Price Mitigation OK'd for Emergency Spot Deals in CA

Following more than a nine-hour delay to the start of the FERC meeting last Wednesday, a very divided Commission voted out a controversial market monitoring and mitigation plan in an attempt to bring some measure of sanity to wholesale power prices in the out-of-control California energy market over the next year.

Power industry and state regulatory officials reacted quickly to the Commission's new game plan for California, with many questioning whether the latest action would make much of a noticeable difference in power prices in the state (See related story).

By 3-0, with Commissioner William Massey casting a partial dissent, the FERC majority approved a plan that will establish a single-market clearing price for real-time transactions in the California Independent System Operator (Cal-ISO) during times of reserve deficiencies (Stage I, II and III emergencies) in the state. During those periods, the Cal-ISO's market price will be limited to the marginal cost of the highest-cost generator called upon to run during an emergency (when the state's reserves are 7% or below). The Cal-ISO will calculate the marginal cost for each generator, based on a unit's heat rate and proxy gas and emission costs, plus a $2 adder for operational and maintenance expenses. The Cal-ISO will be required to publish the daily gas and emission costs that it plans to use the next day to calculate generators' marginal costs in the event a power emergency is declared in the state. The monitoring/mitigation plan will take effect May 29, and will be in place for up to one year.

The plan imposes a must-sell obligation on generators, which have signed Participating Generator Agreements (PGA) with the Cal-ISO, to offer all of their available capacity to the Cal-ISO in real-time during all hours for use in the California power market. It puts the same obligation on non-public utility generators located in California that make sales through the ISO's markets or that use the ISO's transmission grid. In addition, it calls on public utility load-serving entities to submit demand bids (identifying the price at which load will be curtailed) in the real-time market during all hours, as well as single out which loads will be curtailed.

The Commission order also opens an extremely limited Section 206 investigation to determine whether the rates, terms and conditions of public utility sales for resale of power in the 13 states that make up the Western Systems Coordinating Council (WSCC) are "just and reasonable." The probe would not include sales through the Cal-ISO, and would be limited to electric energy sold in real-time spot markets (up to 24 hours in advance) during periods when contingency reserves for any control area in the WSCC fall flow 7%.

FERC conditioned mitigation of real-time prices in California on the Cal-ISO and the state's three investor-owned utilities submitting a regional transmission organization proposal by June 1. If they fail to do so by the deadline, then the state will lose its mitigation plan completely, Chairman Curt Hebert Jr. warned. Or, as Commissioner Massey said, the "entire [plan] turns into a pumpkin."

At a press briefing following the meeting last week, Hebert was asked if he was concerned that the order signaled a retreat from the free-market positions that he has espoused. "No, I think if you read the order you'll see this is about as free market as it gets when you're trying to mitigate pricing."

In response to remarks that FERC's action looked an awful lot like a price cap, he quipped. "No, they're not price caps, they're not even close to a price is not even similar to a price cap." For the uninitiated, a senior FERC staffer defined the difference: "a price cap is a set number that applies forward. FERC is prescribing a market methodology that mimics what a competitive market would be, using market-based variables as inputs. The inputs change daily to create a proxy price at which the most inefficient unit cleared the market. This is clearly market-oriented."

Hebert further downplayed any suggestion that the Commission caved into political pressure to restrain power prices. This order offers a "basket of various measures" that hopefully will encourage power suppliers to enter the California energy market, not flee from it, Hebert said. "I am pleased with the product," he noted, adding it will be in place prior to the "critical summer season." Commissioner Linda Breathitt touted the order as well, noting that it "strikes a balance between the interests" of consumers and suppliers.

In his partial dissent, Massey took issue with the Commission majority's decision to offer the price mitigation only during Stage I, II and III emergencies. Bidding up power prices in the state is a "pervasive problem" that occurs at all hours of the day, he noted. "The record is devoid of any evidence that the problem is limited to hours when an operating reserve margin alert at stages 1, 2 or 3 is in effect." Rather, the evidence shows that "the problem exists twenty four hours a day, seven days a week," Massey said.

He argued that generators still would be able to make a tidy profit if the Commission had extended price mitigation to all hours, not just emergencies. They would make "perhaps a lot of money because the market clearing price that all generators would get would be set by the highest-cost generator, probably an inefficient older gas-fired generator with a high heat rate."

"Now is not the time for half-a-loaf solutions," especially he said as "economic carnage [is] spreading" throughout western energy markets. He noted that the Commission's refund orders --- which he called both "paltry" and "arbitrary" --- have done little to help the situation.

As a result of the majority's action, "I have no confidence that prices will be just and reasonable during all hours." He further criticized a provision on refunds, which he said was "substantially narrowed" in the order, and the fact that the price-mitigation program will only last for one year. "This period of time is too short. I would allow the monitoring and mitigation features to remain in place for at least 18 months."

