Friday, October 10, 2008

What happens now?

Most people outside the electricity industry are startled to learn that it is the largest industry in America. When you say "energy," most people think ExxonMobile--not the electricity cooperative on the edge of town. As I've railed so many times, people just don't "think" about electricity.

Now, more than ever, it's time to start thinking--and thinking hard. The electricity industry relies on debt to finance at least half of the cost of building power plants. So, what happens to the electricity industry now that free-flowing credit has come to a screeching halt?

What politician will want to add the costs of carbon to the price of anything today?

How will wind projects fare? The same firms that have been financing and developing these projects are the same ones we're reading about on the front pages of our favorite news outlets, the same ones begging to get their hands in the Fed's pockets.

Both John McCain and Barack Obama talk about the need for new nuclear power--McCain talks about a building 45 new plants by 2030. But, if building one new plant means borrowing millions of dollars for construction costs, how is even one new plant going to get off the ground? Right now, businesses can't get short-term loans to cover payroll, let alone millions for such a major construction project.

If investors were skittish about financing the debt for nuclear plants six months ago, how do those firms feel today. Investors are poorer today (as I type the market is down 305 pts at 8273) and many about to become quasi-socialized. Oh, and now that the Fed is guaranteeing all of the bad debt from the mortgage business financial engineering, it just adds that to the growing deficit from fighting wars on two fronts, and not getting any control over spending. The only "bright" spot is that as consumers stop buying foreign goods, our deficit will shrink...but, on the other hand, as American consumers stop buying foreign goods, the whole global economy shrinks....)In other words, the government is broke unless the Fed's pocket stretches halfway around the world to China and Japan. But in our "world is flat" global economy, when we tank they, tank too.

The bottom line is, the electricity industry one of, if not THE, most asset intensive industry in the country and without debt financing, nothing new gets built.

Here's what I think:

(1) Regulated utilities are king--they can still raise money by raising rates and secure their long-term investment needs,

(2) companies who own assets like power plants or gas reserves are princes-when all of the debt inflated value is wiped out, they still own some real things with value,

(3) competition in electricity is dead-even Warren Buffet is investing in utilities because they are regulated, stable income producing businesses,

(4) the financial engineers, who move from one source of trading volatility to another, will move to carbon trading. In five to 10 years, that will be the next Wall Street scandal,

(5) we will likely see a massive infrastructure building program here, not unlike the 1930s, and, signaling the final death knell of globalization--at least for electricity--the government will direct this program towards energy independence--nuclear, clean coal, wind, solar, coal-based refineries, ethanol, and all the rest will be subsidized to the hilt.

The grand experiment in privatization, deregulation, unfettered free markets, etc, is over.

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