Produced and Directed by
Michael Chandler

Written by
Michael Chandler and Lowell Bergman

Correspondent
Lowell Bergman

NEWSCASTER: California's power supply came up short today, and the lights went out.

ANNOUNCER: For the first time in 65 years, the electric power market is in chaos. Electricity rates are climbing, and not just in California, where the largest utility has gone belly-up.

JEFFREY K. SKILLING, President and CEO, Enron: It is the most volatile commodity in the world.

ANNOUNCER: The plague of blackouts that started on the West Coast could spread to New York by summer. And entire regions of the country are short on power.

Rep. RICHARD GEPHARDT (D-MO), Minority Leader: Guy at rally: This is an American problem! It's not just a California problem!

RICHARD B. CHENEY, Vice President: There's not a lot you can do. You can't manufacture kilowatts in the West Wing of the White House.

ANNOUNCER: Investigators claim that a handful of energy companies siphoned billions from consumers while the lights were out.

RICHARD PRIORY, CEO, Duke Energy: We took the market price. We didn't take any excess price, I can assure you of that.

LORETTA LYNCH, President, California PUC: These folks are going to bleed us to death like leeches unless we stop them.

ANNOUNCER: But the industry charges that regulators and politicians failed to act.

GRAY DAVIS, Governor, California: This is people taking advantage, and sticking it in as deep as they can.

ANNOUNCER: Tonight, in a joint production between FRONTLINE and The New York Times, correspondent Lowell Bergman investigates the energy storm that could soon engulf the nation.

LOWELL BERGMAN, Correspondent: [voice-over] If you want to understand the story of electric power in America today, you have to follow the money. It's a story that takes you here, to Houston, Texas. This is "Energy Alley," home to a new breed of power company run by electric cowboys who've pioneered radical ways of buying and selling energy.

On this downtown block alone stands a phalanx of new energy giants - Dynegy, El Paso, Reliant - and down the street. the biggest of them all, the Enron Corporation.

On this trading floor, young MBAs and Ph.D.'s trade everything from oil, gas and electricity to Internet bandwidth and hedges against the weather itself.

[on-camera] What's going here, hundreds of millions of dollars in-

[voice-over] Twice the size of its nearest competitor, Enron runs the largest e-commerce site in the world. Jeff Skilling is Enron's new CEO.

JEFFREY K. SKILLING: Our gas portfolio, we probably do- oh, probably close to $3 billion, $2.5 billion to $3 billion a day of purchases and sales. So that would be a notional factor. So, yes, big.

LOWELL BERGMAN: Enron's a new kind of company. It's not a big energy producer, but makes money instead as a middleman, buying electricity before it's made, then selling it to customers.

[on-camera] Do the weather guys get punished here if the weather is wrong? I mean, if they predict wrong?

JEFFREY K. SKILLING: No. Do have any whip marks on your back there, Mark?

LOWELL BERGMAN: [voice-over] The company relies on its own team of private weather forecasters to find the most profitable market to sell into. Who needs heating? Who needs cooling? And when?

ENRON FORECASTER: But we're looking for above-normal temperatures on all three coasts - Gulf Coast, East Coast and West Coast.

LOWELL BERGMAN: [on-camera] But it's going to be hot this summer.

ENRON FORECASTER: It looks like it'll be a hot summer, to the tune of about two degrees. That may not sound like a lot, but over a 91-day time period it is a considerable number of cooling-degree days.

LOWELL BERGMAN: This is all in-house, proprietary information.

JEFFREY K. SKILLING: Yes. This is done so that we can help get an understanding of what's going on in the marketplace, our understanding of what's going on in the marketplace-

LOWELL BERGMAN: Or may happen in the marketplace.

JEFFREY K. SKILLING: Or may happen in the marketplace. And that's what makes markets work. That's what makes markets efficient.

LOWELL BERGMAN: [voice-over] Take what happened last summer in California. It was unusually hot weather, and a drought in the Pacific Northwest drastically cut into imports of badly needed hydro-electric power. At the control room for the state's power grid, president Terry Winter normally could draw on his reserves. But now there were days when he found himself scrambling for power and paying whatever it took to keep the lights on.

TERRY WINTER, CEO, California ISO: It was a Monday. We had had a problem with one unit going out at 1:30 in the morning. We immediately then went into our reserves, pulled down our hydro. It became evident that nobody had energy for us. And by 11:00 o'clock, we dropped off around 500 megawatts.

LORETTA LYNCH, President, California PUC: At the end of May - in fact, on May 22nd - there was an unseasonably hot day. Power use went up some in California, but the price of power skyrocketed, much more than the demand for that day. The prices charged for power bore no relationship to the cost of producing that power.

LOWELL BERGMAN: [on-camera] So something funny was going on.

LORETTA LYNCH: I don't think it's actually funny. I think it's pretty appalling that the folks who sell us power can charge whatever they want. And on that day, they did. And then on subsequent days they did, such that last summer the price of power shot up from about 5 cents a kilowatt hour, on average, to about 18 cents a kilowatt hour on average, so more than tripling over last summer.

LOWELL BERGMAN: [voice-over] In spite of those wholesale price spikes, Loretta Lynch, head of the California PUC, refused to raise retail rates. And when she finally did, consumers reacted angrily, and so did industry, accusing Lynch of doing too little, too late. But Lynch believes the current crisis rests with those charging the state its high prices, and she accuses them of price gouging.

LORETTA LYNCH: You and I have to buy electricity every day, and we can't store it. So the people who make electricity know they have a fundamental economic necessity that people will buy at any price, and so they charge any price they want.

LOWELL BERGMAN: Economists call the ability to manipulate prices "market power," and electricity is especially susceptible when power supplies run short. It can take years to bring new plants on line. And in the meantime, prices are at the mercy of a handful of companies.

JEFFREY K. SKILLING, President and CEO, Enron: I, personally, I don't buy it. I think- I think people are looking for a scapegoat, but-

LOWELL BERGMAN: [on-camera] You don't think there was any exercise of market power last summer or this winter?

JEFFREY K. SKILLING: I don't think so. I really don't think so.

