FERC Filings
REQUEST OF THE ELECTRIC POWER SUPPLY ASSOCIATION FOR INTERVENTION, CLARIFICATION AND REHEARING OF THE COMMISSION’S NOVEMBER 20, 2001 ORDER ESTABLISHING REFUND EFFECTIVE DATE AND PROPOSING TO IMPOSE CONDITIONS ON MARKET-BASED RATE TARIFFS AND AUTHORIZATION
REQUEST FOR REHEARING
If the Commission grants the clarification sought above, it may be that the November 20th Order is not a final order subject to rehearing. However, while the actual refund condition may not be imposed until a later date, EPSA seeks rehearing of the underlying concept of conditioning market-based rates and believes it is timely to do so. EPSA does endorse the remedy sought by the Edison Electric Institute and the Alliance of Energy Suppliers in a December 13th filing in which the Commission was urged to proceed through a rulemaking process to consider the impacts of the actions taken in the November 20th Order and to develop any possible conditions to market-based rate authority.
A. A BLANKET REFUND CONDITION WOULD GUARANTEE REGULATORY UNCERTAINTY
FERC’s vague and undefined blanket refund condition will guarantee unintended effects that will devastate the entire electric industry. The biggest adverse consequence will be significant damage to the integrity of the competitive bulk power market in the form of decreased liquidity, decreased price transparency and increased risk premiums for those engaged in generation and merchant sales. EPSA strongly cautions against the Commission’s use of such ill-defined policy-making. We note that even the Commission itself recognizes that certainty and market confidence is key to good market design. In its Order Establishing Prospective Mitigation and Monitoring Plan for the California Wholesale Electric Markets and Establishing an Investigation of Public Utility Rates in Wholesale Western Energy Markets issued April 26, 2001, the Commission points to the Staff report where it is noted:
The Staff outlined certain core design principles that a good mitigation plan should include: buyers and sellers need to know the rules up front and have confidence that those rules will not be subject to constant change or interpretation; prices should be mitigated before they are charged, not after; price mitigation should be as surgical (least intrusive) as possible and last for as little time as possible; price mitigation should be as market orientated as possible and adopt market solutions and mechanisms to the maximum extent possible; the pricing provisions must encourage, and not discourage, the critically needed investment in infrastructure (e.g. increasing generation supply, adding required transmission, and implementing demand response.)
The blanket refund condition violates all of these principles:
- Prices are changed (mitigated) after the fact, not before.
- The market intervention is blanket, instead of surgical.
- Exposure lasts indefinitely, instead of for as little time as possible.
- Market mechanisms are disrupted, instead of respected.
- Investment in generation and demand response is discouraged, instead of encouraged.
A blanket refund authority would drastically increase the perceived risk for energy companies among the investment and lending communities. This lack of regulatory stability would limit competitive suppliers’ ability to finance power projects and trading operations. Conditioning market-based rate authority would also reduce the number of competitors and new entrants into the market, which runs counter to the Commission’s goals.
Multi-billion dollar capital investments have been placed in the energy markets during the last five years, with expectations of receiving market-based prices and having workable RTO market structures in operation now; the proposed conditions transform that investment climate in an undue, retroactive manner, and they put existing investments at significant risk.
Making all sales of generation “subject to refund” would undermine the basis upon which some $100 billion has been invested in new generation since 1998 to the great benefit of electric consumers. This enormous capital investment has been made based on the business judgment that the regulatory climate would allow the market to set the price for energy. The possibility of retroactive refunds based on the application of vague, open-ended standards that rely on unrealistic short-run marginal prices jeopardizes existing investments, and limits the ability to finance future generation facilities.
Further, making all electric wholesale transactions “subject to refund” eliminates the certainty needed for wholesale sales involving some six billion MWh annually (almost twice annual retail sales). Sellers could no longer rely on the finality of any transaction because of the risk of a later challenge by buyers or third parties. The risk of undertaking wholesale transactions would escalate dramatically, reducing or even eliminating market participants and market liquidity.
B. THE NOVEMBER 20TH ORDER DOES NOT REFLECT THE WAY ELECTRICTY MUST BE PRICED AS A COMMODITY IN A COMPEITIVE BULK POWER MARKET
In this Order, the Commission pledges to “protect against possible unjust and unreasonable rates,” and points to “prohibited” behavior or market power that includes “behavior that raises the market price though physical or economic withholding of supplies.” However, the Commission has not confirmed such behavior to have occurred. The Commission also fails to identify the relevant markets or products it is concerned about. If the Commission is going to impose such serious constraints on all transactions in the industry, the Commission must correctly define the anti-competitive behavior to which it is referring.
The November 20th Order goes on to note that such withholding includes periods when the market price exceeds a supplier’s full incremental costs. This term is defined nowhere, and it is not clear that a supplier’s full incremental costs includes both the actual costs to supply the output, including start-up and no-load costs, as well as capital and opportunity costs.
