The continuing fallout from the energy market malfunction in California and the latest industry debacle, the fall of the Enron energy empire, have made this a “really black-eye year” for the future of energy competition, FERC Chairman Pat Wood told energy attorneys last Thursday.
Speaking at the mid-year meeting of the Energy Bar Association in Washington, DC, Wood acknowledged that he was worried about the potentially debilitating affects the two events will have on the “public support for a more market-based system” for electricity.
“As a huge fan…and some would say zealot for that system, I acknowledge that this has been a really black-eye year for making it evident to [electric] customers what was so evident as a result of the natural gas struggle” to open up its markets. Gas customers have saved tens of billions of dollars over the past decade “because we got government out of the way,” Wood noted. “We need to do that in electricity. We needed to do it possibly five years ago.”
According to Dynegy Regulatory Counsel Peter Esposito, who also spoke at the EBA meeting, the power industry is at a critical turning point, but it is FERC, not Enron, that could be responsible for pushing it over the edge.
“We can go backward or we can go forward with competition,” Esposito said. “What’s happened in the last year in this world is staggering… Competition has two strikes on it right now. Deserve it or not, it has been called. And the fast ball is coming from the mound at about 100 miles an hour.”
There is strong evidence that the industry is turning backward, away from competition and toward re-regulation although the majority of people who work in the industry clearly believe open access and greater competition should be the industry’s immediate goals, said Esposito.
Not only are states across the nation continuing to move away from deregulation in the retail markets but FERC also has begun to institute a policy that threatens the development of a competitive wholesale market, he said.
State and federal regulators and legislators have hammered power suppliers for causing higher prices despite substantial fundamental evidence to the contrary. FERC recently has threatened suppliers with allowing the potential for refunds to remain constantly over their heads in the future [Docket EL01-118-000]. Despite the chairman’s claim of favoring competitive markets, his recent market monitoring activities and policy changes will force investment in power generation to go away, potentially resulting in the collapse of the competitive power industry, said Esposito.
“Today the market monitors go out and find a way to punish production. I submit that this is the United States of America and we should reward production, not punish it.” Esposito said market monitors need to look at the whole market, not just the production side. They should be watching to make sure the grid operators are following their rules, which in many cases are not being followed.
“Aren’t we already going back to cost-of-service regulation if price caps are returning under the name of ‘mitigation’ or the half dozen other names? The push toward re-regulation has been supported by allegations that generators have been withholding capacity and conspiring to drive up prices. “But we don’t really have any evidence of that,” he said.
There has been $100 billion spent on new power generation in the last three years. “Is that withholding? I don’t think so,” said Esposito. “Do people build these plants not to run them? That’s doubtful.” Esposito said despite the charges that California generators withheld capacity to drive up prices last year, the utilization of Dynegy’s Los Angeles power plants more than doubled since they were purchased in 1998. Utilization of its San Diego power plants grew last year to five an a half times what it was under San Diego Gas & Electric’s ownership. Withholding didn’t cause the price spikes, low hydropower supplies did, he said.
The so called “$100 million day” in the New York power market on June 26, 2000 wasn’t created by the generators withholding capacity. Transmission capacity constraints between PJM and New York and ISO New England and New York were to blame, he said. While prices were $126/MWh in New England and $54 in PJM, they were more than $1,000/MWh on the New York grid.
“What’s the real problem here?” Price caps, refund requirements and capacity constraints are the problem, according to Esposito. In spite of the clear fundamental causes of high prices, regulators continue to point fingers at suppliers, which in turn fuels the backlash against competition.
“Two weeks ago several orders came out of [FERC] proposing essentially to cap prices nationwide. What does that tell us? We are not going to allow the recovery of capital costs on the most expensive [generation] unit. What other industry would run this way? I don’t know of any others,” said Dynegy’s Esposito.
The Federal Energy Regulatory Commission on Nov. 20 issued an order in which it expressed concern about the potential for generators with market-based rate authorization to exercise market power or engage in anti-competitive behavior, and affirmed its commitment to ensure that rates are just and reasonable (see Power Market Today, Nov. 21). FERC proposed to take steps to minimize the potential for market power abuse.
The order provides examples of prohibited practices, including physical and economic withholding of supplies. The order also established a refund effective date, under Section 206 of the Federal Power Act, 60 days from the date on which the order is published in the Federal Register. Should a [generator] engage in a prohibited behavior, its rates will be subject to increased Commission scrutiny, potential refunds and restrictions on, or termination of, its market-based rate authority.
“I think we really have to step back and say ‘is this what we really want to do.’ Do we want to put refund obligations or potential refund obligations out there for $100 billion in commerce? I don’t think so,” he said. “Is the investor in merchant generation any less deserving to make a return on capital than someone who owns utility transmission? What about utility stranded cost recovery? Any other legitimate investment in a capitalist economy has the right to recover more than their incremental cost.
“What’s going to be the effect of this if we go down this path to re-regulation? We have about six billion MWh traded in the wholesale markets and that has created incredible liquidity for people to go out and get power at a moments notice. It adds transparency to pricing and all the other stuff that we talk about needing to have a good market. That’s going to dry up. Who is going to want to be in that market with a refund obligation?
“We talked about withholding [generation capacity]. Ironically the withholding is going to be done [by the regulators]. The capacity to build the new plants to fix the problem is going to be withheld.”
FERC’s refund condition invites buyers to renege on their obligations by claiming an agreed-upon price that is more than the seller’s out of pocket costs, he added. These large regulatory risks will transcend narrow margins in wholesale trading, cutting market participants and market volatility, said Esposito.
Merchant generators already are feeling the effects of re-regulation and the Enron calamity only made it worse. Their stock prices have plummeted relative to the S&P 500 since June. The market capitalization of AES, Calpine, Mirant, NRG and Reliant together has gone from about $165 billion in June to $128 billion in the middle of August. “That’s almost a $40 billion drop. That’s a lot of power plants.”
Esposito pleaded with the audience of energy attorneys to educate FERC on these important issues in this time of crisis. “It’s up to us to get [the message across]. FERC is the roadblock. We have a responsibility as Americans to do the right thing.”
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