LOWELL BERGMAN: But electricity was not something that was traded, in a sense, before you guys came along, right? You invented that.

JEFFREY K. SKILLING: Uh-huh.

LOWELL BERGMAN: And many people still say it shouldn't be traded. It's a vital commodity like oxygen, industrial oxygen, if you will.

JEFFREY K. SKILLING: Do you believe that? [laughs] I mean, let's let's stop trading wheat. Let's stop trading- you know, we need iron. You know, we need automobiles to maintain the logistics system, so does that mean we can't trade steel? I mean, these are all markets.

LOWELL BERGMAN: The difference is, your family at home, if they don't have electricity, they not only don't have their computer and their TV, they don't have refrigeration, they don't have lights. Their lives change.

JEFFREY K. SKILLING: Listen, I understand what you're saying, but I don't buy it. I just flat out don't buy it. We are doing the right thing. We are working to- to create open, competitive, fair markets. And in open, competitive, fair markets, prices are lower and customers get better service.

LOWELL BERGMAN: You're the good guys?

JEFFREY K. SKILLING: We are the good guys. We are on the side of angels.

LOWELL BERGMAN: [voice-over] If that's true, lately the good guys have been winning. This past year has seen a vast transfer of wealth from energy consumers to power sellers and traders like Enron. Before deregulation, Enron could not do what it does today because electricity was always seen as being different from other commodities. Franklin Roosevelt introduced federal regulation of electricity in the 1930s. It was an effort to curb abuses that were rampant in power monopolies.

Pres. FRANKLIN DELANO ROOSEVELT: It is going to be a fight, a cheerful fight on my part, but a fight in which there will be no compromise with evil, no letup until the inevitable day of victory!

LOWELL BERGMAN: For the next half century, government regulators would oversee private utilities. Critics say this system led to oversupply and high prices. At the heart of the debate are the key words from a 1935 law stating that electric rates be "just and reasonable."

[on-camera] Should the language "just and reasonable rates" be stricken from the federal statutes?

JEFFREY K. SKILLING: I absolutely think so. "Just and reasonable" according to who? Now, you have consumers on Long Island, they're paying 24 cents a kilowatt hour, and some regulatory entity has decided that's just and reasonable. You've got to be kidding me! I mean, what led to that? A whole lot of bad decisions that were agreed to by regulators under the rubric of "just and reasonable."

LOWELL BERGMAN: [voice-over] At first, electricity deregulation enjoyed widespread support, but now some people are having second thoughts.

S. DAVID FREEMAN, Energy Adviser, California: It's OK for the price of fur coats to go up and down. It's OK for carrots to go up and down, or almost anything else that you can do without or that you can store. It's not OK for the oxygen of life in this high-energy civilization. That's the lesson we need to learn.

LOWELL BERGMAN: David Freeman was until recently the head of the Los Angeles Department of Water and Power. Although an early supporter of deregulation, he now believes it was a mistake.

[on-camera] People like Enron, for example, who believe ideologically in the free market-

DAVID FREEMAN: Emphasize that word, ideologically. It's a religion. It's not rational. The economists have a religious belief that there's nothing that's a market price that could be bad, and there's nothing that's regulated that could be good.

Now, if they think that's a system that is good for California, it might be good for Texas, because that's where the money's going, but it sure in hell ain't good for California.

NARRATOR: [voice-over] Ken Lay is Enron's chairman. He took a small gas pipeline business and turned it into a $100 billion company, betting the future on unregulated energy markets.

[on-camera] You believe in the sort of invisible hand of Adam Smith?

KENNETH L. LAY, Chairman, Enron: The market- well, I've yet to see any system in the world, within the regulated system, that over time does a better job of setting prices and allocating supplies than a competitive market. And we've tried it all the way from our regulatory schemes in this country to, of course, the socialist model in many other countries. And in every case, with 20-20 hindsight, we've found it destroys economic welfare.

LOWELL BERGMAN: And this is an unregulated marketplace that you've created here.

JEFFREY K. SKILLING, President and CEO, Enron: Yes. You can look at it right here.

[www.pbs.org: Study the deregulation debate]

LOWELL BERGMAN: [voice-over] In an unregulated marketplace, traders like these will determine prices, rather than government regulators.

JEFFREY K. SKILLING: You know what we're willing to purchase and what we're willing to sell.

LOWELL BERGMAN: Prices should be lower and customers happier.

JEFFREY K. SKILLING: There is a very, very narrow spread and absolute price transparency for customers.

LOWELL BERGMAN: [on-camera] But nothing's ever happened like that before, the electricity market in California?

[voice-over] Skilling and Lay believe California's system failed because it stopped short of full deregulation.

JEFFREY K. SKILLING: I'm hoping that people don't say, "Gee, California deregulated. California had a problem." What people should be saying is, "California didn't deregulate, California put in place a ludicrous regulated system. And sure enough, it failed."

LOWELL BERGMAN: What did happen in California? In 1996, after 60 years of regulation, the state created a new, deregulated system. Although it would eventually receive wide bipartisan support, the earliest backers had been large industrial customers.

Robert Glynn is the CEO of Pacific Gas & Electric.

[on-camera] We are told that this was never designed to benefit the ratepayers at home.

ROBERT GLYNN, Jr., Chairman, Pacific Gas & Electric: I don't think that's a completely accurate statement. It is fair to say that it was not sought by individual residential consumers. It was never their issue.

LOWELL BERGMAN: [voice-over] But to protect those small consumers, California created a hybrid - part regulated, part unregulated. In time, utilities like PG&E were caught in a squeeze. The utility now had to buy power at wholesale rates set by the free market, but it would continue to receive payments from retail customers who were paying capped rates.

ROBERT GLYNN, Jr.: The issue was when wholesale rates went up. I mean, that's the fundamental driver that took place, is when wholesale prices in California went up. And that was in June of 2000.

LOWELL BERGMAN: [on-camera] And when did you realize that they weren't coming down?

ROBERT GLYNN, Jr.: Not terribly long after they went up, when they didn't go back down, that's when we realized it.

