Explainer Episode 23 – Why Did Texas Lose Power?

[Music and Narration]

 

Introduction:  Welcome to the Regulatory Transparency Project’s Fourth Branch podcast series. All expressions of opinion are those of the speaker.

 

Jack Derwin:  Welcome to the Regulatory Transparency Project’s Explainer Podcast; part of RTP’s Fourth Branch Podcast Series. My name is Jack Derwin, and I am Assistant Director of RTP. Today, I’m happy to be joined by James Coleman to discuss the regulatory aspects of the current electricity situation in Texas. 

 

James is Associate Professor of Law at Southern Methodist University’s Dedman School of Law, where his work focuses on the regulation of North American energy companies, as well as the international dynamics of energy regulation.

 

Before entering academia, James practiced energy, environmental, and appellate law at Sidley Austin, LLP. Thanks so much, James, for joining us today.

 

James Coleman:  Thank you. It’s good to talk with you.

 

Jack Derwin:  Absolutely. So let’s get right into it. First of all, can you give us a quick rundown of what exactly is going on in Texas right now?

 

James Coleman:  Well, we’re having blackouts across Texas, so there’s a lot of consumers without power. And the real problem with that, in Texas, is that first of all, a lot of consumers depend on power for heat. In fact, pretty much everyone. Because either they’re getting power directly — using power directly to create heat. Or they need power to run their natural gas heating systems. 

 

And so when you’re without power in Texas, typically you’re without heat, and that is dangerous because we’ve been experiencing very low temperatures for Texas. Well below freezing. And, basically, the houses in Texas are not made to withstand that. 

 

So for those of you in the rest of the country who may not understand, I grew up in Minnesota. We had cold weather all the time. It wasn’t an issue because our houses were very well insulated for that.

 

But in Texas, what that means is, your pipes freeze which can cause you to have catastrophic water leaks that destroy big parts of your house, and that’s happening all over Texas in residential, commercial spaces, etc. There’s a number of cities that now no longer have safe drinking water and they’ve had to issue boil orders that you have to boil your water before drinking it.

 

Now remember, you don’t have power and you’re depending on power for your heating, like I do in my house, you can’t boil the water either. So there’s shortages of water. People are running out of food. They are running out of heat. I was much more lucky than most. But even so the temperature, because of the power outages, temperature in my house got down to 37 degrees on a couple occasions. There are other people who got even lower. So they had frozen toilets, frozen water in the bathtub, no water, etc.

 

So it’s very catastrophic. And we were — Texas is a huge economy, about the same size as the economy of Canada. And it is — we’ve had over three million households without power at a time, which is just really catastrophic.

 

The way it’s supposed to work, when you have a power outage, and we previously had one in a winter storm in 2011, is that they kind of rotate those power outages. So you spend a couple hours without power, but then you get it back. You can heat up the house. The house doesn’t get too cold.

 

The grid failure here was much more catastrophic. So they weren’t able to always rotate power. So people really have spent days without power. My case, probably no more than eight hours at a time. But still that enough time for the house to get very cold. So it is a very bad situation. And we’re only going to find out how bad it is once everything thaws out. A lot of pipes are going to burst. There’s going to be huge damage for millions of homeowners across the state.

 

Jack Derwin:  Well, thanks for that rundown. I think that was really informative. And so in your explanation there, you referred to this “they” as being responsible for the rolling blackouts there. And I believe you’re referring to the Electric Reliability Council of Texas, also known as ERCOT. Can you tell us a little bit about what that is?

 

James Coleman:  Yeah, so ERCOT is the grid regulator in Texas. And they are the ones that, when power is about to go out — if the power — the power system always has to provide exactly as much power as everybody in the grid is using. So that means every time you plug in your phone, turn on your dishwasher, your heat goes on, the grid has to provide exactly that amount. If it doesn’t provide enough, basically everything in the system could fail at once. 

So what the grid operator does, instead of risking that, is just forces the power out in certain places. And that’s better than the alternative of everything going down. But it’s still quite bad, as we’re seeing. Particularly here when they don’t have enough power to regularly rotate it through households, so you don’t actually get some. 