Opportunity cost pricing is a standard, economically-justified practice under a market-based rate structure, particularly in markets offering multiple choices to suppliers in terms of geographic and product markets, as well as in sequencing of bids. If the Commission was to exclude opportunity costs in this important Order, such action would not reflect the realities of everyday trading in electricity or other commodities. This assumption suggests that the Commission believes that markets are static and function in fixed sequences. This is simply not the reality. Markets do not stop and then start up again. There is no one single, magical market clearing price – this price is a series of agreements – created by the behavior of BOTH sellers and buyers. Electricity trading, as with other commodities, is fluid and dynamic.
Further, locational, environmental or gas constraints create opportunity costs in real-time electricity bids and must be factored into any rational bid equation. The very thought that there is no opportunity cost in real-time bidding erroneously ignores environmental and gas constraints and other circumstances that limit the availability of a unit. Generators are not capable of running 365 days a year, 24 hours a day. A generator will, therefore, bid in all markets based on its need to capture revenue above marginal operating cost during those hours in which it actually can and does run, with the recognition that running in any given hour means hastening the onset of the next overhaul or breakdown, or otherwise in consuming some input that is in limited supply. The Commission recognized that fact as recently as November 27, 2001 in its Order on the extension of the New York Independent System Operator (NYISO) Automated Mitigation Procedures. The Commission said:
NYISO proposes to exempt hydro units from the AMP. NYISO believes that hydro units should not be subject to such mitigation because their volatile bids often reflect their opportunity costs, not market power. The Commission believes this logic applies to all energy limited resources, including those constrained by environmental rules. Therefore, we direct NYISO to work with market participants to determine whether there are other energy limited resources and to develop an appropriate accommodation within the AMP procedures. This coordination should develop both standing protocols as well as an accounting for possible day-to-day considerations affecting bids.
Absent full consideration of all opportunity costs, such conditioning also takes power marketers out of the market at critical times. Marketers play a valuable role in competitive wholesale power markets by providing both products and services that improve reliability and performance while reducing risk in competitive markets. Marketers are keenly interested in the costs and value of supply for customers and constantly strive to increase options, provide better alternatives and decrease costs. Marketers’ products are transaction-based and often guarantee product quality; their services establish performance standards and price stability. These products and services are essential in a fully competitive market, since they furnish customers with an intermediary that can supply the appropriate products and services that fit with each customer’s needs and risk tolerances. The contribution of these products and services to the market is the cornerstone of market liquidity, a necessity in a fully competitive market.
Limiting marketers’ flexibility in the competitive wholesale market would limit competitive supply for the retail market. As market intermediaries, marketers have an interest in being both a buyer and a seller since, strategically, marketers are typically interested in the full range of marketplace transactions to balance out their portfolios. Because marketers do not have a fixed cost to recover, imposing such conditions on their sales would eliminate their reason for participating in the market in the first place. Driving marketers from the wholesale electricity market has the potential to eliminate them as counter parties to this range of transactions and therefore reduce reliability and limit liquidity in a market that desperately needs it.
Moreover, the single example of “economic withholding” provided in the November 20th Order raises more questions for marketers than it answers. In conditions like those experienced last year in California, such provisions would strongly discourage marketers from bringing power into the state, exactly the type of transaction that kept the lights on during that crisis. Demand was high, all available generation in the state was on line and reserves were dangerously low and falling. Under the proposed definition, if a marketer purchased power out-of-state and was ready to move it in, prices would be limited to the marketers “incremental cost” – his purchase price. If the marketer attempted to add any margin whatsoever, he would apparently be guilty of “economic withholding” and be liable for refunds or even losing his market-based rate authority. Few marketers would be willing to take that risk, and simply would not enter the market. Clearly, this is not a result the Commission desires.
For the Commission to achieve its goal of robust, workable and fully competitive markets, it must adopt rules that establish large RTOs with sound market rules, encourage market entry, improve liquidity and enhance risk management. It is simply bad policy for the Commission to adopt market rules that reduce the number of market participants, limit liquidity and minimize the availability of risk management options.
C. THE COMMISSION’S NOVEMBER 20TH ORDER VIOLATES THE FEDERAL POWER ACT AND DUE PROCESS.
A fundamental legal flaw in the Commission’s Order is that it eviscerates the statutory provisions of Section 206 of the FPA. If a supplier receives market-based rate authority, it has the right to the protections afforded in Section 206(b) of the FPA. As a result of the passage in 1988 of the Regulatory Fairness Act, the Commission has the authority to order refunds as result of a Section 206 investigation, with certain limitations. Those limitations include:
- The burden of proof for refunds rests with the Commission or complainant.
- The Commission may only order refunds for a period to begin no earlier than 60 days after the filing of a complaint or, in the case of a Commission proceeding initiated on its own motion, 60 days after the publication of that proceeding in the Federal Register.
- The Commission may order refunds for a period of only 15 months after the refund effective date.
