December 10, 1996
	The Honorable Pete Wilson Governor of California
	The Honorable Bill Lockyer President Pro Tempore of the Senate     and Members of the Senate		The Honorable Rob Hurtt Senate Republican Floor Leader
	The Honorable Cruz M. Bustamante Speaker of the Assembly     and Members of the Assembly		The Honorable Curt Pringle Assembly Republican Leader

Dear Governor and Members of the Legislature:

Over the last 20 years, state and federal policy makers have charted a course toward competition among utility and other essential service providers -- allowing whenever possible for market forces to replace government regulation. Earlier this year, California affirmed its leadership in this pursuit with the adoption of landmark legislation establishing competitive electricity markets. Accordingly, government structures appropriate for competitive utility services need to be created in order to obtain the maximum benefit from these changes. The State should adopt a strategy that results in two separate commissions: one that focuses on telecommunications and the other expert in energy. Both commissions should be required to routinely seek legislative approval for significant policy changes, and should be held accountable for implementing those policies according to legislatively set goals. The commissions also should be required to gather information, deliberate on evidence and make decisions in public. The Little Hoover Commission began this review by determining the functions that the State will need to perform now and in the immediate future. The Little Hoover Commission then identified the agencies best equipped to perform the needed functions. These are the same questions that were asked when these government structures were established over the last 100 years. But times change, and so do the needs of the governed. The structure recommended is as fundamentally different as the emerging markets it will serve. But the recommendations also provide a reasonable path -- an evolution of responsibilities -- for making this transition while maintaining the public interest as the lodestar for government action. The Little Hoover Commission's report, which is being transmitted to the State's top policy makers with this letter, includes findings and recommendations in six issue areas: Energy. The Energy Commission and Public Utilities Commission need to be divested of obsolete functions intended for government planners to make decisions that will soon be made instead by consumers and producers. The Energy Commission should be assigned the functions needed to facilitate competitive energy markets -- and over time assume all energy-related oversight. The PUC needs to determine what can be done to make electricity distribution competitive and to systematically retreat from the energy markets. While the State will want to maintain its public purpose programs, that function can be better administered by a department than by a commission focused on facilitating competitive markets. Telecommunications. The telecommunications industry is so dynamic and so complex that California residents and businesses will best be served if over time the PUC focused solely on telecommunications. The transition to competitive telecommunications markets will be enhanced if clear standards are established for when the PUC will cease economic regulation. And the State's telecommunications policy making will be improved if the PUC collaborates annually with the Legislature to set goals and assess progress toward those goals. Transportation. The transportation industry is nearly free from the price regulation that often protected the industry at the expense of consumers. The public interest that remains largely concerns licensing and public safety -- and the State's expertise in these areas rests within the Business and Transportation and Housing Agency. While some consumer protection needs remain, the Department of Consumer Affairs is charged with that responsibility. Water. Ironically, the last monopoly in utility services may be the investor-owned water suppliers that serve fewer than 20 percent of Californians. However, the economic challenges facing these companies are the result of water conservation requirements and increasing health standards. The PUC has been unable to adequately integrate those public policy goals into its rate-making procedures. The State Water Resources Control Board has the expertise and the legal structure that would provide a better venue for integrating those policies. Consumer Protection. As fewer decisions are made in the PUC's regulatory arena, and more consumer issues arise in the competitive marketplace, the State will need to expand the duties of the Attorney General to represent consumers in a variety of administrative, legislative and judicial forums. Process and Management. Competitive markets will dramatically increase the need for public and accountable decision making. While the Legislature made substantial progress in this area in 1996, further reforms are needed to ensure that PUC decisions concerning the marketplace are made in a factually sound, legally accountable and publicly fair manner. In addition, the PUC will be better equipped to make the needed changes if it is allowed to develop the kind of partnership between management and labor that is possible when civil service restrictions are eased. The restructuring recommended in this report will be difficult to execute, as agencies defend their turf and companies who have developed relationships with their regulators resist efforts to shift that oversight elsewhere. The recommendations are not intended as criticism of the hard work and dedication of those who serve in any of these government agencies. The task of redefining the State's role in energy is particularly burdened by the historic friction between the PUC and the Energy Commission and a political stalemate over how to reform the two agencies. And finally, reformers are challenged by market and technological changes that make even the near-term difficult to foresee with confidence. But the risks associated with not reforming the structure are too great to dismiss. The transition to competitive utility markets is costing hundreds of millions of dollars, and the success of this transition rests largely on a compatible government structure. The same fortitude mustered to pursue competitive markets is needed to realign the public agencies that will be charged with helping those markets function effectively. The Little Hoover Commission stands ready to work with the Legislature and the Governor to make these reforms a reality.

	Sincerely, Richard R. Terzian Chairman