 

So ERCOT was the one ordering these power outages. There haven’t been questions — most of the questions so far are not so much about they’re forcing power outages now. Because everybody understands we don’t want the grid to go down. But about the preparations that they made for ensuring reliability during this crisis.

 

If you look at, going into this crisis, the kind of scenarios that they were anticipating, they were imagining something like the storm that Texas had 10 years ago when they did have to go through some rotating outages, but it wasn’t nearly this bad. And they were — so one question is, should they have been anticipating even worse scenarios, like the one that we actually relied on.

 

But it’s important to understand that there are a number of failures to go around here. One is, did ERCOT plan enough and require enough in terms of reliability? Did they provide sufficient incentives for grid operators to remain functional — sorry, for the power plants to remain functional during this crisis? That’s one set of questions.

 

Another question is about the private companies that actually provide the power. In Texas, power is provided mostly by competitive producers, and they are competing to provide power at the lowest cost. And prices go up when there’s a shortage like this. They went up to really stratospheric levels. $9,000 a megawatt hour. Highest prices that we ever see in the United States. And during those periods, still there weren’t enough companies providing power.

 

Now, they could have made a lot of money if they were available to provide power. But they hadn’t sufficiently protected their power plants against outages from cold weather. And so they were not able to provide power. One question is about, did those companies do — did they prepare enough, were they basically negligent in not preparing for this kind of circumstance?

 

And that’s a question that sort of combines both the regulator and the companies. Because part of the question is, did the regulator provide enough incentives for those companies to prepare for these kind of disasters. Did the regulator provide enough information about the kind of disaster that might happen so that companies knew to prepare for it? And then part is on the private companies.

 

And what we’ve seen across the power grid is that this is a little bit unlike a lot of power outages. A lot of power outages are caused by failure of transmission. Not enough power can get into an area where it’s demanded. Or there’s some power lines that are down, or otherwise. This is not about that. This is about a failure to produce enough power. 

 

And so what we’ve seen is, basically, every kind of power plant has gone — large quantities have gone down during this crisis. So initially, we saw outages from wind power operators with frozen wind turbines. Then we saw massive outages among the State’s natural gas power plants, which provide the bulk of power. And that’s when the grid had to shed a lot of load. And they all went down for different reasons. But a lot is because the natural gas supply, itself, from oil and gas wells was frozen in, either at the well, or at the pipeline, and couldn’t get to the power plants that needed it.

 

And so that raises a separate set of questions about the regulation of oil and gas production. Because normally, oil and gas production is regulated from the perspective of, let’s make sure we produce oil and gas and get value for it. Don’t damage those supplies of oil and gas. But historically, it hasn’t been regulated as much from a perspective of, let’s make sure that the gas supply is always available like power, so that power never goes down.

 

The one thing that’s happened in the past 10 years in particular, but going back a little further than that in Texas, is increased reliance on natural gas and the power systems. So we always use some natural gas for power. But now the bulk of power comes from natural gas. It’s the biggest source of power, not just in Texas, but in the United States. And one question is, if we’re going to have to regulate natural gas production sort of how we regulate power production just basically to ensure it never goes down because of all the catastrophic impacts of power outages.

 

Jack Derwin:  Right. That’s really interesting. And so as I understand it, Texas is the only state in the country will full autonomy over its power grid. Can you tell us a little bit about how that federalist system was established and how that’s come into play here?

 

James Coleman:  Sure. So the way it works is that most states sit on a power grid that they share with other states. So there’s an East Coast grid, which really includes not just the East Coast, but the entire Midwest, as well as the Plain states. And a West Coast grid, which is basically part of the Rockies, plus the West Coast. And then there’s a Texas grid. 

 

And that Texas grid, which is managed by ERCOT, Electric Reliability Council of Texas, that is — it doesn’t actually cover all of Texas. It leaves out El Paso and some parts of East Texas, but it covers the bulk of Texas power. 

 

Now, you might think that’s crazy that a state has its own grid. Well, I mean that’s also true of course of Hawaii and Alaska. And also, again, Texas is a huge, huge state. I mean, it’s farther from Dallas to El Paso than it is from El Paso to California. It’s the size of Spain or France. And so it’s not really that unusual to have a power grid that covers for a state of that size. As I said, it’s the economy the size of Canada’s, and Canada has several power grids.

