EPSA comments on FERC order for interim generation market power screen


Feb. 5, 2004 — The Electric Power Supply Association (EPSA) has released comments regarding the Federal Energy Regulatory Commission’s interim generation market power screen.

Following are EPSA’s comments:

On November 20, 2001, the Commission issued an order announcing a new, interim generation market power screen (the Supply Margin Assessment or SMA) and mitigation policy.

On December 20, 2001, the Commission delayed implementation of the mitigation measures to be imposed on entities that fail the generation market power screen. On December 19, 2003, the Commission issued a notice of a technical conference and a staff paper suggesting possible revisions to the SMA and the mitigation measures imposed on those who fail the screen.

The technical conference was held on January 13 and 14, 2004. Parties were invited to submit written comments on the issues addressed at the technical conference by February 4, 2004.

The Electric Power Supply Association1 (EPSA) developed a “Bare Essentials on Market-Based Rate Authority” that was distributed at the conference and is attached hereto. EPSA also filed comments on the SMA screen, pursuant to the Commission’s request for comments on October 22, 2002.

EPSA appreciates the opportunity to comment further on these important issues. These comments, however, will be limited to issues raised at the January 2004 conference.

While this issue has been under debate for three years, EPSA urges the Commission to carefully consider its next steps, keeping in mind two very important points:

* Solve today’s critical problems. Not all solutions are appropriate for all problems; the Commission should ensure that the steps it takes solve the problems facing the electric industry today, not those that were present three years ago.

* Expect the unexpected. Regulation causes both anticipated and unanticipated consequences in markets. In developing appropriate remedies to prevent the exercise of market power, the Commission’s rules must be pragmatic and targeted to mitigate undesirable activities while not undermining market participants’ legitimate and beneficial activities in wholesale markets.

Both of these issues are discussed further below.

1. Critical Inputs to the SMA Screen

In transitioning from the “hub and spoke” test to the SMA screen, a critical issue is how transmission capacity is calculated. In fact, it is impossible to calculate generation market concentration (the goal of the SMA screen) appropriately without accounting for transmission capacity availability.

This issue is recognized in the December 19 staff paper, which asks the question on page 5, “How much transmission capacity should be included in the analysis where transmission providers (whose control over transmission has not been transferred to an RTO or ISO) calculate the capacity and also participate in generation markets?” In asking the question, staff recognizes that the issues of utility and wholesale purchaser control over transmission capacity and availability are integrally tied to any measure of generation market power and must be addressed in this proceeding.

In the regions that lack organized markets today, the critical market power issue is whether the dominant market participants act to systematically foreclose competition by refusing to provide competitors access to the transmission services needed to serve wholesale customers. This foreclosure may be exercised in any number of ways, including:

“- delaying or precluding access to transmission services;
“- delaying transmission upgrades or expansions;
“- refusing to provide network access to competitors;
“- providing discriminatory access to information;
“- preferential dispatching of utility or affiliate-owned generation;
“- engaging in affiliate transactions that preclude other suppliers from selling
to customers;
“- entering into long-term affiliate power purchase agreements (PPAs) that
“- limit the wholesale market opportunities for competitors;
“- leveraging market power into adjacent markets; and
“- increasing the financial pressures on competitors.

The potential for dominant suppliers outside of RTOs and ISOs to foreclose access to transmission service by its wholesale competitors and transmissiondependent utilities within its footprint has been recognized by the Commission.

In Order No. 2000 and the Standard Market Design NOPR, the Commission concluded that the open-access transmission tariffs were inadequate to support the efficient and reliable operation of the transmission grid and promote competitive markets. In Order No. 2000, the Commission expressly found that “functional unbundling does not change the incentives of vertically integrated utilities to use their transmission assets to favor their own generation.”

The Commission has had several recent cases arising from the failure of vertically integrated utilities to abide by the Commission’s rules. For example, in the Commission’s “Audit of Standards of Conduct, OASIS and Interconnection and Transmission Practices at Avista Corp.”, dated December 18, 2003, staff found various failures to comply with the requirements of Order Nos. 888 and 889, including failure to post portions of its TTC and ATC and conversations between Avista transmission staff and Avista merchant staff concerning transmission service requests that staff termed as “a source of concern.”

Similarly, in May 2003, Idaho Power settled a case with FERC involving allegations of unfair preference given to transmission requests submitted by affiliates. Also, in July 2002, the Commission imposed a $750,000 civil fine against Cleco Corporation and ordered $21 million in refunds stemming from alleged violations of the Commission’s affiliate rules between 1999 and 2002.

