Markman Capital Insight

California drought is keeping a lid on interest rates

You may have heard that California is experiencing a historic drought -- the worst in at least 200 years by some measures. While this might seem like a problem isolated to California, the TIS Group observed that there are some implications that you may not have considered, and could have much broader impact.

The state hydrological reserve is at only 56% of historical average. The most extreme hydrological deficit exists in the Colorado River watershed, which is at 25% of historic average. The mountain snowpack levels are also well below seasonal averages. A state snow survey team assessment indicated that on March 5th, snowpack water content was only 13% of normal for the date and 11% of the April 1 average.

This historic drought is having a significant impact on the state’s water resources available for hydroelectric power generation. Hydro power in each month of 2014 fell vs. its levels of one and two years earlier by significant amounts. This is forcing California utilities to increase their use of natural gas to generate electricity.

Now that air-conditioning season is around the corner, experts are worrying that the shortfall in hydro power will overwhelm the statewide power grid. Officials say a hot, dry summer could increase power demand to the extent that reserves are severely challenged. Yet the severity of the drought has ramifications beyond hydro.

California’s combined nuclear and solar generating plants both use a ton of water resources for the evaporative cooling needed to keep reactor cores and solar system components from overheating. The combination of low cooling water levels and hot input water impair cooling and limit power output. The long range outlook suggests that drought relief is unlikely ahead of summer cooling demand, so TIS Group expects that generating capacity will be strained this summer. This could produce a summer of brown outs, higher electrical costs to customers and impose constraints on the state’s economic output.

When you consider that California is the state with America’s largest economy and the world’s eighth largest at a little over $2 trillion, this is not a small matter. The drought and water rationing unfolding in California has the potential to put a damper on the world economy. This could be another reason for the Fed to hold fire, the TIS Group analysts conclude. Good point.

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