 

So I would say that it’s not necessarily crazy that Texas has its own grid. But certainly, it has some costs and benefits. For decades, really, we’ve talked a lot about some of the benefits. Which are, it made it easier for Texas to develop a lot of wind power, to provide cheaper power because basically, rather than having to negotiate with several states for transmission, it could sort of just do that themselves. 

 

It’s allowed it to have sort of a unique approach to electricity regulation that hasn’t been used in some other states that have had problems with the capacity markets that they use, which is an alternative mode of regulation and competitive power systems. 

So we’ve seen some benefits from it. But now we’re seeing some of the downside, as well. Which is that, there has been cheaper power available and Texas’ neighbors — and it’s difficult to import any of that power. I should also say that, even if you could import that power, that’s not like it would solve all the problems. Because we’ve had — at times during this crisis, we’ve had cheap power available, or cheaper power available in South Texas, where it wasn’t as frozen. And you still couldn’t get all that power north, because again, it’s just such a huge state that it would help on the edges, but it wouldn’t necessarily solve the problem to have more connections with the surrounding grids.

 

Jack Derwin:  Got you. So as we’ve talked about, much of this has been handled by ERCOT. But one thing that the Texas Governor, Greg Abbott, has done is release some orders stopping natural gas exports out of Texas. How does that come into play here, and what were the motivations behind that, and what might it do?

 

James Coleman:  Yeah, that is one of the very shocking things that has happened as a regulatory matter since the beginning of this crisis, was that as soon as the crisis hit and electricity prices in Texas spiked to, again, $9,000 a megawatt hour, almost all exports from the state stopped. And the reason for that is, there was a massive reduction in oil and gas production that occurred because of two things. One is frozen wells, so the well can actually freeze. There could be moisture in the well that causes a freezing. And even at some level, some of the hydrocarbons can freeze. 

 

And there is also a — in addition, there was electric outages to some of the pumps that pumped the oil and gas, or that pump the oil and gas out of the ground. And also there can be pressure sensors that get frozen and basically malfunction. And so can shut down flow or production to avoid spills. 

 

And so all of those things kind of went wrong at once and led to a massive drop in oil and gas production in Texas. So we’ve seen about a third of Texas’ oil production go offline, which is an amazing amount of oil production to go offline. Texas is by far the biggest oil producer in the country. It produces almost five times as much as any other state. If it was its own oil producer, it would be the fourth biggest in the world, just after Russia, Saudi Arabia, and the rest of the U.S.

 

And so we’ve seen a huge amount of production come offline because of those malfunctions at the well. It is possible to produce oil and gas in much colder jurisdictions. I was a Professor at the University of Calgary for three years, and I can tell you they produce a lot of oil and gas up there and it’s a lot colder. But the Texas oil and gas wells simply aren’t weatherized to deal with this kind of cold. And so as a result, you had less gas production.

 

So when you have a spike in demand for gas consumption – and that happens in Texas for two reasons. One is people need gas for heating directly in their homes, and they have appliances that run on gas heat. And secondly, for power because the power is necessary to heat things. So some people have electric heat. But that electric heat is also driven by natural gas. It’s just driven by natural gas power plants.

 

So there’s a spike in demand for both power and natural gas to households. Secondly, there’s less gas production. So Texas, which produces more natural gas than any other state—and the U.S. produces more natural gas than any other country—had a shortage of natural gas. It’s hard to imagine, but had a big shortage of natural gas to serve those purposes. And so what happens?

 

Well, the Texas Railroad Commission, which is the oil and gas regulator—funny name for the oil and gas regulator, but that’s what it is, Texas Railroad Commission—they ordered that natural gas first be sent to households for heating before it be sent to power plants for power. 

 

And the reason for that is because — well, there’s two reasons. One is, the natural gas for heating, I mean that’s absolutely humanitarian necessity. People need that heat to keep their houses warm. Secondly, it’s much more efficient to send natural gas for heating than it is to send natural gas to a power plant to be burned, turned into electricity, send that electricity to a house, and then heat up their house. It basically takes about two and a half times as much natural gas to turn it into electricity and then to heat as it does to just send the natural gas to the household for heating. 

