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Jackpot! FERC Grants Windfall to Generators By Allowing Offers In Excess Of $1,000/MWh to Set Clearing Price
In yet another order which undermines the notion of competitive markets, FERC has granted PJM a waiver, on a prospective basis, to allow offers in excess of $1,000/MWh to set the locational marginal price.
As has become typical for FERC orders which only increasingly transfer risks from generators back onto customers despite the alleged "competitive" nature of the wholesale market, FERC's order is devoid of any reasoned or substantive analysis.
"Whether generators have entered into fuel delivery contracts or made other arrangements to hedge against the possibility of spikes in fuel prices does not change the fact that the generators' marginal costs are not being reflected in transparent market prices," FERC said, despite the fact that there was absolutely no evidence that generators' marginal costs exceed the current price caps, but for specific decisions by certain generators to gamble and be exposed to volatile fuel prices.
Whether the $1,000/MWh price cap remains appropriate is another matter (and given the billions paid in capacity subsidies we argue it is a requisite tradeoff which remains necessary), but what is wholly inappropriate is changing the rules mid-game just because some generators lost on their gambles, and now face marginal costs in excess of $1,000/MWh.
Generators with a capacity supply obligation committed to offer supply in the day-ahead market in exchange for a substantial capacity subsidy, and to the extent their marginal costs now exceed $1,000/MWh -- a long-standing and well-understood constraint of the market -- it's not load's fault, and load should not be compelled to pay for generators' mismanagement. Moreover, even if payments in excess of $1,000/MWh are needed in the name of "reliability", granting such excessive compensation to all generators, not just specific units with verifiable costs exceeding the cap, creates a windfall which does nothing but incentivize generators to inflate their verifiable costs for their last-dispatched unit.
FERC wholly failed to address the glaring problem with granting PJM's requested waiver -- it rewards generators for inefficient management. Instead of driving generators to lower their costs -- which true markets are designed to do -- FERC's order incentivizes generators with multiple assets to increase the verifiable marginal cost of their last-dispatched unit, to increase the LMP paid to all of the generators' units. While, under normal grid conditions, this strategy is not beneficial because the generator runs the risk of the expensive unit not being dispatched, under the record cold temperatures -- and especially with PJM forced outages reaching 40% of installed capacity during times of grid stress -- generators have little fear that any units with abnormally high, but still verifiable, costs will not be dispatched, because recent conditions have shown that every megawatt of capacity will be needed to meet demand. This essentially gives generators a blank check to raise market clearing prices as high as possible -- even if generators could have engaged in behavior to lower their marginal costs for their last-dispatched unit.
"[A]lthough granting waiver may result in temporary increases of costs to load, we find that it is appropriate to allow generators to reflect their actual energy production costs, even if above $1,000/MWh, in market prices," FERC said.
"The waiver allows a bid above $1,000/MWh only when the supplier can document that it reflects its marginal cost. Market clearing prices derived from PJM's security constrained bid-based economic dispatch, where all bids have been appropriately mitigated for market power, yield competitive prices that all sellers should receive. Generators with marginal costs greater than $1,000/MWh and that clear the market are, in fact, economic -- not uneconomic, as some parties allege," FERC spuriously claims.
FERC never addresses the specific and real possibility, raised by multiple parties in comments, that just because a generator has verifiable marginal costs exceeding $1,000/MWh, that such generator had no other choice but to be exposed to such marginal costs. In other words, as noted above, generators no longer have, for their last-dispatched unit, any incentive to lower costs, because they will be better off if that last-dispatched unit sets an absurdly high market-clearing price, based on verifiable-but-avoidable marginal costs, versus if the generator had sought to minimize the marginal costs of the unit.
FERC feebly rebuts the risk of an unwarranted windfall by stating, "Granting waiver [sic] also does not permit gaming, contrary to the argument by WGES, because it is based on documented costs subject to review by the PJM IMM and determined in accordance with the Cost Development Guidelines in Manual 15."
According to Manual 15, the method of calculation of the generator's fuel cost may include the use of actual fuel prices paid, essentially meaning that as long as the generator can show that its fuel price justified the absurdly high marginal cost bid, the offer now has to be accepted and must set the clearing price (if the unit is needed for dispatch). Never mind that the actual fuel price may have intentionally been higher than what the generator could have paid under normal market cost-minimization behavior, such as reducing exposure to spot market price spikes, or that there were numerous lower-cost alternatives for fuel that the generator could have purchased but elected not to -- so long as the generator can produce a bill for the fuel paid, it seems that this will be considered an acceptable and "documented" verifiable cost.
FERC's order also eviscerates any notion of the commitment made in the capacity market. Generators being paid billions of dollars in capacity subsidies, in exchange for being required to offer in the day-ahead market with its long-standing price cap, have been given a bail-out of their obligation. FERC has denied customers the benefit of their bargain that customers were compelled to enter into three years ago.
FERC's order allows offers in excess of $1,000/MWh to set the LMP through March 31, 2014
ER14-1145
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February 12, 2014
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Reporting by Paul Ring • ring@energychoicematters.com
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