FERC’s Recent Orders on Generation Market Power in Wholesale Electric Markets NARUC Electricity Committee Meeting November 15, 2004 Steve Rodgers, Director, South Division Office of Markets, Tariffs & Rates Federal Energy Regulatory Commission

A key FERC responsibility under the Federal Power Act: To ensure that rates charged by public utilities for wholesale power are just, reasonable and not unduly discriminatory or preferential.

History of FERC’s market-based rate program Program began in 1989, and a 4-part test, using hub-and-spoke method to measure generation market power (MP), used until November 2001 Supply Margin Assessment (SMA) test for generation MP adopted in Nov SMA test replaced by two new screens and a new process in April 2004

High Level Overview SMA definitive test replaced by two interim screens that are indicative of generation MP If applicant passes both screens, presumption of no MP, but interveners given chance to rebut If applicant fails either screen, presumption of MP, but applicant can provide evidence to rebut If applicant found to have MP, it can offer mitigation or cost-based rates

Indicative Screen #1: Uncommitted Pivotal Supplier Measures applicant’s ability to exercise market power at time of the annual peak Screen is adept at measuring MP exercised unilaterally, in spot markets, and at peak R ecognizes applicant’s commitments to native load, operating reserves and long-term firm wholesale sales. Deduction for native load is based on the average of the daily native load peaks during the peak month

Indicative Screen #2: Uncommitted Market Share Measures the potential of an applicant to exercise market power in all four seasons Screen is adept at measuring if applicant is dominant, MP at both peak and off-peak, and the potential for coordinated interaction S creen recognizes applicant’s commitments to native load, operating reserves, long-term firm wholesale sales, and planned outages Applicant passes the screen if its market share of uncommitted capacity less than 20%

What happens if applicant passes both screens? Rebuttable presumption applicant doesn’t have MP but interveners can present evidence to disprove (including historical sales data, and evidence that competing suppliers can’t access the market) If no evidence to rebut the presumption, then applicant obtains/retains its MBR

What happens if applicant fails either screen? Rebuttable presumption applicant has MP... but applicant can either present evidence to disprove (including historical sales data and the Delivered Price Test), OR... applicant can propose mitigation to eliminate its ability to exercise MP. HHI of 2500 is threshold, but no “bright lines” under DPT If applicant found to have MP, its denied MBR in all geographical markets where it has MP

Cost-based rate mitigation If applicant is denied MBR, it must use cost-based rates – either default or an applicant proposal approved by FERC. Three types of default cost-based rates, based on length of sale: 1. Incremental plus 10% for sales of one week or less

Cost-based rate mitigation (con’t) 2. Embedded cost “up to” rates based on cost of the unit(s) involved for sales more than one week and less than one year 3. Rates not-to-exceed embedded cost of service for sales of one year or more – and contract must be approved by FERC before transacting

Relevant Geographic Market Default markets are any control areas where applicant has generation, plus each first-tier market. Exceptions if you don’t own tx Applicant/interveners can provide evidence to show actual relevant market is smaller or larger than the control area Flexibility to recognize evidence of load pockets

Transmission limitations Total Transfer Capability (TTC) used under SMA is abandoned for simultaneous transmission import capability TTC unrealistic because its not possible for that amount of generation to be imported at once The simultaneous transmission import capability should also reflect limits such as stability, voltage, CBM and TRM

No RTO/ISO exemption. However,... Applicants can incorporate the mitigation they’re subject to in RTO/ISO as part of their MP analysis Applicants located in RTOs/ISOs with sufficient market structure and a single energy market may regard entire footprint of the RTO/ISO as the relevant market Those with such markets now are ISO-NE, NYISO, PJM, and CAISO

No “safe harbor” size exemption However... Any applicant can submit a streamlined application or simplifying assumptions, where appropriate (e.g., if you pass even without allowing competing imports, then no need to consider such imports)

Native load protections New screens ensure that utilities can purchase power in wholesale markets at just and reasonable rates, and not at excessive rates from suppliers with market power. These savings passed on to native load ratepayers of the purchasing utility.

Native load protections (con’t) Reasonable recognition given to utility commitments to serve native load, and provide adequate operating reserves for native load customers  Thus, in their capacity as sellers in wholesale markets, explicit recognition given to IOUs’ native load obligations and reliability needs.

Native load protections (con’t) Provides greater transparency into how utilities with MP derive rates, so state regulators can be sure retail customers are getting fair share of revenue credits from wholesale sales. Some utilities may not be flowing back back to retail all revenue credits they should be from wholesale sales.

Implementation process All with pending MBR filings were placed in six groups, and told when to file between 8/04 and 4/05 (see 5/13/04 implementation order) A screen failure would... o create rebuttable presumption of MP, o initiate a FERC 206 investigation, and o make market-based rates subject to refund o refunds only due if FERC finds MP in later order

EEI criticisms of new screens New screens are “deeply flawed, a major step back” for power markets EEI is “deeply troubled” by “major defects” in FERC’s screens FERC’s new MBR test “badly fails to achieve” goal of clear and equitable rules for MBR EEI President Thomas Kuhn, EEI press release of 7/9/04

FERC was very responsive to EEI proposals, such as... using indicative, not dispositive, screens uncommitted capacity in both screens, allowing deductions for: native load, long-term commitments, operating reserves, planned outages in MS consistent treatment of capacity internal and external to the control area

FERC was very responsive to EEI proposals, such as... (Con’t) replacing TTC with simultaneous import capability allowing for applicant case-by-case mitigation proposals allowing failing applicants to fall back to cost- based rates using the control area as the relevant market, but allowing proposals for other markets

Response to main criticisms of the screens 20% market share threshhold isn’t too low, since based on DOJ Guidelines and electricity is essential service (inelastic demand) Native load deduction isn’t too low, since same generation used to serve retail also used to make off- system wholesale sales Two screens are better than one – indeed FTC recommended we use four screens, incl. off-peak Screens aren’t rigged to force people into RTOs – indeed, we revoked the RTO exemption, and even EEI supports our default geographic markets

New MBR orders are reasonable, with many bites at the apple Initial indicative screens, where applicant can show alternative geo markets & make additional deductions Fallback: File historic sales data Fallback: File a Delivered Price Test Fallback: Propose your own mitigation Worst-case scenario: Cost-based rates!

Where we’re at now In the last month FERC has granted MBR to 15 sellers using the new screens, including two IOUs and numerous IPPs Data requests issued to 11 IOUs last Friday Recent outreach meetings from EEI to FERC on the generation screen in the generic rulemaking. This is helpful. No MBR rubber stamp screens.

New generic rulemaking case on MBR (Docket No. RM04-7) Will address adequacy of FERC’s current 4-part test for granting MBR: generation, transmission, barriers to entry and affiliate abuse Needed since much has changed in industry in 15 years, and there are no comprehensive codified regulations for obtaining MBR 3 upcoming tech conferences, on vertical MP, affiliate abuse and whether screens need revision. Next conference on December 7.

Summary New MP screens reflect lots of due process: rehearing requests, 3 rounds of comments, a staff policy paper and a 2-day technical conference Many procedural options ahead for applicants and interveners, with symmetrical rights and opportunities for each to make their case Balances regulatory certainty with flexibility for those seeking MBR authority More to come through the new generic rulemaking proceeding