FTC Comment Before the Federal Energy Regulatory Commission Concerning Wholesale Competition in Regions with Organized Electric Markets

Before the
United States of America
Federal Energy Regulatory Commission
Wholesale Competition iu Regions)
With Organized Electric Markets 	)
Comment of the
Federal Trade Commission
September 13, 2007
I. Summary
Docket No. RM07-19-000
Docket No. AD07-7-000
The Federal Trade Commission ("FTC") appreciates the opportunity to comment
on proposals of the Federal Energy Regulatory Commission ("FERC") to enhance
consumer welfare and increase economic efficiency in electric power markets by
strengthening competition in regions with Regional Transmission Organizations
("RTOs") or Independent System Operators ("ISOS,,).1 The proposals are contained in an
Advance Notice of Public Rulemaking ("ANOPR"i that sets forth the most recent in a
series of regulatory reform proposals issued by FERC over the last dozen years.'
I RTOs and ISOs are the result of a form of "structural unbundling" pursuant to which the control of the
transmission system in a region has been transferred to an independent transmission operator in order to
eliminate a transmission owner's ability to discriminate against independent electric generating firms.
FERC has approved RTOs and ISOs in California, New England, New York, the Mid-Atlantic states, the
Midwest, and portions of the South Central states north and east of Texas. (Most of the grid in Texas also
operates like an RTO, although Texas utility regulators - rather than FERC - have jurisdiction over most of
the grid in Texas at the wholesale level, in addition to regulating retail activities.)
2 The ANOPR was published in the Federal Register on July 2, 2007 (72 Fed. Reg. 36275).
3 Some of the proposals have been specified in energy legislation, while others have been at FERC's
initiative. The major laws affecting FERC regulatory reform proposals include the Energy Policy Acts of
1992 and of 2005.
I

These proposals cover a number of subjects: the responsiveness of demand to
changes in wholesale electric power prices; the difficulties of arranging long-term power
supply contracts; concerns about the objectivity with which market monitors carry out
their duties; and alleged deficiencies in grid operators' responsiveness to customers in
organized power markets.
A major long-term objective of these proposals is to replace reliance on
traditional, cost-based rate regulation with reliance on vigorous competition to determine
prices in wholesale electric power markets. 	We encourage this development.
Technological improvements have made smaller electricity generators more cost-
efficient, and these smaller generators thus have become competitive sources of power
supply. Moreover, computerization has made electricity transmission more efficient.
Electricity can also be traded more easily in energy markets. These factors have
combined to increase competition in electricity generation overall. Many economists
now believe that electric power generation is not a natural monopoly, i.e., it is not a
market in which a larger competitor will always have a competitive advantage due to
economies of scale. 4
One of the greatest impediments to electric power market reform to date has been
retail price regulations that reduce or eliminate the incentive of retail customers to curtail
consumption when wholesale prices increase. 	States typically set a single retail price for
each class of electricity customer of a given utility. This price reflects historic costs
averaged over an extended period and does not vary with the wholesale price in real time.
Because the retail price does not increase when the wholesale price increases in real time,
4 Sally Hunt, Making Competition Work in Electricity, Ch. 3 (2002).
2

an increase in the wholesale price does not lead to a reduction in the quantity of
electricity demanded. The quantity demanded at wholesale is equal to the quantity
demanded at retail and is not influenced by the wholesale price in real time.' The
resulting artificially low elasticity of wholesale demand with respect to wholesale prices
makes electricity markets susceptible to attempts by electric power generators to raise
prices above the competitive level, to the detriment of consumers.
"Demand response" (or "DR") refers to a reduction in consumption of electricity
in response to an increase in price. FERC's ANOPR focuses on the problem oflimited
DR and on other competitive concerns. 	Such concerns include rules or policies that can
impede consumers' access to preferred suppliers of electricity or can block entry by
independent electricity generators. Either type of impediment can make it profitable for
incumbent generators to maintain prices above the competitive level. FERC points to:
• 	Regulatory policies that add to the transaction costs associated with long-term
power supply contracts between customers and the generators that otherwise
would be the lowest-priced suppliers.
• 	Organizational design features of some RTOs and ISOs - such as their
management's direct control of the market monitor - that can increase the
perceived risk of exclusionary conduct because they undermine the independence
of market monitors.
• 	Deficiencies in the quality of service provided by RTOs and ISOs that frustrate
customers' ability to minimize their costs of searching for and accessing preferred
suppliers (as reported by some large industrial customers in states that allow retail
customers to pick their own suppliers).
5 Consumption by retail customers (plus transmission and distribution losses) must be closely and promptly
matched by generation at the wholesale level in electricity systems. Failure to do so results in brownouts or
blackouts. If a generator reduces output, the shortfall cannot be filled by expecting customers to reduce
consumption or by drawing down inventories (which are impractical on a large scale in the electric power
industry). Instead, the shortfall must be made up by buying power from more expensive suppliers, which
will cause the wholesale market-clearing price to rise above the competitive level (although this wholesale
price increase will not affect the prices that most retail customers pay until state regulators implement retail
price increases through "rate cases").
3

