FERC pauses in the forced march toward RTOs

Joseph Bell, John Lilyestrom, and Mary Anne Sullivan, Hogan & Hartson

The Federal Energy Regulatory Commission (FERC) has been on a worthy mission since 1996 to open up the nation’s electricity markets to competition. Orders 888 and 2000, the early milestones in this effort, met with only modest opposition, but resistance began to build during the implementation of Order 2000. FERC nevertheless pressed on, issuing its now infamous Standard Market Design (SMD) proposed rule. The ensuing firestorm forced FERC to retreat in its recent white paper. While FERC stands by its original goals, the forced march toward standardized markets dominated by a few large regional transmission organizations (RTOs) is now quite clearly on hold.

Stop, drop and hold

This pause in the drive to put transmission in the hands of a few, very large RTOs may afford a salutary opportunity to test and fine tune in RTOs formed as the result of voluntary action the complex and hard-to-implement concepts that are supposed to deliver on the promise of competitive, transparent and reliable electricity markets. To the extent these market concepts succeed, now-intransigent transmission owners and state regulators may ultimately embrace RTOs. At a minimum, proven success will give FERC, which has been weakened by the fight over SMD, greater standing to dictate the path for the future. But achieving that success will be far more difficult.

In Order 2000, FERC set an ambitious goal that, by December 15, 2001, all RTOs were to be operational. For the most part, utilities made the required initial filings, but getting to FERC’s vision of a few RTOs covering the nation proved to be more than even the most willing players could achieve. As the process faltered from the Southeast to the Northwest, FERC did not interpret the difficulties as a caution light, but rather as a spur to further regulatory prescription.

In its July 2002 SMD rulemaking, FERC sought to require the adoption of a uniform set of rules governing all transmission service. SMD would have required a uniform tariff applicable to all transmission customers, including most notably the bundled retail customers that FERC had left alone in prior actions. It would have required that all transmission be placed in independent hands, and it would have dictated locational marginal pricing and the auction of congestion revenue rights as the means of assigning costs of transmission. Finally, it would have placed the resource planning function in the hands of RTOs, relegating state regulators to an advisory function.

The outcry, most notably from state regulators, was sharp and pointed. They saw SMD as a federal power grab that would undermine their ability to protect their ratepayers from costs they did not cause. Threatened with a political loss, FERC’s white paper put the brakes on the process and cooled the rhetoric. In doing so, however, it made some important compromises.

There’s no “I” in team

FERC backed off of its requirement that all transmission owners join large regional RTOs. Instead, the white paper concludes that smaller ISOs are acceptable, provided all RTOs and ISOs “actively pursue regional coordination,” including elimination of multiple access fees for transmission service. Thus, FERC has suggested that multiple independent transmission owners can, through contractual arrangements, produce the same benefits as large single-system RTOs. That just may not be true.

“- The transmission pricing model in the SMD proposal—where all .costs of transmission (aside from congestion and losses) are charged to load and include components both to cover the costs of the transmission system in the load’s zone and to compensate other transmission owners whose systems are used—is much more complicated in a balkanized transmission system.

“- Elimination of transmission pricing seams will be the primary task of interconnected ISOs and RTOs—both to solve loop flow and pancaking issues. In theory, this can be done. Efforts are underway to eliminate seams between the Midwest ISO and PJM. If successful, this may provide a model for others. However, that effort has been prolonged, and success is not yet at hand.

The problem is compounded by the commission’s current approach to transmission pricing. FERC has approved license plate transmission pricing structures in the RTOs formed to date, but only as transition mechanisms to be followed by some form of postage stamp pricing. Postage stamp pricing would be virtually impossible to replicate without politically unacceptable cost shifting in a patchwork of large RTOs and smaller ISOs.

Another victim of FERC’s forced retreat will be the improved transmission expansion planning and cost allocation SMD sought to achieve. There will be no single organization able to involve all relevant transmission owners and users in a region in order to properly plan for transmission expansions, and the debate about how to properly allocate the resulting costs will rage on.

Transfer of control over transmission to independent entities is likely to produce benefits for transmission system users. However, many of these benefits are likely to be inextricably tied to resolution of the complex problems associated with elimination of transmission pricing seams and development of regional coordination and expansion protocols. If FERC had methodically worked toward implementing

Order 2000, instead of overreaching with its SMD proposal, it is likely that larger, regional RTOs would have been developed. Instead, a patchwork of multiple transmission types will complicate matters for FERC and for system users for years to come.

Bell, Lilyestrom and Sullivan are partners in the energy practice of the Washington, D.C. office of Hogan & Hartson. For additional information, call 202-637-5600 or visit www.hhlaw.com.

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