NEWSCASTER: As we've been reporting, Pacific Gas and Electric finally filed for Chapter 11 today. The utility company-

LOWELL BERGMAN: In April, Pacific Gas and Electric Company went bankrupt, the third largest bankruptcy in U.S. history. Glynn believes the bankruptcy could have been avoided if politicians had allowed consumers' rates to rise.

[on-camera] But you're saying it was red tape from- basically, from the Utilities Commission that stopped you from doing something that might have averted what came next.

ROBERT GLYNN, Jr.: That's correct.

NEWSCASTER: This is such a political hot potato, insiders say, look for the PUC and Governor Gray Davis to try to maneuver the legislature into taking the heat.

GRAY DAVIS, Governor, California: Tonight I'm declaring a state of emergency in California.

LOWELL BERGMAN: [voice-over] By the time Governor Gray Davis announced the state's official power emergency, wholesale rates had been soaring for six months. Critics felt he was too slow to raise retail bills, with every ratepayer a voter.

Gov. GRAY DAVIS: Everybody wants me to raise rates and sock it to the ratepayers. Everybody. But I am not going to do that. I reluctantly, after months of holding out, had a partial rate increase, a fraction of what they want me to raise.

LOWELL BERGMAN: [on-camera] Can you see why people are suspicious as to what will happen next, because it seems like you have been reacting, as opposed to being ahead of the curve.

Gov. GRAY DAVIS: That's not true. No governor in America has built as many- no governor in California has ever built as many power plants as I'm building. Not one.

LOWELL BERGMAN: [voice-over] Davis believe's he's getting blamed for a flawed system he inherited his predecessor, and he, in turn, blames the power generators.

[on-camera] And you believe that the generators have manipulated the market?

Gov. GRAY DAVIS: Well, the generators have made more money than God. I mean, they've made 700, 800, 900 percent profit. They haven't improved the service. They haven't improved the product. They're just selling us back our own electrons that are sitting here in California at 700, 800, 900 percent profit.

Never again can we allow out-of-state profiteers to hold California hostage.

LOWELL BERGMAN: "Profiteers," "pirates"-

Gov. GRAY DAVIS: You know, you can call them anything.

LOWELL BERGMAN: No, you've called them all these things, haven't you?

Gov. GRAY DAVIS: And those are all deserved adjectives. I mean, they basically are threatening the economic well-being of the flagship of America's economy.

LOWELL BERGMAN: You'll lay out your argument - "The rules in California are terrible" - but then once you see what the rules are, you guys push those rules to the edge in an effort to make a buck.

JEFFREY K. SKILLING: Well, I - that's probably fair, yeah. I mean, once - once you set the rules to a marketplace, we adhere to the rules. I mean, if that's what you're saying.

LOWELL BERGMAN: Well, But you know what I mean. You play the game hard. You take it right down to the-

JEFFREY K. SKILLING: We adhere to the rules.

LOWELL BERGMAN: [voice-over] But so far, playing by these rules, California is losing. This converted department store in a Sacramento shopping center is California's last line of defense in keeping the lights on.

POWER OFFICIAL: Yeah, this is the- this is the operations center. This is- this is the location where we make energy purchases and fill the state of California energy requirements.

LOWELL BERGMAN: Forced to step into the breach when utilities ran out of money, California drafted employees of the state's Department of Water Resources to go head to head with the professional energy traders. The state's traders are spending upwards of $350 million a week and have already spent more than $6 billion.

In 1999, California bought $7 billion worth of power, last year $27 billion, and this year it could reach $60 billion, while demand has risen less than 5 percent per year.

LORETTA LYNCH, President, California PUC: I am well aware of how sophisticated the private market sellers are. In fact, their entire incredibly advanced technological systems are all designed to wring every penny and quarter penny of profit out of every transaction possible. That's how they're making so much money. So I agree. I think that the state, as this point, is outgunned.

LOWELL BERGMAN: Critics say the state created its own mess when it required the utilities to sell off their power plants and made them buy their power on the open market. It also prohibited long-term contracts, exposing the utilities to the wild swings of trading.

JEFFREY K. SKILLING: It is the most volatile commodity in the world. And you're designing a system where you're requiring the utilities to purchase all of their power on the spot market? This is nuts. I mean, this, on the face of it, it didn't pass the smell test.

LOWELL BERGMAN: [on-camera] It looks like the Little League versus the major leagues.

[voice-over] Frank Wolak is an economist who sat in on the early meetings between the old-line utilities and the new owners of the power plants.

FRANK WOLAK, Economics professor, Stanford University: And I remember seeing- all the guys over here look like the students that take my undergraduate finance class. They understand options, derivatives, you know, risk, et cetera, management.

LOWELL BERGMAN: [voice-over] These are the new guys.

FRANK WOLAK: These are the new guys. All the guys over here are the engineers with the pocket protectors, and they're all thinking about "How do I cover my cost?" And I can assure you, these guys over here are not worried at all about covering their cost. They're worried about maximizing profits. And I just remember wanting to say, but suppressed in the public meeting, of saying, "You guys really should hire some of those guys because if you don't, they're going to take all your money." And I should have said it, in hindsight, but-

LOWELL BERGMAN: Because?

FRANK WOLAK: They have.

LOWELL BERGMAN: [voice-over] Last summer, the buck for buying energy stopped here, at the California Independent System Operator, or ISO. With power supplies running short, the agency found itself unable to stop generators from bidding up the price of power.

TERRY WINTER, CEO, California ISO: There were generators at the beginning of the market that clearly had the ability, in times of shortage, to bid whatever number they could come up with, as high as they could go. And because they thought there was a limit on our computers, they went to 9999, or $9,999 per megawatt hour. In fact, they could have gone much higher than that.

LOWELL BERGMAN: The power industry blames the high prices on shortages brought on by California's failure to build any major power plants over the last decade, despite a booming economy.

KENNETH L. LAY, Chairman, Enron: I mean, we have a supply-demand imbalance. Too much demand, too little supply in California.

LOWELL BERGMAN: Not everyone agrees. Consumer advocates in California accuse the generators of actually withholding supply.

