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Sides hinted at as Supreme Court hears DR case

Conservatives push on FERC side, liberals on EPSA

Rockville, MD (November 2, 2015) – The fate of federal jurisdiction of DR was argued before the Supreme Court as it took up the government's appeal of FERC v EPSA. Some of the more conservative members asked Solicitor General Donald Verrilli tough questions, while the more liberal appointees appeared to push back on the arguments of EPSA and others represented by lawyer Paul Clement.

Clement is a former US solicitor general and has argued over 75 cases before the Supreme Court, according to the website of law firm Bancroft PLLC.

One thing both sides of the argument agreed on was that actions in wholesale markets impact retail markets and vice versa. "If there were a student in Economics I, it seems to me that he would conclude and his professor would conclude that wholesale affects retail, retail affects wholesale – they're interlinked, which means you win the case, except that the statute makes a distinction," Justice Anthony Kennedy told Verrilli according to an official transcript. [EDITOR'S NOTE:We attended the hearing where recording was prohibited, and we found the transcript to be a faithful representation of the event, so we used it for this report.]

"We have to make a distinction," Kennedy said. "Can you tell us what the distinction is that marks the end of federal power and the beginning of local power?"

Verrilli pointed to a case where FERC let Mississippi Power recover the rates from a nuclear power investment at wholesale, even though state regulators found that imprudent. The Supreme Court sided with FERC in that case, which was a very direct effect on state regulation – a much bigger one than is at issue with DR, Verrilli said.

Justice Antonin Scalia argued the "very direct effect" on rates was a fuzzy line. "Yes, FERC has the power to regulate wholesale rates, but – but, the argument is not through fiddling around with retail rates, which is what is asserted is happening here," Scalia said.

States still set the retail rates for customers who take part in wholesale markets as DR, Verrilli said.

"If I go out and buy a Ferrari for $100,000, everybody thinks that price of the Ferrari is $100,000," he added. "Nobody thinks that the price of the Ferrari is $107,000 because I'm foregoing the $7,000 tax credit I could get if I bought an electric car."

All of the conduct FERC is regulating with Order 745 is in the wholesale market and its reason for passing the rule was to lower wholesale prices and help avoid blackouts, Verrilli said.

Chief Justice John Roberts argued that what FERC is doing is still based on direct price regulation of the retail rate and he brought his own analogy to the debate. "If FERC is basically standing outside McDonald's and saying, we'll give you $5 not to go in, and the price of the hamburger is $3, somebody goes up there and the price of the hamburger is actually, I think most economists would say, $8 because if they give up the $5, they've still got to pay the $3," Roberts said.

"And your answer is, there's no impact on what the states can do because they can still say, 'no, the price of the hamburger should be $2, or it should be $4.'"

Ultimately FERC is only setting the rules for wholesale markets, Verrilli said. It is inviting states into the system, but they can still opt out, he added.

If FERC actually has that power, Scalia said, then how can it strip itself of it by saying, 'we will not do this if the states do not want us to do it.'" He called that an acknowledgement by the commission that it was "mucking around in an area that's the state's area."

Scalia dissented in the case New York v FERC, which was an appeal of Order 888, on similar grounds, Verrilli noted. "But the court held that that was a legitimate exercise of FERC's authority to decide what just and reasonable practices were, to take that jurisdictional overlap into account," he added. "And that's all that FERC has done here."

FERC is taking state law as it finds it and it is not a "power grab" because the states ultimately make the decision, Verrilli said. FERC's rule is really an example of cooperative federalism.

While EPSA was the titular litigant in the case, Clement noted he was also representing load servers including APPA, EEI, NRECA and Old Dominion Electric Cooperative. Those entities have been doing DR since long before FERC got involved in the practice, he added.

Pushing against EPSA

FERC was trying to cut retail demand by paying customers in an otherwise wholesale market in an effort to change the effective price for retail sales, Clement said.

Justice Sonia Sotomayor pushed back on that contention, noting FERC said it was trying lower the wholesale price of power. "That's what's in anything I've seen written," she added. "You've re-characterized it."

FERC was inviting generally large retail customers into the wholesale market to cut their demand in an effort to lower overall costs, Clement argued.

Wholesale and retail are highly intertwined, Justice Stephen Breyer said, but FERC was trying to avoid having to build more expensive peaking pants by using cheaper DR. "We are interested in how to satisfy peak wholesale demand and we have worked out a way to do it cheaper," Breyer said.

Wholesale, retail intertwined

"Of course it affects retail prices. So does everything we do in respect to wholesale prices." Breyer echoed arguments from the solicitor general and from Carter Philips who represented DR firms and their customers, saying he did not see any specific law that bans FERC from doing that.

The reason FERC crosses into territory reserved for state regulators is that it is targeting retail customers by changing the effective price they pay, Clement said. Regulators in MISO's territory asked FERC to not set full LMP compensation for DR because that was too high and it would discourage customers from taking part in the programs they already ran.

FERC's response to that was to let them opt out, but Clement noted that was rare since the commission has not done that in any other area of its jurisdiction.

"In every other context where they actually have jurisdiction – wholesale rates, transmission – not only would they not allow state opt-outs, but they would say it's going to lead to discrimination in a way that would be unjust and unreasonable," Clement argued.

What can FERC do?

Justice Elena Kagan asked Clement whether, in his view, FERC could do anything with DR.

The commission should be able to do true "wholesale" DR, he replied – making sure the programs load servers run are dealt with in the markets, likely by cutting the amount of capacity they have buy. "I do think, though, that the premise of the other side's argument is that the sky will fall if you don't have this price type of retail-customer-on-wholesale-market demand response," Clement said.

"And there, I think it's worth taking a look at the Southern Company's brief because they operate in a part of the country that doesn't haven an RTO or an ISO." In the brief, Southern noted it has higher levels of DR penetration than many regions with ISO/RTOs (UMT, Sept-11).

LSEs need incentives

Verrilli got a chance to make more arguments at the end of the session and he took on the claim that load-serving entities (LSEs) would seamlessly fill in the gap. FERC addressed that issue, Verrilli said, and DR effectively cannibalizes load servers' profits.

"They will do it under commands from state regulatory agencies to do it, but they'll do it grudgingly," Verrelli said. "And what FERC said is, you want people to come in who have a real profit motive to do it and that'll incent the LSEs to get in there and try to get a piece of the action rather than letting it go to somebody else."

This story was originally published in Utility Markets Today (http://ow.ly/U9elJ) on October 15, 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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