 

So first priority is heating, second priority is power plants. But there wasn’t enough to serve all that power plant demand. So they ran out of it on that second priority. So, in fact, we had about a third of our natural gas power plants go down, which provide the power for the bulk of the grid.

 

Okay, so Texas produces so much natural gas that as a regular matter, it exports natural gas all across the country and around the world.  It does this several ways. It sends natural gas to its neighbors to the east, and to the north, but it also ships natural gas by liquefied natural gas overseas, by cooling that natural gas most of the way to absolute zero until it’s a liquid and shipping it overseas. 

 

Now it also takes — it also supplies natural gas to Mexico. So almost all of — Mexico is very dependent, Northern Mexico, on natural gas exports from the United States. So basically what happens when Texas orders natural gas first be shipped for heating only, and then there’s not enough to serve power operators, well, basically, the natural gas suppliers have to choose where to send that natural gas. And they basically have to choose which contract to break.

 

Now if you’re choosing which contract to break, you’re going to break it with the person that’s paying the least for gas first. It’s just like airlines, anything else. We don’t have room, kick the lowest paying customers off first, because presumably it’s worth the least to them, as well. If a customer’s willing to pay massive prices, then it must be very important to them. And that’s how the market will work in general. And with power prices at record levels in Texas, of course, that meant serving those Texas natural gas power plants as the first priority.

 

So when the crisis hit, natural gas exports, as a result of the market dynamics, slowed to a trickle. Okay. However, then yesterday, the Governor of Texas, in addition to that, said you know what, even a trickle is too much. We are banning export of natural gas from Texas now, unless you offered it to Texas power producers, and they turned you down.

 

So in other words, you first have to offer it to a Texas power producer before you can ship it out of state. They get that right of first refusal on that gas. Okay. That is probably illegal. It’s probably illegal for a couple reasons.

 

One is an export ban usually violates a dormant commerce clause. If you just said — Texas as a regular matter just said, we’re keeping all our natural gas. We’re not sending it to neighboring states or neighboring countries, that would violate the dormant commerce cause, likely. You could say, this is an emergency and so it would satisfy strict scrutiny. I think they would have a hard time as showing this as narrowly tailored because it doesn’t just apply to ERCOT, the part of Texas that is served by the same grid which is having the crisis, it applies to places that aren’t really having a special crisis, like in El Paso or East Texas, as well.

 

It would also likely be preempted under the Natural Gas Act which leads — interstate transmission is an area for the federal government to regulate and so it would likely be preempted as well. Now, this order was just for five days, so I’m sure whether somebody will get to court, get it challenged, get it struck down over those five days.

 

But it’s important to talk about the practical implications of this ban, this export ban, because they are enormous. I mean, one is, remember the normal priority in a crisis like this is, first we have to provide for heating, and then we provide for power use. So for this trickle of natural gas that is still leaving — that is still, in this crisis, leaving the state, it’s probably leaving it in part to meet the demand from people who need it for heating, for that biggest humanitarian need and the most efficient use of natural gas, is to burn it directly at homes.

 

And so to the extent that its cutting off heating use out of state in favor of power demand in state, that is potentially one of humanitarian and economic consequences. So that’s concerning.

 

Now, to a large extent, I think it’s probably just symbolic because power — because as I said, natural gas exports have basically gone to zero anyway. But there also is — the other big concern is, for the long term of Texas’ natural gas producers. Because as I said, Texas is one of the world’s dominant natural gas producers. Texas needs export markets for its natural gas.

 

When it starts banning natural gas exports during periods where, frankly, there’s need for power and heating in Northern Mexico, as well, and in Texas’ neighboring state, that makes it seem like a very unreliable source of natural gas exports, right. I mean, I think it’s bad enough that you think, market conditions could mean I don’t get the gas that I’m counting on from Texas. 

 

But if the government is going to step in and issue illegal orders to ban exports to the countries that have contracted for it, they thought they had a contract with Texas producers for natural gas, that is a huge uncertainty that’s entered the picture. And you might question whether those sources will say, you know what, I can’t rely on Texas natural gas. I need to use other places, as well. If they do that, that is a huge long-term problem for Texas natural gas producers.