NETTIE HOGE, Consumer Advocate: The idea that, all of a sudden, we had a supply crunch is preposterous. What happened is, all of a sudden, the new plant owners and the traders, like Mr. Lay's organization, looked at the data and figured out how to manipulate the market. As soon as that happened, the prices never went down again. If it was totally a supply problem, why would we have excess prices at 5:00 o'clock in the morning on Christmas Day, when nobody but Santa is working?

LOWELL BERGMAN: The generators, in turn, say they shut down plants for routine winter maintenance.

KENNETH L. LAY: Every time there's a shortage or a little bit of a price spike, it's always collusion or conspiracy or something. I mean, it always makes people feel better that way.

LOWELL BERGMAN: [on-camera] But you know as well as I do that the price- it's nice for a business. You're in the business of making money for your shareholders, right, as a company.

KENNETH L. LAY: Yeah.

LOWELL BERGMAN: So you would be foolish, as you say, to turn down the kind of money you could make this past winter in California. Isn't there a-

KENNETH L. LAY: I think you put words in my mouth.

LOWELL BERGMAN: OK.

KENNETH L. LAY: I said we made some money in California, we made some money across the country and around the world. I mean, and as and I tell my friends in California, Enron was doing quite well before California imploded.

FRANK WOLAK: You can't blame the Enrons. I mean, they're the guys- that's- that's what they do. They try to make as much money from the money that they get invested. You blame the regulators.

LOWELL BERGMAN: [voice-over] Across the country, tucked in an out-of-the-way building behind Union Station in Washington, D.C., sits the Federal Energy Regulatory Commission, or FERC. FERC's commissioners are appointed by the president and control a $250 billion energy sector critical to America's economy.

With the coming of deregulation, state control over wholesale electricity rates passed to the federal government, making FERC the final arbiter of "just and reasonable" rates. It's a power FERC has been reluctant to use.

Curt Hebert is a protege of Senator Trent Lott, who convinced President Clinton to appoint Hebert to the FERC in 1997. In January, President Bush made him the FERC chairman, and Hebert has made no bones about where he stands on free markets.

CURTIS HEBERT, Chairman, FERC: The rules of competition govern that economies work, that choice works. It's why we're American. We inherently like choice. It's why we left the mother country. We didn't like the rules they were setting. We wanted to make our own rules. We want our own choices. And we believe that works.

LOWELL BERGMAN: [on-camera] OK, but is electricity different?

CURTIS HEBERT: It's a transition. It takes some time. Look, they didn't build this monopolistic system overnight, and we won't change it overnight, either.

WILLIAM MASSEY, FERC Commissioner: Without some effective price control this summer, I fear for the worst.

LOWELL BERGMAN: [voice-over] William Massey is a FERC commissioner - a Democrat - who has found himself in opposition to his chairman.

[on-camera] Commissioner Massey, what is the nub of the disagreement that you have with Mr. Hebert?

WILLIAM MASSEY: I think what it boils down to is a philosophical disagreement about the role of my agency in ensuring just and reasonable prices. I think it's long past time for this agency to step in and impose a temporary "time out" on the markets.

CURTIS HEBERT: Well, that is the problem because these people are saying temporary, but they don't mean temporary. It's kind of like the temporary rent control you have in New York. It's not temporary at all. And as a matter of fact, you know, in Washington D.C., we don't do temporary very well, and that's a problem.

LOWELL BERGMAN: [voice-over] In fact, late last year, after six months of unrelenting high prices in California, the FERC finally did declare California's rates "unjust and unreasonable," but took no action.

Gov. GRAY DAVIS: So they found these people guilty a year ago. They just haven't agreed on the sentence.

LOWELL BERGMAN: [on-camera] Well, we talked with Curt Hebert, and we got-

Gov. GRAY DAVIS: Well, that's- you know-

LOWELL BERGMAN: That's what?

Gov. GRAY DAVIS: Lotsa luck.

LOWELL BERGMAN: What do you mean "Lotsa luck"?

Gov. GRAY DAVIS: Because-

LOWELL BERGMAN: He's the Federal- he's the guy you're turning to give you the money back.

Gov. GRAY DAVIS: He is the chairman of the commission, but he has not been overly sympathetic to California. He's more of an ideologue than a problem solver.

LOWELL BERGMAN: Well, he's saying that you just want him to give you short-term relief, price caps, which won't solve the problem.

Gov. GRAY DAVIS: "Problem" meaning fattening the balance sheets of already enormously wealthy energy companies.

LOWELL BERGMAN: [voice-over] Earlier this year, the California ISO compared competitive market rates with the rates the state actually paid. It concluded that California had paid more than $6 billion in excess prices, which it now wants the FERC to make the companies refund.

CURTIS HEBERT: But let me tell you what's not been shared with you. Do you realize only $1.3 billion of that is subject to our jurisdiction, based on the law? You see, I think it's important for you-

LOWELL BERGMAN: [on-camera] OK, well, let's grant-

CURTIS HEBERT: -the American public to understand that.

LOWELL BERGMAN: I understand that.

CURTIS HEBERT: Well, then let's not talk about $6.9 billion, let's talk about $1.3 billion.

LOWELL BERGMAN: OK, let's talk about a couple of billion dollars, which is still more than chump change.

CURTIS HEBERT: Well, it's not a couple. It's $1.3 billion.

LOWELL BERGMAN: Well, it's more than chump change.

CURTIS HEBERT: It's a lot of money.

LOWELL BERGMAN: OK. And still, you only moved and asked for refunds in $146 million worth, one tenth of that. Why is that?

CURTIS HEBERT: Our job is to find prices that might be based on some scheme or conduct which is illegal, that certainly promotes market manipulation. That is what we're doing.

LOWELL BERGMAN: Before this recent rebate that you're demanding from generators for $100-some-odd million, how much had FERC in recent years asked generators to rebate to consumers or to the utilities?

CURTIS HEBERT: I don't know that. I could get back with you on that.

LOWELL BERGMAN: [voice-over] Until very recently, the only refund the FERC had collected in more than 10 years, from a $250 billion industry, was one for $598.

