FERC's New Regulatory Agenda: Federal Officials Increasingly Are Turning to Command-and-Control Policies for the Nation's Power Grid. (Energy)

By Lenard, Thomas M. | Regulation, Fall 2002 | Go to article overview

FERC's New Regulatory Agenda: Federal Officials Increasingly Are Turning to Command-and-Control Policies for the Nation's Power Grid. (Energy)


Lenard, Thomas M., Regulation


DURING THE PAST YEAR AND A HALF, the Federal Energy Regulatory Commission (FERC) has embarked on a significantly more regulatory course than it was on before. The new approach is most evident with respect to transmission, where FERC's leadership is moving aggressively to divide the nation's grid into a small number of quasi-governmental entities called Regional Transmission Organizations (RTOs), and to prescribe in detail how those RTOs should operate. The prospect of greater regulation is not restricted to the transmission sector; FERC is taking a much more hands-on approach to the wholesale power market. That approach includes active "market monitoring" that will place generators under the continuing threat of price caps, mandated refunds, and loss of market-based rate authority.

FERC's new regulatory activism is occurring without sufficient analysis of whether the approach will improve the functioning of markets or be beneficial for consumers. Despite the fallout from the California and Enron episodes, the arguments in favor of electricity competition are as strong as ever. The question, however, is whether competition can be achieved by substituting a new regulatory regime for the old one -- as FERC is in the process of doing -- or whether competition requires reducing the role of government in the marketplace.

California and Enron The expansion of regulation at the federal level is partly a reaction to the California electricity crisis and the Enron collapse, both of which have diminished policymakers' enthusiasm for deregulation. Unfortunately, some have drawn the wrong lessons and incorrectly concluded that California's problems resulted from too much deregulation and manipulation of the market by Enron and other power suppliers.

While the California disaster had multiple causes (see "Special Report: The California Crisis," Fall 2001), the single most important cause was failing to deregulate at the retail level and thus to allow the demand side of the market to work. That was the principal factor in the unraveling of the wholesale market. The promise to California consumers that prices would drop immediately on the introduction of competition was not realized because competition was never really introduced and prices at the consumer level were not allowed to reflect supply and demand. Most importantly, when those forces changed, the mechanisms were not in place to allow the market to respond. If competitive markets had been in place -- i.e., if more deregulation had taken place -- California would have avoided the rolling blackouts that it experienced and its prices would have been lower and less volatile.

THE ELECTRICITY DEREGULATION MODEL

Until recently, electricity was provided by vertically integrated, regulated utilities responsible for all major functions--generation, transmission, distribution, and retailing. The deregulation model toward which the industry has been moving reflects the view that generation and energy services can be competitive, but the "wires" segments of the industry -- transmission and distribution -- retain natural monopoly attributes and therefore need to remain subject to regulation. The model consists of the following elements:

* A largely deregulated wholesale generation sector.

* An interstate transmission sector, which remains regulated at the federal level.

* Local distribution systems, which continue to be regulated by the states.

* A competitive sector for retail power and energy services.

Given the historical division of regulatory responsibilities, the first two elements are in the domain of the federal government, while the last two are in the domain of the states. The recent experience in California illustrates the interdependence of the wholesale and retail markets and the risks inherent in pursuing deregulation of those markets along separate tracks.

Regulation in theory The overall success of deregulation depends, to a large extent, on the treatment of transmission. …

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