Although we commend FERC for its proposals to remove regulatory obstacles to
vigorous competition and efficient resource allocation in electricity markets and for the
specific changes proposed in the ANOPR, we also encourage FERC to improve the
proposals as discussed below. Weare concerned that the proposals do not fully
recognize the crucial role oftimely, accurate price signals and of incentives to minimize
costs and improve the quality of service in electric power markets. We believe that a
focus on the removal of regulatory obstacles to efficient real-time price signals and on the
creation of performance incentives for market participants can lead to improvements in
the proposals and in subsequent market performance.
II. 	Interest of the Federal Trade Commission
The FTC is an independent agency of the federal government responsible for
maintaining competition and safeguarding the interests of consumers through
enforcement ofthe antitrust and consumer protection laws and through competition
policy research and advocacy. In the electric power industry, the FTC often analyzes
regulatory or legislative proposals that may affect competition or the efficiency of
resource allocation, and reviews proposed mergers that involve electric and gas utility
companies. In the course of this work, as well as in antitrust and consumer protection
research, investigation, and litigation, the FTC applies established legal and economic
principles and recent developments in economic theory and empirical analysis to
competition issues.
The energy sector, including electric power, has been an important focus ofthe
FTC's antitrust enforcement and competition advocacy." The FTC's competition
6 See, e.g., Deborah Platt Majoras, Chairman, Federal Trade Commission, Opening Remarks at the FTC
Conference on "Energy Markets in the 21" Century: Competition Policy in Perspective" (Apr. 10,2007),
4

advocacy program has produced two staff reports on electric power industry restructuring
issues at the wholesale and retail levels, 7 and FTC staff also contributed to the work of
the Electric Energy Market Competition Task Force, which issued a Report to Congress
on Competition in Wholesale and Retail Markets for Electric Energy." The Commission
also has held public conferences on energy topics." The FTC and its staff have filed
numerous competition advocacy comments with FERC and the states concerning
electricity restructuring initiatives. 10 The FTC staff also participates in preparing United
States Government filings before international competition organizations regarding
energy policy matters. l l
available at http://www.ftc.f!.ov/speeches!majoras!07041 Oenergyconferenceremarks.pdt: FTC mergercases
involving electric power markets have included DTE Energy/MCN Energy (2001) (consent order),
available at http://\\Ww.ftc.gov/os/200liOS/dtemcndo.pdf; and Pacifi Corp/Peabody Holding (1998)
(consent agreement), available at http://www.ftc.gov/osil998/02/9710091.agr.htm. (The FTC
subsequently withdrew the PacifiCorp settlement when the seller accepted an alternative acquisition offer
that did not pose a threat to cornpetition.)
7 FTC Staff Report, Competition and Consumer Protection Perspectives on Electric Power Regulatory
Reform: Focus on Retail Competition (Sept. 2001), available at
http;!Lwww.ftc.gQyireportsielecielectricityreport.pdf; FTC Staff Report, Competition and Consumer
Protection Perspectives on Electric Power Regulatory Reform (July 2000), available at
http://www.ftc.govibe/v000009.htm(compiling previous comments that the FTC staff provided to various
state and federal agencies).
8 That reportis available at http://\v\Vw.n~rc.Qov/legalimaj-ord-reQ!ted-sta!ene-pol-a c t/ e p ac t - fin a l - rpt p d f.
9 The most recent FTC conference on energy issues was Energy Markets in the 2 r Century: Competition
Policy in Perspective, held on April 10-12, 2007 (conference materials available at
http://www.ftc.gov/bcp/workshops!energvmarkets/index.shtm1). See also the FTC's public workshop on
Market Power and Consumer Protection Policies Issues Involved with Encouraging Competition in the
u.s. Electric Industry, held on September 13-14, 1999 (workshop materials available at
httpJ/www.l\c.gov!bcp/eiecworksiindex.shtm); and the Department of Justice and FTC Electricity
Workshop, held on April 23, 1996.
10 FTC competition advocacy filings after mid-I 994 are available in reverse chronological order at
http://www.ftc.gov!QP.Q/advocacy date.shtm. FTC competition advocacy efforts regarding the electric
power sector began in 1994 with a Comment of the Staff of the FTC Bureau of Economics to the South
Carolina Legislative Audit Council on the Statutes and Regulations Covering the South Carolina Public
Service Commission (Feb. 28, 1994).
II The FTC and the Department of Justice participate as United States delegates in a number of
international organizations, such as the Organization for Economic Cooperation and Development. As part
of this process, the FTC staff contributes to the United States' "country reports" on competition topics.
5