[www.pbs.org: Is FERC to blame?]

LOWELL BERGMAN: Only one other commodity has rivaled electricity in its volatility on the open market, the trading of natural gas. As power plants have become cleaner-burning, gas has become a vital component in the making of electricity, accounting for 20 percent of the nation's power production and over half of California's.

The El Paso Corporation is the largest natural gas pipeline company in the world and runs one of the largest energy trading floors in the country. El Paso's Merchant Energy Group had profits last year over $500 million, thanks in part to gas sales to California. Lately, however, those earnings have come under fire.

Harvey Morris is a lawyer for the California Public Utilities Commission. For over a year, he has been investigating alleged market-rigging in the California natural gas markets.

[on-camera] Now, come on, Harvey. I'm looking around in this office, and you're- this is the front line of defense for consumer interests in California versus these corporations?

HARVEY MORRIS, Attorney, California PUC: Well, there are a lot of people that have offices-

LOWELL BERGMAN: [voice-over] Morris has filed a complaint with the FERC against the El Paso Corporation and its affiliate companies. He says that El Paso conspired to manipulate natural gas prices in California by withholding its pipeline capacity.

HARVEY MORRIS: There was over a billion cubic feet a day of excess pipeline capacity in California.

LOWELL BERGMAN: [on-camera] And they weren't making this excess available to people who wanted to use it.

HARVEY MORRIS: If a lot of marketers had the capacity, it would have driven down prices because there would have been more competition.

LOWELL BERGMAN: And this is their own chart.

HARVEY MORRIS: This is El Paso's own chart.

LOWELL BERGMAN: You did this because you thought that there would be trouble in the future?

HARVEY MORRIS: We knew there'd be trouble. No marketer would be grabbing that much capacity and then keeping it off the market if they weren't trying to drive up artificially the natural gas prices.

LOWELL BERGMAN: So if someone sitting at home, looking at their bill for natural gas-

HARVEY MORRIS: A major reason for the increase in the people's bills is because El Paso Merchant Energy manipulated the prices at the California border.

LORETTA LYNCH, President, California PUC: So Harvey wanted to file a case on behalf of the citizens of California at the FERC. He showed me his evidence. I thought it was a dead-bang, absolute case of price manipulation. So we voted to take this case to the Federal government.

LOWELL BERGMAN: Which has so far-

LORETTA LYNCH: Done absolutely nothing. In fact, more than that. They've sat on the complaint. It's now a full year since the state of California brought this clear evidence to the federal government, and they have done absolutely nothing with the complaint,- while all of California has suffered from higher natural gas prices.

LOWELL BERGMAN: [voice-over] In fact, the FERC only decided to investigate the allegations of market manipulation once FRONTLINE and The New York Times obtained sealed documents. Memoranda to El Paso's CEO, written in technical language, suggested that storage was needed to, quote, "help manipulate physical spread, adding to the overall transport/storage cost."

PEGGY HEEG, Spokesperson, El Paso Corp.: Those documents are irrelevant because-

LOWELL BERGMAN: Peggy Heeg is a senior vice president with El Paso. El Paso would not make its CEO available for this program, but it denies any wrongdoing, placing blame for the high gas prices on the California Public Utilities Commission.

PEGGY HEEG: They made some decisions a few years ago that are coming home to roost right now. They ordered the utilities to relinquish capacity, and they also opposed the construction of pipelines within the state of California. It's their policies that have created this situation.

LOWELL BERGMAN: Last month, the FERC began hearing the charges against El Paso, over 13 months since Morris first made his allegations.

[on-camera] Based on your access to information and documents, do you believe there's been manipulation in the natural gas market in California, in the delivery of that gas to California?

CURTIS HEBERT: We have a pending matter on that issue right now. I know the American public doesn't understand. It may see this as an opportunity for me to sidestep the issue. I am legally prohibited from discussing a pending matter with you. We will issue that quickly. We're working on it right now.

PAT WOOD, III, Chairman, Texas Public Utilities Commission: I don't understand why $5 gas plus $1 transportation equals $19 product.

LOWELL BERGMAN: [voice-over] Pat Wood was the longtime chairman of the Public Utility Commission of Texas.

[on-camera] But if a document from inside the company that is in charge of the transmission, part of the capacity, says that their intent is to widen the physical spread-

PAT WOOD: Inside the regulated company?

LOWELL BERGMAN: Inside the unregulated marketing arm of the company that controls a critical part of the capacity. What does it say to you?

PAT WOOD: That says there's probably something else going on there that ain't what's supposed to be going on there.

LOWELL BERGMAN: [voice-over] If there was a windfall from the increase in gas prices at the California border, El Paso denies taking it.

[on-camera] So if El Paso didn't make the money, or all of this money, who did?

PEGGY HEEG: That's a very good question, and we'd like to know that, too. And I- and the only way I think you will really know that is if somebody starts digging into the financial transactions behind what happened at the California border. We don't know. It wasn't us.

LOWELL BERGMAN: [voice-over] El Paso did reap record profits last year, as did many of the companies on Energy Alley. And their prospects may get better, now that a fellow Texan sits in the White House.

[www.pbs.org: More on "windfall profits"]

This is Enron Field, where the Houston Astros play and where Ken Lay himself has hosted the Bush family. Lay is a personal friend and big backer of President Bush. He and his executives have been the president's most generous contributors, giving more to his various campaigns than any other source.

KENNETH L. LAY, Chairman, Enron: Immediately, it's assumed that if you get- make a contribution to a political campaign, you expect kind of a quid pro quo, something in return for it. I mean, there are a few of us that are still maybe idealistic enough to think that we can kind of support a candidate because we really believe in the individual. We believe in their policies. We believe in the direction they're going to take the country.

LOWELL BERGMAN: Lay's Enron Field was built by a company just across town, a subsidiary of Halliburton, a gas and oil services company run at the time by the man who is now the country's vice president.

Dick Cheney is the first CEO of a Fortune 500 company ever elected to a presidential office. For the last four months, he headed the president's national task force on energy policy. Having divested himself of any interest in Halliburton, he sees his former experience as an advantage.

