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Economists urge Supreme Court to end LMP for DR

Rockville, MD (September 28, 2015) – An amicus brief filedthis month by 19 leading energy economists urged the Supreme Court to end Order 745's full LMP compensation for DR. The brief did not touch on the other main question in EPSA v FERC – whether the commission has regulatory authority over DR.

The economists included DR expert Robert Borlick, PJM Market Monitor Joseph Bowring, University of California Davis Professor James Bushnell, consultant and former PUC of Ohio Commissioner Paul Centolella, Brattle Group Principal Ahmad Faruqui, Harvard University Professor William Hogan, Potomac Economics President David Patton, FTI Consulting Managing Director Susan Pope, and consultant Roy Shanker.

AEP, the IPPs of New York and the New England Power Generators Assn paid the legal costs to file the brief.

"FERC's pricing methodology overcompensates reduced consumption by compensating demand response as if parties that reduce consumption sell electricity they generate, or resell into the market energy they purchased," the brief said. "But demand-responders do neither.

"They decline to buy electricity at a particular rate. They do not provide electricity they own to others," it added.

Paying DR providers as if they sell power creates excessive compensation for the activity to the point that it stops productive activity, even when that harms social welfare.

Generators have to pay to produce energy and traders have to buy energy before selling it at full LMP prices. But DR providers have to do neither, the brief said.

DR gets paid full LMP as if it was selling power into the market, even though providers do not own or buy power and supply it to the market.

Sometimes customers providing DR do turn on backup generators, but those are less efficient than central-station generation and under Order 745, they can be favored even when they cost more than prevailing LMPs, it added.

The economists argued FERC failed to offer an economically plausible rationale for rejecting their preferred energy-market compensation – LMP minus "g" – retail price of energy.

FERC relied on a net-benefits test so that full LMP payments only kicked in when they would save more than they cost, effectively limiting energy-market DR to the higher priced intervals. That test shows FERC's rule was flawed because if LMP were the right price, it would not need another test as a precondition for DR, the filing said.

"The test merely precludes demand-response payments unless those payments lower the total amount consumers pay for electricity," the brief said. "But artificially lowering prices can impede efficiency and deter necessary investment in new facilities."

The court and FERC previously recognized pricing has to look to the interest of the market as a whole, not just the consumer side of the ledger. FERC never justified its exclusive focus on lower short-term prices and pointedly ignored the harm to social welfare its pricing scheme imposes, the brief said.

Order 745 defies the basic economic principles that FERC set up organized power markets with, the brief said.

"FERC purports to promote efficiency, but instead undermines efficiency by creating obvious subsidies while denying that any subsidy exists," it added. "Regulators may sometimes depart from efficiency to pursue other legitimate goals.

"Here, however, FERC departed from efficiency while purporting to pursue it, without acknowledging the costs of that departure."

This story was originally published in Utility Markets Today (http://ow.ly/SLYOa) September 10, 2015 and has been slightly edited for this format. To read more articles like this one, sign up for a Free Trial to Utility Markets Today.

UTILITY MARKETS TODAY is published 245 times per year on business days by Modern Markets Intelligence Inc. UMT's mission is to deliver exclusive news chronicling ongoing efforts to build competitive wholesale and retail energy markets with in-depth analysis on why some fail and others succeed.

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