Therefore, the Commission should be wary, for the purpose of defining the transmission capacity associated with generation market share, of claims that outside RTOs and ISOs, transmission is being made available on a nondiscriminatory basis to competitors. As a general matter, the import ties of vertically-integrated transmission providers were sized to serve native load. In recognition of this, individual company pro forma tariffs permit the set aside of large portions of firm capacity on import ties as Capacity Benefit Margin (CBM) for use in meeting native load.

The pro forma tariff also gives native load a preference in the use of any nonfirm import capacity by assigning the highest priority of non-firm transmission to serving native load from substitute network resources.

In addition, there have been serious concerns raised about the validity of ATC and TTC calculations outside RTOs and ISOs.2 Therefore, an initial presumption that import capacity is largely dedicated to meeting native load requirements and is not available to the market at large is more reasonable than an initial presumption that the import capacity is available to other transmission uses. 3

Accordingly, EPSA recommends that outside of RTOs and ISOs, the Commission should adopt a rebuttable presumption that import capability is being used by vertically integrated utilities and their marketing affiliates to serve native load and is not available for use by competing suppliers.4 The filing entity who fails the screen, can and likely will be in the best position to rebut such a presumption by providing documented evidence to the contrary or, in the alternative, by adopting the structural measures discussed below, i.e., an independent entity to administer interconnection and transmission matters, the expansion of import capability, or a set aside of import capability for competitors.

2. What is the Right Approach to Mitigation?

The question then is how to effectively mitigate this situation. EPSA shares the Commission’s preference for structural rather than behavioral solutions.

Clearly, RTOs and ISOs provide the best structural solution to the problems presented here. However, for the reasons discussed below, EPSA does not recommend that the Commission simply deny market-based rates to transmission-owning entities, and their marketing affiliates, outside RTOs and ISOs who fail the SMA screen.

Rather, EPSA urges the Commission to put in place interim structural remedies designed to serve the twin goals of creating exante mitigation protocols and facilitating the development of RTOs and ISOs that will diminish the potential for the undue exercise of market power.

First, the Commission should put in place an independent entity to administer certain transmission functions for those vertically integrated utilities and their affiliates that do not pass the SMA screen. Specifically, the OASIS site should be operated by a third-party entity, which should also be responsible for calculating and posting TTC and ATC.

That entity should also manage or oversee the process of performing transmission studies needed to handle interconnection requests. Second, the Commission should require transparent operation of the transmission system, which may require the services of an independent third-party entity to monitor it.

Given the ability of transmission owners to use generation and transmission assets for strategic rather than economic purposes, some oversight is needed to ensure that transmission owners are not dispatching the system in a manner that creates unnecessary bottlenecks or barriers to transmission access for market participants.

Finally, the Commission should focus on mitigation measures that encourage new entry and promote continued market development. One example, which can be imposed on both short and long-term transactions, is competitive procurement, requiring the dominant entity to engage in a competitive solicitation process if they propose any affiliate transactions. This will encourage new entry and, if done right, ensure the best possible deals for utility consumers.

EPSA urges the Commission to focus its mitigation tools for abuse of generation market power on solving the problems that exist today, starting with careful scrutiny of all inter-affiliate transactions. It is through the use of affiliate transactions that dominant players are most likely to continue to exercise their market dominance and the remedy imposed should be tailored to solve that problem effectively.

The Commission should also preclude any affiliate transaction unless there was an effective competitive procurement program in place to test the competitive alternatives and ensure that the affiliate transaction is the best deal for wholesale and retail customers.

3. Cost-of-Service Rates Are Not the Answer

EPSA is very concerned about any proposal to cap sales at “cost-based” rates. While the cost of service is a long-standing regulatory tradition, it is not at all clear what costs would be included in these cost-based rates, what the process would be to determine them, and what products they would apply to.

As we saw in California, any effort to slice and dice markets for different products, services or participants, and impose cost-based rates for some of them, can lead to bizarre and unanticipated results.

For example, if cost-based rates are imposed for certain ancillary services, but market prices are allowed for energy services, companies are likely to pursue strategies to move energy from one market to another in order to receive the higher price, creating huge distortions and potential reliability problems.

It is also important to remember that conceptually, cost-based rates serve as both a floor and a ceiling, as they represent the long-term costs ratepayers are obligated to pay. Thus, they are difficult to impose in shorter-term markets.

Finally, experience has showed that cost-based rates do little to replicate or promote competitive markets and do nothing to cure the fundamental problem of excessive generation concentration.

