FERC Filings
AFFIDAVIT OF BRANKO TERZIC ON THE TERMS AND CONDITIONS OF PUBLIC UTILITY MARKET-BASED RATE AUTHORIZATIONS
AFFIDAVIT
I am Branko Terzic, Director of the Energy Resources Group of Deloitte & Touche LLP. I was Chairman, President and CEO of Yankee Energy System, Inc., from 1994 to 1998. I served as a Commissioner of the Federal Energy Regulatory Commission from 1990 to 1993. My Vitae is attached as Exhibit 1.
The Federal Energy Regulatory Commission has asked for comment on an order which institutes a section 206 proceeding and makes the electric rates of almost the entire wholesale electric power industry subject to refund based on the notion that there is a “potential for market power abuse or anticompetitive behavior.” The Commission does this after stating that “…we do not find here that particular sellers have, for example, exercised market power…” The order continues with the Commission’s definition of both “anti-competitive behavior and exercise of market power.”
The Commission should modify this order to eliminate the generic refund provision and should proceed quickly with its proposed “series of outreach meetings with industry experts.” The Commission needs to have a complete and comprehensive discussion of its definitions of “anticompetitive behavior and exercise of market power” in the context of the hourly, daily and annual operation and engineering design of electric power plants and current economics of electric power markets. Market interventions by the Commission such as this order, the order in AEP Power Marketing, et al., Docket No. ER96-2495-015, and the “refund” provision of this order in particular, have roiled capital markets, will impede new capacity planning and may already be affecting power plant construction in the United States.
The November 30, 2001 Wall Street Journal reports that electric generation companies now are “cautious about breaking ground” for new power plants. The paper reports that today there is a surplus of uninstalled generation turbines when they were in tight supply a year ago. The Journal attributes this change to “a lack of capital and earnings.”
The valuation of electric generation companies has dropped dramatically since the Commission’s June 19th market interventions, as the Wall Street investment community has expressed its concern with an increasing trend towards price controls and other market interventions. A sampling of the Wall Street reports is provided as Exhibit 2. The large erosion in the value of generation companies is shown on the attached chart provided as Exhibit 3.
The Commission’s order unnecessarily exacerbates this situation. It does so because it continues the disturbing trend towards market intervention by adding, on a national basis, the risk of unpredictable regulatory “refunds” to the normal business risk assumed by investors in the competitive electric power market. Regulatory risk is heightened by this order in that, not only is there the risk of future regulatory action, but there is now a risk of a regulatory action under an unknown, or at best evolving, refund calculation methodology.
The Commission alludes to a methodology in explaining its position on the important issues of “anticompetitive behavior and exercises of market power” in a single short paragraph. An established rate making procedure for an entire industry is set aside in a few sentences without adequate explanation and explication. For example, in this order the Commission does not indicate how it will determine that a specific withholding raises a “market price.” Questions which need full discussion include how the Commission plans to determine which individual power plant “withholding” at which moment in time and in which specific “market” caused which price increase. In the AEP order issued on the same day the Commission announces a new generation market power screen with some detail but with no prior comment or evaluation by market participants. Either order alone would be of consequence to investors. Together the effects are significant to the entire industry.
Up to this point in time the wholesale electric power industry has had the opportunity to sell power under a “market based” rate approach established by individual rate orders for each participant. The FERC could have found in any individual case that the applicant had market power and thus the FERC could have denied market-based rate treatment and imposed cost of service rates for any specific applicant.
Under the market-based regulatory and power pricing approach billions of dollars of power plant assets have been bought and constructed. This was all done with the understanding that the individual power plants would apply for and receive market-based rates under known FERC procedures and tests. Earnings would be as audited and reported and investors would make their own evaluations based on historic information and informed judgment about the future prospects for the company. The current order departs from this principle of individual regulation and substitutes a blanket order on all participants with no findings of “unjust and unreasonable” rates for any single one. If this order stands, investors will not know whether a company’s future reported earnings will or will not be subject to refund.
There are consequences of instability and unpredictability in regulation. These consequences are particularly important when it is private capital that is sought to rebuild and expand the nation’s electric infrastructure. These consequences are reflected in investors’ perceptions of greater risk to their investment.
Increased risk brings a commensurate requirement for higher returns. Higher return requirements lead to higher costs. Another consequence may be in the form of delays in financing leading to delays in construction. Delay also translates into higher costs. Thus, the unintended consequences of increased regulatory risk translate into higher costs for suppliers and thus higher prices for consumers, not lower prices.
With higher risks and constrained returns due to market interventions, capital flees. Supply no longer can naturally adjust to meet demand. Shortages occur, which increase political pressure for even more market interventions. Regulators seek to limit the adverse consequences of past market interventions through new devices, such as exempting new supply from the market interventions (a.k.a., “vintaging” – the Commission recently suggested this in an order involving the New York ISO). Ultimately the increased interventions and the attempts at fine-tuning fail, and shortages predominate until the market is finally reinstated. This was the past experience for natural gas supply which the Commission should try to avoid in electric generation.