FERC Orders Retail Customers in PJM to Pay $3 Billion More for Capacity

April 11, 2011
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FERC yesterday rushed to adopt tariff changes regarding the PJM Reliability Pricing Model administrative capacity mechanism which are solely designed to raise the capacity prices paid by end use customers by up to $3 billion, in accepting revisions related to the Minimum Offer Price Rule (MOPR).

The changes (Docket EL11-20) essentially prohibit new generation constructed pursuant to New Jersey legislation (and potential Maryland regulation) from offering as a price taker in the auction. Had such New Jersey and potential Maryland capacity been built, PJM retail customers would have saved $3 billion in capacity costs, according to the Independent Market Monitor.

Instead, FERC hastily eliminated one of the key compromises of the RPM settlement, which had previously allowed capacity suppliers, who were not net short on capacity, to offer as price takers. Despite the radical elimination of this provision, the entirety of the RPM construct was not examined at FERC, as FERC unsurprisingly propped up capacity prices for generators while continually ignoring or deferring reforms sought to RPM by load.

"The MOPR does not punish load, but maintains a role for private investment so that investment risk will not be shifted to captive customers over time," FERC said. The sudden concern with the interests of "captive customers" rings hollow, given FERC's unwillingness to protect such customers when it comes to: 1) affiliate relations and rules (blindly declaring any customer in a vertically disintegrated retail market not to be captive even if no real choice exists); 2) transmission construction, and open access on such transmission, pursued by incumbent utilities with large POLR obligations as a means of supply, and 3) FERC's record of approving essentially every merger (most of which impact captive customers) to come before it.

FERC further said that its actions were necessary to mitigate "buyer market power." The idea that load -- in a mandatory auction where load has no control on the amount of capacity purchased and where demand is set by the drawings of some bureaucrats (the variable resource requirement curves) -- has market power is laughable.

Along with eliminating the net short exemption to the Minimum Offer Price, FERC also eliminated the exemption for resources built pursuant to state policy goals, further thrusting itself upon states' right to determine their resource mix and adequacy.

Additionally, FERC accepted revisions to the impact screen, which had previously only triggered the Minimum Offer Price Rule if an offer would decrease the market clearing price by a significant amount: either by $25/MW-day or by 20 to 30 percent, depending on the size of the zone.

FERC said that resources whose costs truly are below the Minimum Offer Price would not be mitigated; however, such a determination will be dependent on the IMM, PJM, or ultimately FERC. In other words, the bureaucrats, and not market interactions, will determine the costs of these new resources.

With generators howling that allowing bids as price takers is contrary to the RPM "market," it is important to remember that the Minimum Offer Price Rule is not somehow set through competitive interactions, but is simply a number based on Net Cost of New Entry (CONE), which is nothing more than a guess of the costs of a plant put forth by some bureaucrats -- not market outcomes. Under FERC's order, if a supplier bids below 90% of this non-market-based Minimum Offer Price -- even if the resource's costs are legitimately below Net CONE (which, under a competitive market, is the goal -- to reduce costs through new innovation in construction and design), the resource would automatically be subject to mitigation and would have the burden to prove such mitigation is not required.

Indeed, LS Power presented evidence that some of the new entry in recent auctions would not have cleared had the now-accepted 90 percent of Net CONE conduct screen been in place. Nevertheless, FERC did not find this argument "persuasive," because, "the cost justification process ... allows for resources with costs below the reference value to receive an exemption from MOPR." In other words, innovators in the competitive market will have to prove to FERC that their costs are "justifiably" lower than Net CONE in order to bid at their desired levels.

Given FERC's protection of "just and reasonable" (i.e. sufficiently high) capacity prices, it is not hard to imagine investors in innovative technologies eschewing the PJM footprint, due to the risk of their offer not clearing due to mitigation, in favor of other areas in which to invest and build new generation. RPM already has a poor track record of attracting investors in generation -- despite billions in supplemental capacity payments -- and by now actively discouraging innovation, FERC's order only serves to deter new investors, while ensuring incumbent, fully depreciated generation continues to enjoy capacity prices above $200/MW-day.

Regarding other parts of PJM's proposal, FERC will add wind and solar generation to the list of resources permitted to offer at $0 into RPM, essentially exempting them from the Minimum Offer Price Rule.

FERC also accepted PJM's proposal to eliminate the ability of upgrades and additions to existing capacity resources to bid at $0.

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