 

And you’re already seeing Mexico making exactly these noises. The government there, President Obrador has said Texas obviously is not a reliable source of energy. We shouldn’t be relying on American energy. We need energy produced in Mexico. 

 

Now will he ultimately do the hard work it takes to increase production in Mexico, find other sources of energy, change the grid, etc., I don’t know. But it certainly — that is a major — it’s become on the agenda for Texas’ neighbors and the parties that rely on Texas for natural gas, that they don’t want to do that anymore if Texas is just going to ban gas exports.  So apart from the legal problems of this order, there are serious practical problems as well.

 

Jack Derwin:  Well, that’s a fascinating aspect to all this. This really doesn’t seem to be getting a whole lot of attention right now. So looking ahead, as we talked about a little bit at the beginning, what lessons should regulators draw from this incident? Particularly, does this mean they need to do a better job of hedging against risks like this when there’s extreme weather? Or would the cost of doing so still be too great to make it worthwhile?

 

James Coleman:  You know, it’s — every power outage doesn’t mean that the regulator did something wrong. So sometimes, you see a power outage and you say, well, this was just a very unusual situation and it probably wouldn’t have made sense to prepare for this situation.

 

I think this is not one of those cases, where you say, well you can’t prepare for every scenario. This is a scenario that, although it’s worse than the most recent storm in the past 20 years, it is not worse than storms that Texas has had in the past. So it’s not a situation that’s really outside of imagining. And also, the consequences of this are so severe that it’s just very hard to imagine it wouldn’t have been worthwhile to prepare for.

 

Okay, how could you prepare for this situation better? Well, there are a number of things you could do. So ERCOT, remember, is responsible for reliability in Texas. And what they do to try and ensure reliability, two things.

 

One is, of course, you make sure that power producers receive what the market is willing to pay for power. And so presumably, then, they will take whatever measures make sense to supply people what they’re willing to pay for power. And that includes obviously an incentive to provide power when it’s most needed.

 

In addition to that, ERCOT also provides a price-adder that, basically, when power supply is crunched, when there’s almost not enough to meet demand, they add to the price and basically say, we’ll pay you more to be available during those times. So there’s an extra incentive for producers to be available when power is most necessary.

 

Now, when you look at that, those two steps, clearly they were not sufficient to provide power during this time period. And so what could you do? Well one is, you could increase that price-adder. There’s also a price cap, which means, because of the price cap, although Texas’ price cap is higher than anywhere else’s, the imposition of that price cap clearly limits the incentive to provide power during these periods of crisis, and to prepare to provide power. So that price cap could be raised, as well.

 

So you could increase the price-adder, you could increase the price cap, you could also improve their scenario forecasting. So another thing that ERCOT does is, to try and guide company investment in power production, they say well these are the kind of scenarios we’re looking at and whether we’re likely to have a shortage. 

 

When they looked at their worst-case scenario, it was nothing like this. So in other words, they didn’t anticipate something like this. And if they did forecast that kind of scenario, that would have helped on shaping the decisions of the power producers that are responsible for providing power in this scenario. So absolutely, those things could be done.

 

They could also adopt regulations controlling reliability, including the penalties that apply to producers who said they were going to provide power and then didn’t. So that’s possible, as well. But we could look to wider reforms, as well.

 

The Texas Railroad Commission that regulates oil and gas, after the 2011 power outage, there was a report done by the Federal Energy Regulatory Commission and the North American Electricity Liability Council. It’s actually a U.S. and Canada body that sort of — a quasi-governmental entity looking at that — looks at reliability on a wider grid. They issued a report that said one thing that Texas could do is invest in weatherizing its oil and gas production. Because we had these frozen gas wells. What would it cost to weatherize a gas well?

 

And basically, the conclusion of that report, it didn’t say whether Texas should or not, but it said it costs a decent amount of money. Not a crazy amount of money, but it does cost money. And one question is, do we need to give some kind of incentive, just like we give an incentive to power producers to be available during a crisis, do we have to give some kind of incentive to natural gas producers to be available in a crisis.

