Transmission: The Next Unintended Consequence
by Roger Feldman -- Bingham, Dana L.L.P.
Federal regulation of the electric power industry in the past quarter-century might be called "The Law of Unintended Consequences." PURPA brought forth a little deregulation and a lot of PURPA machines at giddy, avoided-cost prices. Deregulation spawned a trading industry that sometimes preyed upon the flaws implicit in an overall electric system where market power was present.
With SMD, we have arrived at an effort to fix what is broke in deregulation by overturning market abuses through intense Federal re-regulation. A FERC White Paper is in the offing. The issuance of the "Proposed Pricing Policy for Efficient Operation and Expansion of Transmission Grid" (P2 03-1-000) marks a much more focused effort to use rate incentives to cause market players to join RTOs and independent transmission companies (ITCs) within RTOs.
A carrot instead of the stick, Order 2000 originally represented a new milestone event in terms of offering a Federal incentive in exchange for a desired private action. (The last really was affording market-based rates for new facilities whose owners had nominally ceded open access to their grids.) It also may serve to deal with the greatest substantive deficiency in the current power system: the insufficiency of new generation and the unsuitability of the configuration of the national power grid to the new patterns of energy flows contemplated by deregulation.
Perhaps the Pricing Policy also should be acknowledged as a telling acknowledgment by FERC that if deregulation/SMD is now to be perceived as a public policy that yields public benefits, it must rely on something more than economic theory: "While significant benefits from competition are expected to result from RTOs and ITCs, these benefits will be shared among end-use customers and generators, among others. To assure that transmission owners receive benefits from RTO formation, we believe that it is reasonable to allow an adjustment to be applied to the rates of transmission owners participating in an RTO, or in an ITC within an RTO… (as well as) certain new transmission facilities that will be under operational control of RTOs… (or otherwise expand) new transmission facilities that will be under operational control of RTOs."
The incentives briefly may be summarized as follows:
These ROE incentives are not in lieu of innovative rate mechanisms that hold utilities harmless. (It isn’t every day that an investor can pick up 300 basis points on its ROE.)
The Proposed Pricing Policy represents a significant movement away from the earlier Order No. 2000 formulation that called for a case-by-case review and approval of each specific proposed innovative pricing proposal. To date, transco proposals under the Order have struggled with the burden of "one off" justification.
Market participants with even passive ITC ownership interests cannot avail themselves of the right to rate incentives.
The Proposed Pricing Policy is a paean to the potential of ITCs, because of their for-profit nature, to bring about improved physical asset creation and greater market competition. Where will it lead?
While some analysts have expressed skepticism as to whether it will lead to much of anywhere until the SMD and operational role of RTOs is settled, there already has begun to be motion in the market:
It is reasonable to foresee further momentum to the trend as smaller utilities decide that it makes more sense to buy access to transmission, rather than to maintain their own transmission systems.
Larger utilities may either directly or through third party transactions seek to grow as well. There are many positive possible consequences to the transmission system of this development.
But there also is one potential unintended consequence to which FERC might give some forethought. Transmission ownership already is more concentrated than generation. It is likely to grow more so as the utility merger boom proceeds, and as the ITCs expand and themselves cede management control to a few large operating firms working with the ITCs and the RTOs, cf. National Grid for Grid America. As it retips utility asset ownership balances once more through its new proposals, FERC should consider whether market power consolidation is desirable, harmless, or a potential threat with real market power consequences.
The lesson of "Jurassic Park" was the inability of science to predict all consequences – even of carefully controlled scientific experiments. Perhaps in the power deregulation world, that was the lesson of California and Enron. Transmission is the "next big thing" – particularly financial transactions involving existing systems during the next few years. Perhaps early attention to the unintended consequences of the new industry structure being promoted would be a valuable undertaking for the Commission.
ROGER FELDMAN, Co-Chair of Andrews Kurth LLP Climate Change and Carbon Markets Group has practiced law related to the finance of environmental and energy projects and companies for 40 years. In particular, he has analyzed and executed a wide variety and substantial value of project financings. He chairs the American Bar Association’s Committee on Carbon Trading and Finance, serves on the Board of the American Council for Renewable Energy, and has been a senior official in the Federal Energy Administration. He is a graduate of Brown University, Yale Law School and Harvard Business School.