Vice Pres. DICK CHENEY: I think it's valuable to have somebody who's been involved in the energy business making energy policy. It's a little bit- I mean, if you want to do brain surgery, you go get a brain surgeon. I don't want to compare what I've done to that level of complexity, but the fact of the matter is we need to have some people around who've got some experience. And as I say the- I think the key is that the public can have confidence we're going to make good public policy not based upon what's good for any one particular energy company or sector of the energy industry.

LOWELL BERGMAN: [voice-over] But it's hard to ignore the burst of giving by the energy industry to these two former oilmen. During the 2000 election cycle, gas and oil companies alone gave a record $32 million, almost 80 percent of which went to Republicans.

[on-camera] And they have access. I mean, we've talked to-

Vice Pres. DICK CHENEY: Everybody does. I mean, the staff of our energy task force has spent time with folks from various pieces, parts of the industry. We've also spent time with the environmentalists. I spent a lot of time with the members of Congress, listening to them, both parties, on energy. So the idea that somehow only the energy industry has access just simply isn't true.

LOWELL BERGMAN: But you understand that people would have this idea that it's them who are setting the rates. It's them who- the people with power, the CEOs, the people who've contributed to your campaigns, the people who mention your name in interviews that we do because they've gone hunting with you or fishing with you.

Vice Pres. DICK CHENEY: Yeah, but I mean, that's the conspiracy theory of public policy. It's irresponsible. It's not true.

MARK COOPER, Consumer Federation of America: They certainly didn't invite us. And I know most of the groups, and you know, the numbers- and if you do get invited, there's 10 producers and one consumer.

LOWELL BERGMAN: [voice-over] For 17 years, Mark Cooper has been director of research at the Consumer Federation of America, the nation's largest consumer group.

[on-camera] You haven't been asked into the White House to talk about this.

MARK COOPER: We have not been asked into the White house to talk about this.

LOWELL BERGMAN: And you haven't been asked into the FERC to talk about it.

MARK COOPER: We have certainly not been asked into the FERC.

LOWELL BERGMAN: [voice-over] But the real battle for influence in Washington has been among these powerful energy companies. For years, Enron has been pushing hard to gain greater access to the 150,000 miles of transmission lines which criss-cross the country. Those lines are vital to Enron, which must negotiate with monopoly utilities to carry its electricity.

[on-camera] The transmission grid is of primary importance to you, right?

KENNETH L. LAY, Chairman, Enron: Oh, absolutely. But I mean, it's- it's the backbone. It's the high-voltage backbone for the electric industry. It's kind of like- it's kind of like a superhighway system for electricity.

LOWELL BERGMAN: [voice-over] Getting to those lines has pitted Lay against another energy giant, the Southern Company, based in Atlanta. Southern controls the power lines across the deep South. Like Enron, it is a major political contributor and is close to Senator Trent Lott.

FERC chairman Curt Hebert has resisted Ken Lay's efforts to force Southern to open up its lines to Enron.

[on-camera] Has Ken Lay called you?

CURTIS HEBERT: I have talked with Ken Lay on the phone and in private.

LOWELL BERGMAN: We've been told that he says things like, "I'll help you with what you need politically" - let's say, staying on as chairman of the FERC - "if you'll go along with me on this policy issue."

CURTIS HEBERT: I would never make that trade.

LOWELL BERGMAN: Did he ever propose such a trade?

CURTIS HEBERT: I would just say that I would never make such a trade.

LOWELL BERGMAN: Has any other CEO of any company ever called you privately to lobby their position?

CURTIS HEBERT: No.

LOWELL BERGMAN: Other than Ken Lay.

CURTIS HEBERT: No.

LOWELL BERGMAN: [voice-over] But Lay says it was Curt Hebert who called him and solicited his support.

KENNETH L. LAY: I suppose Curt's entitled to believe whatever Curt believes. I want to say Curt's a very, very capable individual. But I- but I- I'm quite sure I did not in that conversation, as I would not, say that, "If you can't agree to this, then we can't support you with the matter." I think I did say in that conversation that, clearly, whoever became chairman would ultimately be decided by the president, not by Ken Lay, not by Enron, not by anybody else.

LOWELL BERGMAN: [voice-over] But is that a litmus test for your support of a nominee?

KENNETH L. LAY: I'm not sure about a litmus test. I think that's one of several things that are very important to us.

LOWELL BERGMAN: [voice-over] What's also important to Ken Lay is that Pat Wood, who has backed his positions in the past, has now been appointed to the FERC by President Bush. And just as important, Lay has lobbied the energy task force in a rare private meeting with the vice president.

KENNETH L. LAY: I'm flattered that he decided to meet with me and at least let- at least hear me out as to some of the things that I thought were pretty important that should be considered for his report.

Vice Pres. DICK CHENEY: Ken's been a friend. I once was involved building a baseball stadium for Ken Lay, didn't have anything to do with energy. This time around, when he came in to see me, now, he did want to talk about energy.

LOWELL BERGMAN: [voice-over] And did he talk with you about who was running the FERC?

Vice Pres. DICK CHENEY: No.

LOWELL BERGMAN: He never raised the question about his-

Vice Pres. DICK CHENEY: Didn't talk to me about it.

LOWELL BERGMAN: -his dissatisfaction with Mr. Hebert?

Vice Pres. DICK CHENEY: He didn't talk to me about that.

LOWELL BERGMAN: [voice-over] In fact, the vice president did confirm off-camera that Pat Wood will soon be the new FERC chairman, replacing Curt Hebert.

[on-camera] I've talked to the Vice President. He says Pat Wood will be the new chairman. Sounds like Ken Lay is getting his way.

CURTIS HEBERT: He might. This will be the first knowledge I've had if Pat Wood is, in fact, to be chairman.

LOWELL BERGMAN: [voice-over] Last month, Pat Wood was confirmed by the Senate as a new FERC commissioner. President Bush has not yet announced that he will be chairman. Wood told us that he'd look hard at what happened in California, but he's firmly committed to a deregulated, competitive market.

