Electricity Markets

Dear FERC: A journey to true market reform

Independent System Operators and Regional Transmission Operators began to operate centralized energy markets a little over twenty years ago to facilitate competition and improve efficiency. After about ten years of operating energy markets, some RTOs thought prices in the energy markets were not incenting the development of needed generation resources.

Therefore, the RTOs created the infamous capacity markets — we prefer to call them “capacity constructs” as they are not really markets. These capacity constructs have witnessed numerous changes in the rules without arriving at an equilibrium that meets the needs of all stakeholders — customers, utilities, and merchant suppliers.

At the same time, states that went through retail restructuring, and whose utilities no longer own generation, began to reassert their role in making resource choices. These states determined that needed resources were not being developed or retained by the capacity constructs. The states employed tools like long-term contracts for natural gas or renewable facilities and payments intended to prevent the retirement of nuclear facilities.

Public power utilities and rural electric cooperatives, not subject to retail restructuring, have sought to retain their rights to choose the resources to serve their customers and to access reasonably priced power through competitive wholesale electricity markets.

In a true market, prices are set by the interaction of customer demand and supplier offers. In contrast, the capacity construct rules have been changed to prop up prices in light of the new supply developed following state and local efforts. A central feature of such rule changes is a requirement that new resources bidding into the capacity auctions offer to sell at a price floor – a rule that creates impediments to both state and local utility resource procurement.

In light of ongoing rule changes and stakeholder concerns, the Federal Energy Regulatory Commission has reexamined the capacity constructs, at least twice. A technical conference in 2013 broadly examined how these constructs are supporting the procurement and retention of resources necessary to meet future reliability and operational needs. Another technical conference in May 2017 focused on how the capacity constructs could better “accommodate” state resource choices.

FERC has opened a docket on “resilience” and has asked the RTOs to file information on how resilience is defined, studied, and addressed. This resilience docket could itself lead to proposals for new changes to the capacity constructs or to the energy markets. FERC also has issued a series of rulemakings addressing how prices are formed within the energy markets.

In the midst of this complex churning, the American Public Power Association and an array of national organizations sent FERC a letter outlining set of core principles to guide decision making on the capacity constructs and energy markets.

The principles can help create market rules that promote affordable electricity rates, true market competition, and state and local utility procurement of resources to meet important policy goals — ranging from fuel diversity to environmental goals.

In addition to public power and rural electric cooperatives, the other entities signing the letter are environmental and renewable energy organizations, consumer advocates and industrial customer representatives. The diversity of these cosigners is a testament to the importance of these principles.

The first principle is that wholesale market rules do not provide an advantage to one particular generating technology over another. All technologies should be eligible for compensation for the services they provide to the grid, and should not receive payments based on features unrelated to their value. For example, the capacity performance rules in PJM provide an unjustified impediment to demand response, hydropower, and other valuable capacity resources.

Another principle is that wholesale customers and suppliers should be able to come together and transact as they choose through bilateral contracts. Supporters of capacity constructs argue that “out-of-market” resources should not impact prices in the “true markets.” Yet, the bilateral contracting process more closely resembles a true market than the complex centrally-administered capacity constructs.

Wholesale market rules should respect state and locally governed utility policies and resource choices without making customers pay twice for the same service. Now, when a local utility’s resources cannot clear the capacity auctions, the customers of that utility must purchase the same amount of capacity from the auctions. This is not a feature of a healthy competitive market.

The letter to FERC also notes that energy markets, which are generally working well, should not be viewed as a mechanism to guarantee recovery of investment costs for particular resources or technologies. Energy markets are a product of competition and investors seeking revenue certainty should arrange bilateral contracts, and not seek to change the rules of either energy markets or capacity constructs to guarantee a level of earnings.

The letter proposed that the constant changes in the rules need to cease and the wholesale markets should be allowed to stabilize. Only fundamental and beneficial reforms to the capacity constructs should be allowed. Constant change imposes hardships on utilities, states and customers for long-term decision making and resource procurement. We need holistic solutions rather than costly band-aids.

The Association looks forward to working with FERC and other stakeholders on implementation of the principles established in the letter. We want to put in place real wholesale markets with both a vibrant supply and demand side, where the market operators can focus on their core mission of reliable and efficient grid and market operation.