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Dumping SFV May be Panacea for Industry

February 8, 1999
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Dumping SFV May be Panacea for Industry

Abandoning straight-fixed variable rate design (SFV) in favor of one that would permit recovery of some pipeline fixed costs in the usage rate would resolve a lot of the competitive concerns raised by FERC in its mega-notice of proposed rulemaking (NOPR) and notice of inquiry (NOI), New York regulators and a coalition of utilities said in separate, yet complementary filings last week.

The Customer Coalition, which is made up of mostly Northeast utilities, called on the Commission to implement a rate design that would place 35% of fixed costs in the usage rate, while the New York Public Service Commission (PSC) proposed putting a minimum of 25% of fixed costs in usage rates [RM9810, RM98-12]. SFV rate design assigns all fixed charges to the reservation rate. The PSC said it would prefer to see a 50-50 split of fixed costs between reservation and usage rates, but conceded that it "may be too abrupt a shift in one step."

"Although a change in rate design does not provide all of the answers, it is clearly a step in the right direction," the Customer Coalition told the Commission. Both the coalition and New York regulators believe that a shift away from SFV towards a more volume-oriented rate design would prove to be a panacea for many of the gas industry's ills, which were highlighted in the mega-NOPR and NOI. They have asked FERC to issue a separate NOPR addressing the rate design issue.

The New York PSC and the utility coalition generally agreed, with few exceptions, that a change in rate design would: 1) eliminate, or possibly even reduce, the need for the controversial auction of short-term capacity; 2) remove the bias in favor of short-term capacity contracts; 3) enhance the viability of recourse service; 4) limit the number of hastily-issued operational flow orders (OFOs); 5) create a more balanced approach for certificating new facilities; 6) remove certain obstacles to state unbundling efforts; and 7) limit the need for pipeline discounting.

A change to a more volumetric rate design, as proposed, would remove or lessen the motive for pipelines to withhold their capacity from the market, which was the reason for the FERC-proposed auction, the coalition said. "If 35% of a pipeline's fixed costs were at risk, the pipeline would have a strong incentive to keep its throughput as high as possible." If an auction were to be implemented, the coalition believes a non-SFV rate still would play an essential role. "A chief concern with the current proposal is the lack of a reserve price. If more costs were recovered in the usage rate, that rate might provide an appropriate reserve price for the daily auction."

As more and more pipelines move away from SFV rate design either through settlements or negotiated-rate deals, the Commission has an "obligation" to re-evaluate how its existing SFV rate design is affecting recourse shippers, the coalition noted. It needs to "guard against a situation in which the only shippers who are paying SFV rates are recourse shippers." If the SFV rate regime is allowed to continue, New York regulators agreed it could lead to a "bifurcated" market - with some customers enjoying the benefits of negotiated rates and others being held captive to the higher SFV rates.

Moreover, both regulators and utilities insist SFV rate design encourages pipeline overbuilding, and that a volumetric-type rate design would limit this. "If the Commission changed to a rate design that recovered a substantial level of costs in the usage rate, pipelines would be required to more carefully evaluate whether there is an adequate market for their project and the timing of the project," as well as the impact of such a project on affiliated pipes that already serve the same markets, the coalition noted. On a related issue, the New York PSC contends a non-SFV rate also would provide pipelines with greater incentive to market unsubscribed capacity.

Additionally, a non-SFV rate may cause pipelines to think twice before issuing OFOs. "A change to a rate design that recovers a significant level of the pipeline's fixed costs in the usage rate would provide pipelines with an increased incentive to keep their systems full. This, in turn, would lead pipelines to more carefully consider issuance of OFOs," the utility coalition said.

Regulators and utilities further said a non-SFV rate design would aid state unbundling efforts, where marketers have been unwilling to assume LDC capacity because of the high demand charges associated with it. Instead, marketers are opting for interruptible or short-term firm service from pipeline or capacity release/rebundled sales, leaving LDC capacity stranded. "State unbundling is hindered under this scenario because the potential savings the customer might realize are reduced or at least delayed by the need to pay for the stranded costs."

When SFV rate design was adopted as part of Order 636 in the early 1990s, the Commission recognized that it didn't provide the proper incentives for pipelines to reduce costs. But it was a quid pro quo for getting the pipelines on board and FERC counted on the pipelines to file incentive ratemaking proposals to help in that regard. It also believed higher capacity costs for shippers would be offset through the capacity-release market. Since then, however, not one pipeline has filed to implement incentive rates, and shippers are recovering only a fraction of capacity costs in the release market, the coalition said. "...[T]he time has come to reconsider continued use of SFV rate design on all pipelines."

Susan Parker

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