The Commission’s November 20th Order violates these limitations on its authority. To avoid these limitations, the Commission in this Order seeks to use its authority to condition market-based rates on compliance with various conditions. The Commission surmises that a violation of such conditions would constitute a violation of a tariff or rate schedule on file under Section 205 of the FPA and thus “the Commission would have the authority to address promptly potential instances of anticompetitive behavior or exercises of market power
through the imposition of refunds or such other remedies as may be appropriate.” The Commission would use its general authority under Section 309 of the FPA to retroactively order refunds should a violation be found.
The adoption of these vague and ill-defined conditions eviscerates the limitations that Congress imposed on the Commission’s refund authority under Section 206(b) and creates serious regulatory and commercial uncertainty. By adopting such vague conditions, and then retroactively revising rates based on a finding that those conditions were violated, the Commission would implicitly be adopting a continuing refund effective date. However, court precedent makes clear that the Commission cannot use its conditioning authority to circumvent other provisions of the FPA, which clearly limit the Commission’s refund authority. Rather, each of the provisions of the FPA must be read in concert with each other. Thus, the Commission cannot condition rates in a manner that would read out of the statute the specific provisions Congress included in Section 206(b).
Moreover, with respect to limitations on FERC’s authority, courts have been clear: the Commission cannot do indirectly what it may not do directly. The Commission, for example, may not seek to influence intrastate rates, because Congress expressly reserved the power to regulate such rates to the states. Likewise, the Commission may not exceed the bounds of its own enabling statute by using its general conditioning authority to circumvent specific limitations on its ratemaking authority.
For example, the proposal directly contravenes the procedures set forth in Section 206, which specifically describe when a refund date may be set. The Commission made this point clear as recently as November 7, 2001 in New York Independent System Operator, Inc., 97 FERC 61,155 (2001). There, parties argued that the Commission should approve rate changes prior to the filing of appropriate tariff sheets. The Commission said:
With respect to the argument that the Commission should order re-billing in order to enforce NYISO’s filed rate, Section 206 of the Federal Power Act does not permit the Commission to require refunds of unjust and unreasonable rates charged prior to a date 60 days after the filing of a complaint. To order such refunds would contravene explicit refund limitations that the Congress put in Section 206 of the FPA.
To be sure, there is a limited exception to the prohibition against retroactive ratemaking if a market participant charges a rate in violation of the tariff on file. For instance, if the rate on file is $1 per MWh and a jurisdictional seller charged $2 per MWh, then the Commission could order refunds no matter when it became aware of the violation of the filed rate. However, here the Commission is proposing to take that limited exception to the prohibition against retroactive ratemaking and create a loophole that eviscerates the protection Congress put in place to give market participants certainty as to the rate they
charged and prevent retroactive ratemaking. This is not a situation where the tariff language is clear, and the seller knows in advance, the requirements that must be met. Rather, the Commission proposes to incorporate into the tariff vague and ill-defined language where the jurisdictional seller will not know in advance the requirements that must be met. The sole purpose of this approach is so the Commission can order retroactive refunds, when normally it could not, in the unlikely event that the Commission subsequently finds this vague and ill-defined language has been violated. However, by putting in place a mechanism to retroactively order refunds for violations of such vague and evolving standards, the Commission essentially nullifies the specific protections Congress put in place under Section 206(b) of the FPA to prevent just such an occurrence. Only Congress, not the Commission, has the authority to take such action.
D. THE PROPOSED CONDITION IS OVERLY BROAD
As noted above, EPSA strenuously opposes the Commission’s proposal to condition market-based rate authority. Such an approach will create uncertainty and confusion and increase costs. If the Commission is committed to pursuing this approach, the proposed condition is overly broad, ill defined, and simply unworkable. Indeed, if the Commission is going to impose any conditions on market-based rate authority, it is imperative that the conditions meet certain minimum requirements. For example, any condition should be time bound to ensure transactional finality. The Commission should impose a 30-day window during which parties may make Section 206 filings. Any transactions that withstand the 30-day period without such a filing should be deemed just and reasonable and not subject to refund conditions. Such action would provide at least some assurance to the industry that their transactions are free from scrutiny after the 30-day window.
It is also important that the Commission require filing parties to show, with substantial evidence, that transactions are not just and reasonable. Likewise, the Commission should review and act on these challenges quickly and should quickly dismiss any challenges it deems frivolous.
In addition, the Commission should consider limiting any conditioning to spot market transactions, exempting bilateral contracts from the conditions. In wholesale markets, bilateral contracts (both spot and long-term) represent arrangements made by willing buyers and sellers – sophisticated and knowledgeable market participants. To allow one side – buyers – an open-ended invitation to rewrite the agreements gives an inappropriate bargaining advantage to that party. The Commission should affirm, not abandon, its respect for bilateral contracts and establish a rebuttal presumption that bilateral contracts are “just and reasonable.”