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Coal's Raw Deal

The bias in RTO markets, and how FERC might fix it.

Fortnightly Magazine - September 2005

a report prepared in September of last year, and widely quoted, Moody's described what it called "a potential risk" in the short-term marginal pricing model commonly used by RTOs:

"Without long-term contracts for transmission rights and price certainty for the transmission of energy from new generation facilities, cost recovery in the long term may not be assured.

“The certainty of cost recovery,” added Moody’s, “represents a major factor in the credit assessment of financing for new generation projects.” (“Credit Issues Resurface as New Electric Generation Projects by Public Power Utilities Take Center Stage,” Moody’s Investors Service, Sept. 2004.)
Standard and Poor's had voiced the same concern a few months earlier:

"Pricing data associated with hourly nodal prices should provide market signals for use in planning for investment in transmission and new generation. Yet generators may realize that the benefits will be ephemeral." (Makeover for California’s Power Markets, S&P, July 2004.)

FERC's Answer

No surprise, then, that FERC says it has received many inquiries from electric market participants in regions governed by RTOs, asking for longer-term transmission rights, to approximate the delivery price certainty that plant developers used to get with a multi-year physical transmission contract. So this past spring, FERC invited the utility industry to offer ideas on how to create long-term transmission rights (LTTRs) in markets with locational pricing. And FERC raised the stakes by releasing a staff paper at the same time suggesting that RTO practice, with its LMPs and short-term FTRs, might represent a step backward from Order 888 as originally conceived:

"OATT transmission service, once obtained, appears to provide better long-term price certainty than the current RTO transmission service." (FERC Docket No. AD05-7, staff paper at p. 7, filed May 11, 2005.)

The staff’s conclusion raises a potential conflict with FERC policy, which states that RTO tariffs must offer services and rights “equal or superior” to the pro forma OATT.

Other factors are at play, however. The evidence appears to show that locational pricing improves the short-term efficiency of generation dispatch and grid performance, and thus lowers overall energy prices, according to the latest "state of the market" reports issued by the grid operators in the Northeast. Also, LTTRs can invite "phantom congestion," which comes when players reserve physical grid capacity but then don't use it.

As a power project developer, Tenaska suggests that FERC should "let the market decide." However, Tenaska also observes that market-friendly schemes for participant funding (awarding service preferences to developers who expand the grid) represent simply another system of long-term delivery rights. Thus, according to Tenaska, the key issue at FERC is not whether LTTRs can function in LMP markets. Rather, says Tenaska, FERC must decide whether to restrict the offering of LTTRs to market participants that fund grid upgrades, or to extend LTTRs to include players willing to buy them at prices in excess of the marginal cost incurred by the RTO to provide such rights.

The California Department of Water Resources asks why FERC has waited so long to act. The DWR charges that FERC had stressed the need for