When the proposal to cap rates was originally made, it was in response to the Commission’s concern that dominant suppliers exercise market power through economic and physical withholding (November 20, 2001 SMA Order). There is little or no basis in this record to conclude that dominant entities in the electric industry routinely exercise market power through economic or physical withholding. However, there is considerable evidence that dominant entities in the electric industry routinely exercise market power by foreclosing access to the market by their competitors (i.e., restricting supply entry).

Thus, it is important that the Commission tailor the remedy imposed to solve the existing problem. As discussed above, imposing cost-capped rates on the dominant entities will do nothing to encourage new entry or market development and it may, in fact, cause considerable harm to those goals. Eliminating transmission foreclosure will increase supply and directly mitigate incentives to withhold.

4. Application of the SMA Screen

From the outset, the focus of this proceeding has been on an appropriate screen for assessing generation market power. This is only one prong of the Commission’s current test for granting market-based rates, which looks at whether the seller and its affiliates do not have or have adequately mitigated market power in generation and transmission, and cannot erect other barriers to entry.

The Commission also considers whether there is evidence of affiliate abuse or reciprocal dealing. EPSA urges the Commission to act quickly to reexamine the current standards under these prongs of the test as well. As discussed above, the Commission has already found that having Order No. 888 Open Access Transmission tariff on file, is insufficient to mitigate transmission market power.

EPSA urges the Commission to immediately issue a more comprehensive rulemaking to examine its approach to market-based rate authority in an integrated and comprehensive manner. Clearly, there is a close interplay between generation and transmission market power and the Commission’s tests for market based rate authority should reflect that fact.

Outside of organized markets, the Commission must also focus its attention on the role utilities play as buyers, where they are often the only buyers. In this role, utilities and their affiliates frequently have the ability to assert market power by setting the price or refusing to deal with competitors.

This is an area where mitigation might be particularly effective, with the Commission requiring utilities to mitigate their market power by engaging in well-designed competitive procurement practices and economically dispatching their systems in a manner that allows all generation to compete to serve load.

Given the focus in this proceeding on the right screen for generation market dominance, it is important for the industry and for the development of competitive markets that the Commission develops and impose a clear and well-understood test. Parties can then choose to stay under that screen, or adopt appropriate mitigation measures to address the problems associated with generation market concentration.

5. Do Not Exclude Native Load or Long-term Contracts from SMA Screen

While EPSA has previously provided comments on various aspects of the SMA screen and its concerns with its application, there is an additional issue that received extensive comment at the January conference, which EPSA has not previously addressed.

That is the issue of whether generation committed to serve native load or long-term contracts, which have always been included in a market power screen, should now be excluded from the screen. EPSA recommends that the Commission not make that proposed change to the SMA screen.

Doing so will significantly understate the generation market concentration of any entity that serves significant retail load and ignores the fact that all power sold in wholesale markets is ultimately intended to serve native load. The Commission must also recognize that generation used to serve native load (or long-term contracts) at peak times is available to sell into the wholesale market much of the other, non-peak times.

By focusing only on uncommitted capacity, the Commission would be ignoring the realities of the marketplace and could be creating perverse incentives for utilities to build their own power plants rather than buy less expensive power from the wholesale market. Therefore, EPSA urges the Commission to continue to use total installed capacity in any SMA screen going-forward.

Another problem with using an uncommitted capacity test is that it significantly, and artificially, shrinks the size of the relevant market. Outside RTOs and ISOs, and even in some proposed RTOs, the wholesale market represents a very small percentage of the total system.

In some cases, only 10 to 20 percent of the total market is reflected in the wholesale market. The effect of this approach may well be to find that relatively small market participants, who would not otherwise be found to have a dominant market position in a particular region, have a dominant share of that very small slice of the wholesale market.

Counter intuitively, this would result in non-dominant companies, which the Commission is trying to incent to enter markets, failing the SMA screen and, in turn, limiting market entry in direct contravention of the Commission’s goals and the consumers’ ultimate interests.

Conclusion

While this proceeding has been on-going for several years, EPSA urges the Commission to act carefully to fulfill its underlying goal of promoting competitive markets that benefit consumers. The Commission should remain focused on structural, not behavior solutions and avoid remedies that unintentionally undermine the development of robust competitive markets. Finally, the Commission must move forward to impose structural mitigation when market participants fail to pass the revised screens.

Source: Julie Simon, Vice President of Policy, Electric Power Supply Association

About EPSA

EPSA is the national trade association representing competitive power suppliers, including generators and marketers. These suppliers, who account for about one-third of the electricity produced in the United States, provide reliable and competitively priced electricity from environmentally responsible facilities serving global power markets. EPSA seeks to bring the benefits of competition to all power customers. The comments contained in this filing represent the position of EPSA as an organization, but not necessarily the views of any particular member with respect to any issue.

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