[on-camera] Should competition determine the just and reasonable rate? And if it can't, then what?

PAT WOOD, III, Chairman, Texas Public Utilities Commission: Yes. If it can't, go back to plan A, which was the old way of doing things.

LOWELL BERGMAN: But the follow-up to that is that you're then experimenting with people's lives.

PAT WOOD: But that's not the point. The point is we want to- we want to get a system that does better than the old system. And I can tell you, as one who's presided over the old system for the last six years of my professional career and the prior five years before that as a practitioner, it's broke. That's the best kept secret in America is that regulation really works. It doesn't. It's pathetic.

LOWELL BERGMAN: [voice-over] While Enron pressed its case for a FERC appointee and federal control over power lines, Southern stepped up its lobbying for more coal and nuclear plants and a reconsideration of clean air lawsuits.

[on-camera] Enron and Southern Corporation- what consumer groups say to us is, "Look, they're getting what they wanted and what they paid for." And what are consumer groups getting? They weren't- have you met with any leaders of any consumer groups?

Vice Pres. DICK CHENEY: Now, that- that's a silly charge. That's the kind of thing, when people who don't want to engage in the substance of the debate, they criticize on the basis so and so contributed to such and such a campaign and therefore try to discredit the recommendations based on that. But that's somebody's really not seriously interested in the issue or trying to deal with the issue.

MARK COOPER, Consumer Federation of America: In the battle between Enron and the Southern Company, you realize that the consumer's not going to win. The real battle is going to be between consumers and producers, $20 billion dollars that has been transferred from consumers in the wellhead market and the California electricity market back to Texas and Oklahoma. That is the battle that the Bush administration will not be able to avoid. That's the bullet they won't be able to dodge. They will have to deal with the price of energy. They cannot simply turn their back on it, as they have done in these first four months.

LOWELL BERGMAN: [voice-over] Last month, President Bush announced his new energy policy.

GEORGE W. BUSH, President of the United States: It addressed today's energy shortages and shows the way to tomorrow's energy abundance.

LOWELL BERGMAN: While Enron did not get everything it wanted, it did get a crucial endorsement of open access to transmission lines. And Southern got much of what it wanted, too. And the entire industry expects to benefit by an ambitious program to increase supply. Blaming a decade of neglect for leaving the country short of electricity, oil and natural gas, the task force estimates that the country will need 1,300 new power plants, one every week for the next 20 years.

[www.pbs.org: Analysis of Bush's energy plan]

Vice Pres. DICK CHENEY: We didn't get here overnight. This isn't something that just happened. The fact is that the long-term solution to our- our energy problems, whether we're talking about petroleum and petroleum products or we're talking about electricity, is making sure certain that we have adequate supplies out there.

LOWELL BERGMAN: [on-camera] So what do you say to people at home, people who are going to see their electricity rates go through the ceiling in New York City and, obviously, in California, but in New England and around the country, "Grin and bear it?"

Vice Pres. DICK CHENEY: We're doing everything we can to help in California on a short-term basis. There's not a lot you can do. You can't manufacture kilowatts in the West Wing of the White House. But the way to address this problem is you have to increase supply or you got to reduce demand. Those are the only broad categories of options.

LOWELL BERGMAN: [voice-over] One option off the table was immediate price relief for California, a position which the administration has consistently maintained.

Pres. GEORGE W. BUSH: It looks like they're making progress in California, and we're pleased because the situation is going to be best remedied in California by Californians.

NEWSCASTER: The Bay area got hit by not one but two rolling blackouts today-

LOWELL BERGMAN: Last month, California suffered another round of blackouts, and many more are predicted for this summer. So far this year, average electricity prices there are 10 times what they were two years ago. And California may soon have company. New York is also bracing for price spikes and possible blackouts this summer. New York pays some of the highest prices for electricity in the country, and rates in New York City have increased 40 percent in the last two years. Gas and electricity rates across the country are going up.

[on-camera] How has your power bill been in the last year or two?

1st NEW YORKER: It's gone up.

2nd NEW YORKER: It's much higher, I mean, than what it used to be.

LOWELL BERGMAN: So you've noticed that it's gone up.

3rd NEW YORKER: It's gone up.

4th NEW YORKER: My electricity rates were about $100 a month, now they're about $250 a month.

5th NEW YORKER: Used to be $60, and now it's $150.

6th NEW YORKER: As a single working mother, I had a hard time paying my February bill in full.

MARK COOPER, Consumer Federation of America: Prices are rising across the country. In Pennsylvania, the famous poster child of restructuring, capacity prices have risen dramatically. There were price spikes in the Midwest in '98. There were price spikes in New England. People have asked for price caps of $1,000 a megawatt. This is in an industry that used to produce an average under regulation of $40 a megawatt. How did we go from $40 a megawatt for capacity in a regulated system to $1,000 in a deregulated system, and you're telling me I'm better off? The old system worked better.

LOWELL BERGMAN: [voice-over] Those higher prices mean higher profits for power generators like Duke Energy of North Carolina. Duke is one of the top 10 on the list of generators - both private and public - who've been named by the California ISO for overcharging.

[on-camera] Can you tell us how much money Duke has made in the last year in California?

RICHARD PRIORY, CEO, Duke Energy: No, we can't tell you that. We don't disclose that to our investors or to our analysts or to anyone. And so we can't disclose it here.

LOWELL BERGMAN: [voice-over] Richard Priory is the CEO of Duke Energy. He denies the charges of price manipulation.

[on-camera] You've been a good citizen. You haven't been exploiting the marketplace. Is that correct?

RICHARD PRIORY: No, we- we weren't talking about exploiting anything. The market is what the market is.

LOWELL BERGMAN: If you guys are the good guys in this, where should we be looking to understand where the money went?

RICHARD PRIORY: Who ran away with all the money.

LOWELL BERGMAN: Uh-huh.

RICHARD PRIORY: I have no idea. There are numerous investigations under way. I think the ISO just issued a report.

LOWELL BERGMAN: And Duke is one of them.

