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Barriers to Transmission Superhighways

History teaches us that the most successful American businesses emerge from the crucible of competition.

Fortnightly Magazine - May 2006

very clear that regulators were unwilling or unable to abide extremely high energy prices, even when these were necessary for marginal units to recover some of their fixed costs. It also became very clear (to most observers) that the capacity market constructs of PJM, ISO New England (ISO-NE), and New York ISO (NY-ISO) structurally were flawed. Because load-serving entities (LSEs) placed zero value on any capacity in excess of their reliability obligations, capacity market prices were essentially zero in the markets where the generation boom of the late 1990s and early 2000s created surplus capacity. The combination of regulators’ unwillingness to let energy prices clear at a price that allowed marginal generators to recover fixed costs and the collapse of capacity market prices was devastating to the financial well being of generators.

Consequently, in the face of these two realities, many who built generating plants on a merchant basis went bankrupt. Others, such as utilities who had a more balanced portfolio of assets, announced they would retire plants. Such announcements, essentially distress signals, can be withdrawn if the distress comes to an end through band-aid measures such as reliability-must-run contracts or other side payments; or it can be more systematically addressed by implementing a payment program for capacity/reliability services along the lines of New York’s capacity demand curve, New England’s locational installed capacity policy (LICAP), or PJM’s reliability pricing model (RPM).

LICAP and RPM are not yet implemented fully in ISO-NE and PJM, and thus prolonged generator distress has led to a large number of announced generator retirements. As a re-sult, the ISO/RTO must plan as if the plants will be retired, and hence must make plans to install the transmission needed to maintain reliability in light of those retirements. If sub-sequent events, however, motivate the generators not to retire, then transmission may be overbuilt.

This results in an unintentional chicken-and-egg situation. Generators exercise their right to announce a retirement, thus causing the ISO both to raise the interconnection costs of proposed new projects and to call for more transmission. Subsequently, when and if capacity pricing reform better compensates for the full value of the plant in the grid, the generators then may announce they will un-retire a plant. That, in turn, allows the required interconnection costs of the new facilities to decline, and requires less transmission expansion in the regional transmission plan.

This fandango between an ISO/RTO and its generators has unintended consequences for new economic transmission development. Take, for example, a new and independent transmission line proposing to withdraw capacity and energy from one area and inject it into another. Suppose that half a dozen generators in the source market announce they will retire because the market’s capacity payments are inadequate. In these circumstances, the RTO would have to impose much larger interconnection costs on the transmission line to reflect this loss of capacity in its source market.

Suppose then, a year later, a more effective capacity payment mechanism is imposed, and the generators decide not to retire. The transmission project, nevertheless, has invested millions in network upgrades it ultimately