By Christopher Hargett, Diana McNally-Barsotti and Joel Yu

The benefits of wholesale electric markets can only be achieved when competition is effective. FERC must not only provide for markets that benefit customers but must also not lose sight of the importance of protecting markets (and customers) against market power abuses. To this end, the focus on customer impacts must remain as FERC considers changes to existing electric market offer caps. Some organized markets have sought to increase offer caps to levels above $1,000/MWh because of the impact seen from high natural gas prices during the extreme weather events in the winter of 2013/14. Such efforts are overly reactionary to one winter season experience and do not indicate that a change in policy and consumer protection is warranted at this time. Moreover, they are predicated on the misguided belief that increasing the offer cap is the only means to properly compensate generators for their performance. Since the advent of organized electric market operation, there has been no evidence that a change to this important offer cap is needed.

Protecting Electric Customers

Bids into wholesale electric markets and associated federal regulations are based on the premise that, absent market power, competitive market pressure should discipline offers to levels at or near suppliers’ marginal costs required to cover short-run operations (including opportunity costs). However, because marginal suppliers may be limited during peak periods, and because the market demand-side load is generally not price responsive, a truly functional competitive market may not be present. As a result, offer caps are necessary to protect customers from excessive prices as generation resources become scarce during high demand periods. Moreover, they take into account the fact that “prices are generally more sensitive to withholding and other anticompetitive conduct under high load conditions,” when more costly supply is required.[1]

Due to the experience of the 2013/2014 winter, organized electric markets are seeking to promote resource availability and performance in ways that add competitive forces to the market’s supply side during peak demand hours. While the organized electric markets have well developed mitigation measures in place, there is no substitute for the $1,000/MWh offer cap as a fail-safe protection to customers. Furthermore, energy market offer caps serve as a valuable incentive for generators to minimize fuel costs, which in turn translates into customer benefits through fair electricity prices. Moreover, the existing cap encourages generators to limit their reliance on spot fuel purchases. This incentive is not only good for economics but also for the reliable operation of the electric system. And, under existing rules, individual generators are able to be compensated for documented increased fuel costs when incurred. Such provisions protect generators as well as consumers, and any change to the offer cap should consider the experience with such requests, as discussed below.

It is also inaccurate to claim that higher short-term price signals will result in better resource performance and help maintain reliability. This hypothesis was proven false in PJM’s experience over the past two winters. In response to high natural gas prices in winter 2013/14, PJM temporarily increased its offer cap to $1,800/MWh for the 2014/15 winter but ultimately had no resource clear above $1,000/MWh. In fact, while prices cleared below $1,000/MWh, generators boosted performance year-over-year. When PJM experienced its all-time winter peak in February 2015, the generator forced outage was 13%, compared to 22% in January 2014. In New York, historical data supports this conclusion as well, as no generator in NYISO has ever demonstrated that it incurred costs above the $1,000/MWh offer cap, including the 2013/14 winter when natural gas prices spiked to unprecedented levels.

Regional Coordination

FERC should not act on a generic basis to modify energy market offer caps across organized markets, nor should it allow differences in offer caps between regions. Contrary to FERC’s goal, any difference in offer caps in neighboring regions would create unnecessary seams issues and could result in inefficient bidding behavior between regions. That’s because suppliers could concentrate their offers into the market with the higher offer cap, forcing operators in the lower offer cap region to call on resources out-of-market to meet their system reliability needs. This would unnecessarily increase costs to consumers in both regions. Such bidding incentives are an unjust application of market power and should be avoided. True price flexibility and differentiation between markets are, and should continue to be, a reflection of infrastructure constraints.

The Right Approach

Price signals are not the only tool available to compensate suppliers according to their cost of operation.[2] Out-of-market payments are the appropriately tailored solution when considering the precarious alternative. Taking this approach ensures that generators are compensated for their performance and for meeting customer needs in extreme conditions, without creating potential market vulnerabilities at all other times to the detriment of electric customers. Out-of-market payments address these rare costs in a fair manner for generators and customers and should be transparent for all market participants. Trends should be monitored, and any changes, if considered in the future, should be based on information about such payments.

[1] 2014 State of the Market Report for the New York ISO Markets, Potomac Economics, May 2015, p 17.

[2] PJM recently received FERC approval for its Capacity Performance program, whereby units that perform under high demand conditions are rewarded. In New York, NYISO is undertaking several initiatives to bolster performance while ensuring compensation including clarifying market mitigation measures and fuel availability reporting.

Christopher Hargett, Diana McNally-Barsotti and Joel Yu are senior policy advisors at Con Edison. Subsidiaries Con Edison Company of New York and Orange and Rockland Utilities are transmission owners within NYISO. A subsidiary of Orange and Rockland Utilities, Rockland Electric, is a transmission owner within PJM.

(Editor’s Note: This column marks the beginning of an occasional RTO Insider feature, Stakeholder Soapbox. If you’d like to contribute your own op-ed article, contact Rich.Heidorn@RTOInsider.com.)