RICHARD PRIORY: As I mentioned, we took the market price. We didn't take any excess price. I can assure you of that.

LOWELL BERGMAN: [voice-over] Confidential documents obtained by FRONTLINE and The New York Times reveal Duke's secret negotiations with Governor Davis. In them, Duke wanted all pending investigations and lawsuits against the company dropped.

[on-camera] Well let me read you two quotes.

[voice-over] The documents show that Duke was concerned about a backlash against deregulation, specifically asking Governor Davis to, quote, "not advocate scrapping deregulation in wholesale power markets."

[on-camera] "And the governor will not advocate scrapping deregulation in wholesale power markets."

RICHARD PRIORY: Well I'm not aware of that. I mean, I've not seen that document.

LOWELL BERGMAN: It actually says you want to get in there first, make a deal to set up a model for the way California should work. Would that be a fair characterization?

RICHARD PRIORY: Yeah, I think that fits pretty neatly with- with our strategy.

LOWELL BERGMAN: Your office has been in settlement discussions with Duke Energy.

Gov. GRAY DAVIS: I haven't participated in discussions with Duke myself.

LOWELL BERGMAN: You haven't seen the memorandums that have been transferred back and forth - like this - from your attorneys?

Gov. GRAY DAVIS: I haven't seen them, no. I know that Duke made a number of demands.

LOWELL BERGMAN: But these have been secret negotiations that have been going on now for six, seven weeks.

Gov. GRAY DAVIS: Duke at least came to us with a suggestion, so I have to give them high marks for that. There's obviously part of that suggestion I find offensive and would not go along with in any case, namely slowing down anyone's investigation. But within those constraints, there may be room for a meeting of the minds.

LOWELL BERGMAN: Duke also pledges political support for you, public relations support, if you'll go along with all of this.

Gov. GRAY DAVIS: Well, listen, I have not been briefed. I have no idea what Duke promised. But trust me, we will not do anything that is the slightest bit unseemly. We'll not call off any investigations. I mean, this gives you some sense of where these people are coming from. They want all their money. They want to bleed California dry. And they want to make sure that this tidy little deal they got going called deregulation, I guess, is spread to the other 49 states.

LOWELL BERGMAN: [voice-over] Twenty-four states have deregulated or are in the process, but in a recent New York Times survey, almost all of them said that California's experience has made them reconsider.

Despite all the money traders and generators in California have made, they are still owed billions more by the state's utilities. Like Duke, Enron has also raised the possibility of a settlement.

KENNETH L. LAY, Chairman, Enron: I think it's still going to take a comprehensive settlement of the whole issue, all the issues.

LOWELL BERGMAN: [on-camera] But will it require, in a sense, a rebate from the generators?

KENNETH L. LAY: It'll require a haircut, is what I think.

LOWELL BERGMAN: A haircut?

KENNETH L. LAY: Well, I think that's what the governor calls it, and that's fine.

LOWELL BERGMAN: You mean- a haircut, meaning-

KENNETH L. LAY: You get less than a hundred percent of what you're owed. [laughter]

LOWELL BERGMAN: So how much is Enron owed?

KENNETH L. LAY: Several hundred million dollars, four or five hundred million dollars.

LOWELL BERGMAN: What kind of haircut will you take?

KENNETH L. LAY: Are we on the record or off the record? [laughter]

LOWELL BERGMAN: Oh, no. We're on the record. We're on the record.

KENNETH L. LAY: I'm not going to negotiate with the governor through you! [laughter]

LOWELL BERGMAN: Can we give you a crew cut?

KENNETH L. LAY: You know, I don't have hair to have any cut- any kind of cut.

LOWELL BERGMAN: All right.

[voice-over] Talk of settlements may ease California's burden, but not by much. The state's electricity rates are now at an all-time high, and to cover its losses, it plans to float the largest state bond issue in U.S. history.

The story of electric power in America today is not just one of generators taking advantage or of badly flawed markets. It's just as much a story of regulators not doing their job, of short-sighted politicians and, finally, a public that seems to want it all.

Vice Pres. DICK CHENEY: The law of supply and demand works. Markets work. That's the backbone of our economy, but it is, in fact, the right way to go.

LOWELL BERGMAN: [on-camera] So if I'm paying very high prices today-

Vice Pres. DICK CHENEY: It's because you-

LOWELL BERGMAN: -I've going to have to-

Vice Pres. DICK CHENEY: You ought to go back and talk to whoever it is that blocked the development of additional supplies in the past because they're the ones that are responsible for your high prices.

LOWELL BERGMAN: And it will be a year or two years, and eventually, there will be enough supply on and this problem will go away. I just got to hold on.

Vice Pres. DICK CHENEY: Our policies- our policies are adopted, you're going to, in fact, see a significant increase in the overall supply, and you'll see stable prices over the long term. And that's in everybody's interest.

LOWELL BERGMAN: And when will that happen?

Vice Pres. DICK CHENEY: Well, it'll happen, I think, gradually over the next few months, and over the next few years we'll see it happen.

LORETTA LYNCH, President, California PUC: You know, you got to look at the facts. And the facts are Californians are super-energy-efficient in the way we use electricity. In fact, California ranks 49th in the per capita use of electricity across the nation. Only Rhode Islanders are better at using electricity than Californians.

So what I would say to other folks in other states is, "Just wait until this problem comes to you. Just wait until your state and federal market cops disappear from the beat and the energy companies charge you whatever they want to. Then it's going to be your problem, too."

LOWELL BERGMAN: [voice-over] And if the companies' forecast of higher temperatures on the coasts this summer is correct, then California's troubles may become the nation's.

Blackout

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ANNOUNCER: This report continues on our Web site with correspondent Lowell Bergman interviews with two insiders in this story, the New York Times series on the energy crisis, a report on the rise of giant energy trading companies and interviews with top executives, a rundown of how energy deregulation has worked elsewhere in the country, a primer on the way America has regulated energy over the past six decades and more. Then join the discussion at pbs.org or send an email to frontline@pbs.org or write to this address [DEAR FRONTLINE, 125 Western Ave., Boston, MA 02134].

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