Greenwire (May 17, 2004)

Electric utilities are fuming over a second attempt by federal regulators to impose a new system for calculating when utilities will be allowed to charge customers market-based rates for electricity, saying the process is unfair, the test is flawed and consumers will be hurt.

The new test, outlined by the Federal Energy Regulatory Commission last month, is supposed to be used on interim basis until the commission can further investigate how best to determine which companies can charge market-based rates for electricity they want to sell on the open market after meeting the power requirements of their local customers (Greenwire, April 15). FERC's rules are designed to prevent these large, regulated utilities from imposing unfair pricing in regions where they might have a dominant share of power available on the open market.

But in petitions filed with FERC on Friday, utilities found fault with the interim nature of a new system that they did not get to review and comment on beforehand, a looming June 15 deadline to make the difficult calculations and file the appropriate paperwork, and the "fatal flaws" that effectively would penalize all utilities under the new system.

The effect, they note, is that the industry today is no further along in the evolution from the old hub-and-spoke market power calculation than it was when FERC issued its first proposed revisions to the market power test, the supply margin assessment (SMA), in November 2001.

Content-wise, the utilities' complaints remain the same: FERC's proposed revisions to the test of who can charge market-based rates are flawed because they do not properly reflect how much generation the utilities use to serve their own retail customers, called native load. The utilities contend that generation should be properly accounted for because as it already is spoken for, it is not sold in the open market.

Procedurally, they argue that the commission violated rules allowing for industry comment and response on new policies, and that the process is unfair because it requires the three utilities whose market-based rates have been in question for nearly three years -- Entergy, Southern Co. and American Electric Power -- to file their proposals with the commission months before a staggered deadline process starts for the rest of the industry.

The new market power test The new test is expected to be a temporary, "interim" measure, but the Electric Power Supply Association, which represents the merchant power industry, notes that these interim measures are likely to be in effect for several years.

The test will require two market power analyses. The first is called a "pivotal supplier analysis" and is based on a control area's annual peak demand. The second screen will apply market share analysis on a seasonal basis. Both tests will indicate, but not define, whether there is generation market power in a given region.

FERC will view market-rate applicants that pass both screens as not having market power. Applicants that fail either screen will be presumed to hold market power. Such a finding can be overturned only if the applicant provides additional data showing no market power. That could be done using a "delivered price test," which takes into consideration the final cost of electricity.

With two independent screens, each measuring different things, FERC contends it can more accurately measure different types of market power. It also can better identify market power in products such as spot sales versus long-term market sales as well as review power sold in peak periods versus off-peak periods.

Applicants found to have market power can propose case-specific mitigation plans to free up their markets. Such proposals could call for cost-based rates or other means of loosening control over a region's power rates. A "default" mitigation plan will be applied to any company that does not develop its own.

Utilities' complaints Utilities contend that the new market screen does not focus on economically available capacity, effectively overstating the amount of capacity they own or control that is actually available at given points in time in the market. They also argue it fails to compare wholesale load with the overall level of wholesale supply. Utilities would fail that test because of their aggregate supply portfolios even when there is more than adequate third-party capacity to serve the residual wholesale load.

The test also uses the lowest single daily peak for an entire seasonal period in determining a utility's native load obligations without considering that its native load obligations are higher, and its uncommitted capacity is lower, for every other day of that seasonal period, the utilities say.

Furthermore, they argue the designation of a 20 percent market share as indicating horizontal market power is unsubstantiated and arbitrary, given the other assumptions regarding available capacity used to develop the screen and translates into a need for third party capacity in the control area of the applicant that will virtually never be achieved.

The commission "has designed a new market power screen that almost all traditional vertically integrated utilities which still own generation dedicated to their native load customers in non-retail access states are certain to fail," Entergy said.

"Not only is the test theoretically deficient but the underlying presumption of market power in the case of utilities such as Entergy runs counter to nearly 10 years of [market-based rate] experience wherein Entergy affiliates were allowed to participate in competitive wholesale markets without any probative evidence that they were able to skew market outcomes through generation dominance," the company added.

Cinergy attacked the policy's determination that "geographic market areas" should be based on how utilities and transmission operators share common generation control schemes, called "control areas." Under this interpretation, the three Northeast RTOs and the California Independent System Operator, as well as the Electric Reliability Council of Texas, all fall into that category.

The nascent Midwest ISO, however, has multiple control areas under its sprawling jurisdiction so the individual control areas in that region would be considered separately for purposes of market power determination.

"Control areas have little, if any, nexus to properly defined geographic markets under established economic principles," Cinergy, a member of MISO, states in its petition. "This approach to market definition is particularly inappropriate in MISO."

The other side EPSA, the merchant power association, also says the new screens are inaccurate, but for the opposite reason: They understate both generation concentration and the size of the wholesale market, and suggests they be revised "to reflect the reality that wholesale and retail supply and wholesale and retail demand are fungible and cannot be easily separated."

Furthermore, EPSA pointed to one of the major differences between the new interim policy and the SMA: how to deal with utilities in regional transmission organizations (RTOs) or independent transmission system operators (ISOs).

The SMA approach gave an automatic pass to utilities in FERC-approved RTOs, which are presumed to operate open and fair markets, whereas the new policy requires all applicants to obtain federal authority to charge market rates. The move was aimed at satisfying some state regulators, governors and utility executives who charged SMA was a stalking horse for forcing reluctant companies into RTOs, but also recognized that RTOs are in different stages of development, with some operating less-sophisticated markets that continue to be vulnerable to instances of market power.

"The commission should not penalize market participants who are in RTOs," EPSA said. "A company is now being penalized for RTO/ISO participation by being required to submit a full generation market power analysis even when it is subject to extensive market monitoring and mitigation within an RTO. In addition, the commission should require that RTOs with organized markets and commission-approved mitigation perform screen analyses of their markets on an annual basis and not look at those markets on an applicant-by-applicant basis."

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