Academic journal article
By Cooke, J. Alexander
Yale Journal on Regulation , Vol. 20, No. 2
Although electricity markets' march toward competition has not been a complete success, the Federal Energy Regulatory Commission ("FERC") remains committed to easing wholesale electricity markets toward that goal Indeed, FERC's Standard Market Design Notice of Proposed Rulemaking makes some headway: Locational marginal pricing, for example, will force load to internalize the congestion costs of its consumption and will signal the need for new transmission and generation. FERC, however, has embraced price caps in spot markets and, to make the markets work despite the price caps, has proposed a Resource Adequacy Requirement ("RAR") to ensure that adequate generation exists to deliver electricity to load. If RAR achieves FERC's objective, it will stunt the growth of demand response, a necessary component of stable competition. Further, RAR will permit the perpetuation of the current price-cap regime, which distorts price signals. The claim that RAR together with price caps are only temporary measures to help put wholesale markets on surer footing seems misguided; until price caps are raised significantly above present levels, load-serving entities and load itself lack the incentive to invest in technologies necessary to make demand response a reality. If this were not enough to counsel against promulgating the RAR, the proposal is internally contradictory and, according to the relevant statutes, lies outside FERC's jurisdiction to implement or enforce. FERC should discard the RAR and current price caps and instead adopt a reformist program that will better allow scarcity spot prices to ensure generation adequacy.
Deregulation has hit upon hard times in the electricity markets. The public mood has reversed course, shifting from exuberance over the increased efficiencies deregulation promised to depression induced by the California meltdown.1 The Federal Energy Regulatory Commission ("FERC"), though, is still attempting to nudge electricity markets toward competition. It recently released a Notice of Proposed Rulemaking ("NOPR")2 outlining a Standard Market Design ("SMD") to which, if it is eventually promulgated as a rule, electricity markets throughout the country must conform.3 FERC intends to learn from the errors of deregulation's past instead of shrinking from the task altogether.
In California, one error among others4 was a shortage of generation capacity, a factor that arguably contributed to the breakdown in California's electricity market.5 While generation shortages have given way to a generation glut in the aggregate,6 there is reason to question the competitive market's ability to incentivize adequate generation resources on its own. First, competitive electricity markets are still in their infancy, and the optimism that led merchant generators to construct excessive generation capacity in response to projected shortages may give way to pessimism and too little construction of generation capacity the next time spot prices rise. In fact, as the economy has sputtered and load7 growth slowed,8 merchant generators have already halted construction that was still in the planning stage; although a generation surplus may exist for several years in some regions, it will not be as large, widespread, or prolonged as once thought.9
Second, the current surplus in generation capacity cannot be wholly attributed to competitive spot markets for wholesale electricity. Independent System Operators ("ISOs")10 in the Northeast run capacity markets (more specifically, auctions for Installed Capacity)11 that supplement the spot prices generators receive with capacity payments intended to cover generators' fixed costs that go unrecovered in the spot market, provided the generators' capacity investments are efficient. In Installed Capacity ("ICAP") markets, Load-Serving Entities ("LSEs") are required to contract with enough generation capacity to cover the LSEs' load plus an additional reserve margin (commonly set at eighteen percent of load for large utilities)12 in advance of delivery (often a month ahead). …