse look worse, not any less dead.
As for real national health care reform — when the parasites have killed the host, they’ll have to feed off each another.
indeed. Excellent post and goals worth fighting for.
Enron is responsible for many things, but not California’s budget mess. The long run contracts were negotiated in 2001 (against expert advice) by the state but on behalf of the utilities, two of which the state regulators had foolishly pushed into bankruptcy. Most of the financial fallout was picked up by California electricity customers and/or settled against some of the suppliers, with little impact on the California budget.
Arnold and the Republican legislators who refuse to raise taxes in any way — and those who put them there and voted for Prop 13 many years ago, have no one to blame but themselves.
Can we somehow make this article required reading by the president and all the persons involved in writing and promoting the legislation now being formed?
Incredible, Scarecrow, not only the essay but the comments that follow.
Thanks for all you do.
I have to thank God that you gave up in disgust so many years and left CA. Otherwise, you would never have been part of FDL and provided us with your great essays on health care reform and lots of other issues that matter in our times.
Blessings
The republican amendments to the health care bill:
http://www.slate.com/id/2223023/
I thought of that conversation as soon as I saw the title of the post. My electric bills during that period were about 8 times what they are now. That was just one of the many forms of legalized theft foisted on the public under the ruse of deregulation and free market schemes that turn out to be scams.