News Analysis

Pennsylvania loses faith in FERC, looks for help from the Justice department.
Fortnightly Magazine - August 2002

Pennsylvania loses faith in FERC, looks for help from the Justice department.

"A well functioning market on an average day works better than we regulators can do on our best day." Perhaps this quote, attributed to Pat Wood, chairman of the Federal Energy Regulatory Commission (FERC), best captures the prevailing view among transmission officials in the Northeast. But the feeling out West is decidedly different. So is the mood among state utility regulators.

Ask Marilyn Showalter, chairwoman of the Washington Utilities and Transportation Commission.

"We regulators," she notes, "may not be perfect. But on our worst day we don't do as much damage to consumers as a bad market." And Showalter, increasingly, is not alone in that opinion.

Speaking at a meeting of regulatory attorneys held in June in San Francisco, she applauded her state's decision to maintain a traditional approach to regulating energy utilities, and suggested that the folks in Washington, D.C. have got it wrong.

Consumers do not want choice, she argues. They want reliable power at a low price.

Yet she fears that Chairman Wood remains oblivious to that notion-and that FERC will move ahead with regional transmission organizations (RTOs) and a standard market design (SMD).

And many state regulators are losing faith, asking whether such a market is needed and whether benefits will ever trickle-down to consumers. Certainly, enough has occurred over the past year to give reason to be leery. Many now question what so far has been FERC's best argument-that California's power crisis stemmed from flaws in market design, and could be fixed with an RTO and SMD.

Cochran Keating, a senior attorney with the Florida Public Service Commission (PSC), reports that his state favors a "sit back and wait" approach.

As Keating explains, Florida offers no quarrel with the concept of RTOs. But late last year, in a case in which former FERC commissioners Jim Hoecker and Mike Naeve testified as witnesses, the PSC blocked the move to transfer grid assets from electric utilities to a free-standing transmission company (transco). The PSC found no evidence that a private transco would offer any more benefits to Florida ratepayers than could be had through an improved wholesale market run by an independent regional grid operator. "At this time," says the PSC, "it is impossible to predict exactly what the wholesale market will look like." ()

But now worries have surfaced even in Pennsylvania, a state often cited as a model for electricity competition.

This summer, the state's public utility commission (PUC) charged that PJM-the one regional grid touting its competitive model-may have left the door wide open for market abuse in its "ICAP" (installed capacity) auction.

Dennis J. Buckley, an energy analyst with PUC, admits that competition in Pennsylvania has suffered with a loss of market players. Buckley makes it clear that restructuring will not mean less regulation, at least not any time soon.

"We need a sheriff and deputies," he says, "with loaded pistols."

Back in Washington, the U.S. General Accounting Office chose not to take sides, but warned this summer that FERC must act quickly to finish what it started, and to be prepared to do more to monitor and enforce the markets it creates.

PJM: When a Model Design Is not Enough

On June 13, the Pennsylvania PUC offered evidence that market abuse can occur and can leave electric consumers without remedy, even in a region with a market design in place that largely satisfies the theories of federal regulators.

The case concerned PPL Electric Utilities Corp., and its activities in PJM in the market for installed capacity. With its ICAP obligation, PJM requires utilities and others who serve retail load to purchase forward rights to electric capacity in an auction market or otherwise to pay a deficiency charge at a preset amount. The problem arose when it appeared (at least to the PUC) that ICAP rules allowed PPL to play both ends of the market.

Pennsylvania has now forwarded the matter to the U.S. Department of Justice-and to FERC-and has encouraged those agencies to take further action against the company. The PUC also asks FERC to improve its market monitoring and enforcement. ()

The PPL case began when state regulators asked the PJM's Market Monitoring Unit to conduct a study of the regional power market. That was after daily auction prices for capacity rights, which had been clearing at levels ranging from $0 to $5 between Sept. 15, 2000 and Dec. 31, 2000, rose to $177.30 or above for nearly three months. The PUC believed that PPL had unilaterally raised the price of ICAP credits to unprecedented levels.