Moreover, he said the Section 206 investigation into power prices ordered by the Commission majority was "extraordinarily narrow" because it only applies to power transactions of 24 hours or less that occur during times of reserve deficiencies in the western interconnection. "...I commend my colleagues for at least going this far, but the approach is much too narrow to hold any promise of effective price relief," noted Massey, who advocated an investigation (and refund condition) for transactions of one month or less.

Further, he called on the Commission to take "all the available action" to mitigate the high differential for natural gas transportation into the California market, which he noted often exceeds $10/Mcf and which is often used to justify the high wholesale power bids into the Cal-ISO market . This compares to a differential of less than $1 for the Chicago and New York markets.

He believes FERC should concentrate more on prices for gas, especially considering its growing use as a fuel in power generation. He noted that gas was responsible for roughly $350 of the $430/MWh proxy price that the Commission established for California electricity sold during Stage III emergencies in February. "This issue has not gotten nearly the attention it needs," and demands "more forceful Commission action."

In addition to the transportation differential, "we must actively explore any jurisdiction we may legitimately have that affects the so-called gray market. We must take a second look at whether lifting the price cap for secondary market pipeline capacity was in the public interest. We must vigorously investigate any allegations of withholding or market manipulation or affiliate abuse [in the gas market]. We must certificate new interstate capacity that is needed for the markets to function efficiently, and...we must work with the state of California to ensure that there is adequate take-away capacity in the intrastate market," Massey said.

While Massey took issue with a number of aspects of the monitoring/mitigation plan, he did note that it offered some "positive features." It establishes conditions on sellers' market-based rates to prevent anti-competitive bidding behavior in the real-time market during all hours; requires the Cal-ISO to submit weekly reports on outages and bidding behavior for all hours; enhances the Cal-ISO's ability to coordinate and control planned outages; and obligates sellers to offer all their available power to the Cal-ISO real-time market during all hours.

As FERC was debating power price mitigation for California last week, the chairman of Williams Cos., a major power marketer and generator in the West, made the stunning announcement that his company backed short-term price controls as a way to help California and other western states during the immediate crisis.

The statement by Chairman Keith Bailey came in a mid-day press release last Wednesday just hours before the Commission acted on its monitoring/mitigation plan.

While opposing long-term price controls, Bailey said, "We also recognize this is an extraordinary situation. We need to help create some breathing room over the next year or so to allow the current emergency supply initiatives to have a meaningful impact. We all have to work together, and this is the right thing to do.

"We also believe a rational course of action that seeks new sources of supply must be combined with public policy that ensures confidence that services provided in the past and future will be paid in full. It is also imperative to design controls in a manner that allows full recovery of costs and a return that is commensurate with risk. The combination of short-term, regional price controls during emergency periods that eventually expire at a fixed point in time, along with the elimination of credit risk, should provide the market a respite while creating incentive for the private sector to invest with confidence," he said.

Williams markets some 4,000 MW of power in California, the majority of which was sold in long-term, forward contracts both this year and last.

Bailey said Williams had net accounts receivables at March 31 for power sales to the Cal-ISO and Cal-PX of about $252 million, a net increase of approximately $140 million from year-end 2000. "This is consistent with our ongoing commitment to continue to serve California markets while we work toward finding equitable solutions to the energy crisis." He reported Williams started power sales to the Department of Water Resources on April 1 under a long-term agreement signed earlier this year.

Calpine also seemed to have a more relaxed position on price caps, but it noted that any cap should be regional in nature since neighboring states are experiencing worse price spikes than California. "The market in the short-term certainly needs to be stabilized. If reasonable, temporary caps would bring that about, we could probably support that." Calpine Vice President Bill Highlander said.

Highlander said Calpine would likely back caps "if they were at the right level to still encourage generators to still serve California." He noted that Calpine is selling all of its California-based output into the state, "but generators and marketers from other areas may have a problem, and you have much higher prices than you do in California in some of the neighboring states. It is not just a California situation, although California is hurting the most."

Duke Energy's western spokesperson Tom Williams reiterated that Duke continues to oppose price caps. But, he added, if there are any caps, they "should be short-term in nature and have a clear sunset." In addition, he said any caps should make sure there also are "adequate incentives to build new generation." Rounding out the top four, a Houston-based spokesperson for Reliant Energy said it still was against price caps because it wasn't clear that they would do any good.

In a related development, the California state Assembly passed a joint resolution last week urging the Commission to place a "cost-based price cap" on natural gas coming into the state over the next 18 months. The resolution's next stop is the state Senate where it is expected to pass, according to one of the Assembly sponsors, and then it will be formally sent to the federal regulators. A similar resolution regarding western wholesale electricity prices is also being considered by the legislators.

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