 

And I think it’s more likely that we need to provide an incentive rather than just demanding it by regulation. Because one of the other big problems that we’re looking at here, is just a year ago, a little bit over a year ago, Texas was flaring record amounts of natural gas. 

 

Flaring is when you have nothing to do with the natural gas that you’re producing, so you just burn it off. And you could see those flares from space. Thousands of wells flaring natural gas day and night. Texas was flaring more natural gas than its residential consumers use. It was flaring more natural gas than some nations use. It was just an absurd amount of natural gas just being burned off.

 

And the reason that was happening is because nobody would purchase that natural gas at the time. It was worthless at the time. Well, now, natural gas is the most valuable thing you could have in Texas. And so the question is, how can we invest in infrastructure to capture, store, that natural gas and have it available when it’s needed? And I’ve written something about that.

 

One problem is that, one of the simple things that you might do, forbidding flaring, or demanding, or anything that you do to raise the cost of natural gas producers. For them, they would say, well, that could lead to even more negative natural gas prices. So I weatherize wells, you might say, well why would I bother producing this natural gas and weatherizing this well when that just costs me more money, and I’m already receiving no money for the gas. So I’ll just flare it off.

 

On the flip side, if you try to stop flaring, that basically forces natural gas producers to pay somebody to take their natural gas away. And you get more negative natural gas prices throughout the system, which actually it can increase ways because basically it gives everybody else an incentive to vent and flare natural gas. So it’s a really tricky problem.

 

And so the question, I think, is how do we provide an incentive for those natural gas wells to be available when we need them and perhaps the kind of price-adders that you see at ERCOT are maybe one way of doing that. But obviously, that’s going to require some coordination between the Texas Railroad Commission, which regulates oil and gas production, and ERCOT, which regulates the power grid. And right now, those two are fighting. And there’s a lot of finger-pointing about who is responsible for this power outage. So I’m not sure if we’ll see that.

 

Other things that you could see. I mean, Texas certainly could integrate more with its neighbors, although there are costs and benefits to doing that. It also could adopt what’s called a capacity market. 

 

Capacity market basically pays plants to be open whether or not they’re needed, so that you hope in a crisis, they’re available. There’s been a lot of criticism in capacity markets. There’s a lot of downsides to those. And I mean, one you can just imagine, which is that sometimes in a crisis — imagine that you have two cars that you keep around. You keep the second car in case the first car goes — something goes wrong with the first car. So you have one car that you’re driving every day. And one car that you haven’t driven in a year. And you think everything’s fine with it, but you haven’t driven it in a year.

 

In that crisis, you have to get into one car, which are you going to get into? You’re going to get into the one you drive every day because you know it basically works. And that’s the problem with capacity markets. You’re paying plants to be open during crisis. But when it comes time to actually use them, are they really going to be available? It’s not actually certain and there’s been problems with that in different places around the world.

 

So that’s another possibility but it’s not a magic solution. I think ultimately, we’re going to have to increase our regulatory capacity, both with the Texas Railroad Commission and with ERCOT. And the other issue is, we need to understand how big a challenge this. Because year by year, electricity provision becomes more and more important. Because more and more things are being — coming dependent on electricity. 

 

For example, we’re selling more electric vehicles every day. What would have happened if our emergency vehicles had been dependent on electricity when the power went out across much of Texas? I mean, that would have been a complete disaster. What happened for people who needed to find someplace warm to go, but they were dependent on an electric vehicle.

 

As we move to electricity for more things, the cost of an electric — of a blackout become bigger, and bigger, and bigger. And we already saw with the oil and gas wells dependent on electricity, they went down. And that creates more vulnerabilities in the system. And so I think we need to — this is just a sign of how important reliability is and how much we need to focus on that going forward.

 

Jack Derwin:  Well, thank you. It’ll be fascinating to see how some of these things shake out going forward. And thanks so much for taking the time to join us today, James. We really appreciate your insights. And here’s hoping you and your fellow Texans get power back soon.

 

James Coleman:  All right. Thank you so much.

 

Jack Derwin:  And thank you to our audience for tuning in to this episode of RTP’s Explainer Podcast. You can subscribe to the podcast on any major podcast platform. And check out our website, regproject.org, to learn more.

 

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