According to the PUC, PPL found itself in a unique position on Jan. 1, 2001-as the only entity in the market with uncommitted capacity resources.

The "utility wasted no time in taking advantage of this situation," says the PUC, "and in fact had anticipated it for some time." Meanwhile, the regulators say, PPL had fought proposals at FERC to revise the ICAP rules to make it more difficult for suppliers to demand auction prices equal to the default deficiency penalty.

For its part, PPL blames the price spike on the imprudent decision by most marketers to rely on daily capacity markets instead of buying capacity for the long term. It says it had offered long-term contracts to the marketers at a "very moderate price." But state regulators disagree.

The PUC says PPL had boosted power exports at a time when the total capacity obligation of the system was rising. That, says the commission, had allowed PPL to become the only holder of capacity longer than the total market. As a result, says the PUC, PPL was able to bid any price into the daily auction, knowing that the marketers short of their obligation would either have to pay that price, or pay the full deficiency penalty.

PPL, however, believes that it simply followed the market rules put in place by PJM, and that if any parties suffered injury, the fault lay with market design.

"PPL EnergyPlus acted ethically and legally in this market, as we do wherever we do business," says Paul T. Champagne, president of PPL EnergyPlus. PPL's capacity marketing group, Champagne adds, had an objective to buy low and sell high.

"Far from being manipulation, this is the essence of valid market behavior," Champagne says. The capacity credit market fundamentals, he adds, not actions by PPL, made capacity tight in early 2001.

The company says that it saw right away during the fall of 2000 that prices likely would rise, and set out to make money by buying capacity for early 2001, as others were selling at prices PPL saw as relatively low.

"Nothing prevented any other market participant from acquiring capacity in the same manner as PPL acquired it," says Champagne. "The reason PPL ended up being the only firm with a long position in capacity at the start of 2001 was its success in forecasting the unusual market conditions that came to exist in early 2001." ()

In referring the case to federal agencies, the PUC raises the possibility of antitrust law violations. It seeks a standard condition in every market-based tariff forbidding anti-competitive behavior.

Of course, FERC itself has proposed going much further, with its idea of forcing all power wholesalers with market-pricing authority to agree in advance to a refund obligation that would waive notice requirements otherwise mandated by the Federal Power Act. () That proposal has met with fierce opposition.

Nationwide: A Dangerous Interlude

Severin Borenstein, director of the University of California Energy Institute and a noted specialist in the economics of power markets, still believes that consumers will benefit from a standard market model for the electric utility industry. Yet he acknowledges that both state and federal regulators remain ill-equipped to monitor the new power market trading that comes with RTOs and the SMD.

In a report issued in June, the U.S. General Accounting Office in effect ratified Borenstein's opinion. The GAO warns that FERC was relying on market forces to protect consumers, but had no effective program to monitor the actions of buyers and sellers, let alone prevent or punish market abuse. "Price spikes," the report notes, "have fueled debate about the wisdom of restructuring."

In fact, the GAO offered solutions that mirrored many of the ideas recommended by state regulators in Pennsylvania. The problem, the report says, is that a still-evolving market structure makes it easy for electric industry companies to engage in anti-competitive behavior, but leaves FERC laboring under outdated legislation, without authority to levy the type of penalties necessary to deter anti-competitive behavior. A deterrent approach is especially important, the GAO says, because even with greater authority, FERC likely would be unable to review all market transaction in enough detail to identify behavior that harms consumers.

Consider, for example, sections 205 and 206 of the Federal Power Act. Those sections give authority to FERC to answer complaints and prescribe refunds if rates are unfair. But FERC cannot order refunds except for future conduct beginning 60 days or more after the complaint is filed, or after FERC itself issues notice of its own rate investigation. This limitation, the GAO report says, leaves no remedy for unfair rates imposed on consumers for significant periods of time. The report also points out that ratepayers remain at risk while policymakers wait for the industry to form RTOs with their own plans to monitor markets.

"FERC must develop a plan for monitoring the market," says GAO, "until the transmission organizations' market monitoring units become fully operational."

"FERC simply cannot let the markets continue to go unmonitored for this length of time."

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