III. FERC Proposals on Demand Response and Pricing During Power Shortages
FERC's ANOPR proposes several steps intended to increase DR - i.e., to increase
the degree to which consumers reduce consumption when wholesale prices increase'? -
with an emphasis on periods in which reliability is at risk. Both of the FTC staff reports
on electricity restructuring cited in note 7, supra - as well as the recent report to
Congress by the Electric Energy Market Competition Task Force, supra note 8 -
emphasized the potential market power and other problems that can result from
regulations that impede DR. FERC's proposals to increase DR include a mechanism to
pay for DR at the wholesale level when DR performs the same functions as increased
generation. Like other approaches, however, DR proposals should be evaluated in terms
of their costs and benefits. DR is not an end in itself; rather, it is one potential avenue
toward enhancing the welfare of consumers. Consumers can be harmed rather than
See, e.g., United States Department of Jnstice and Federal Trade Commission, "Note by the US Department
of Justice and US Federal Trade Commission," OECD Roundtable on Energy Security and Competition
Policy (Feb. 21-22, 2007), available at
http;!!www.ftc.gov!os!2007;02!WD2007250iIGasUnited%20States.pdL When requested by the
Department of State, the FTC staff also contributes to comments by the United States on proposed
regulatory reforms in other nations.
12 State regulators, utilities, and researchers have gathered evidence about DR programs that is encouraging
with regard to both the potential quantity of DR and the likely effects of DR on wholesale prices. Some
DR approaches, however, entail significant costs that must be compared to DR's benefits in any evaluation
of the net effects of DR proposals. For example, real-time prices encourage consumers to reduce
consumption during peak demand periods and to invest in ways to increase DR, but real-time prices require
advanced meters that can be expensive. "Experiences in New York, Georgia, California, and other states
and pricing experiments have demonstrated that customers do take actions to adjust their consumption, and
are responsive to price (r.e. they have a nonzero price elasticity of demand). Georgia Power Company's
successful real-time pricing tariff option has demonstrated that industrial customers who receive real-time
prices based on an hour-ahead market are relatively price-responsive (price elasticities ranging from
approximately -0.2 at moderate price levels, to -0.28 at prices of $ IlkWh or more) given the short-time
period in which to act. Among day-ahead real-time pricing customers, price elasticities range from
approximately -0.04 when prices are at moderate levels to -0.13 when customers are exposed to higher
prices. A critical peak-pricing experiment in California in 2004 determined that small residential and
commercial customers are price responsive and will produce significant reductions. Participants reduced
load 13 percent on average, and as much as 27 percent, when price signals were coupled with automated
controls such as controllable thermostats." FERC Staff Report, Assessment of Demand Response and
Advanced Metering 13-14 (Aug. 2006), available at http;!!w\Vw.ferc.gov!1egal!staft~reJ1'Lrts!demand
reSpOnl\u"lf (footnotes omitted).
6

helped by a decision, for example, to provide excessive compensation for DR, or if DR
policies are implemented without regard to their costs.
A. 	Demand Response Proposals
FERC's ANOPR (72 Fed. Reg. at 36281-82) identifies and explains three benefits
of increased DR: reduced wholesale prices (accompanied by diminished wholesale price
volatility), which are "valued especially during peak [demand] periods;" a flatter "load
profile" (i. e., one with fewer and less pronounced demand spikes) that allows lower
system costs by increasing the proportion ofload supplied by lower-cost base-load
generators;':' and increased demand elasticity that makes it more difficult for a generator
to raise prices profitably above the competitive level.
The specific proposals in the ANOPR include the following.
• 	Require RTOs and ISOs (1) to allow demand resources to bid to supply certain
ancillary services in their markets (unless prohibited by state law) and (2) to
modify tariffs to let demand resources provide spinning and supplemental
reserves without being required to sell into the energy market.
• 	Modify RTO and ISO tariffs to eliminate certain charges for purchasing less
energy in real time than in the day-ahead market during a system emergency.
• 	Amend market rules to permit an entity that aggregates the demand responses of
individual retail consumers to bid the aggregate demand reduction directly into an
RTO or ISO energy market (unless prohibited by state law)."
• 	Modify market power mitigation rules so that pricing during a system emergency
can elicit more DR.
13 This makes it possible to supply electricity reliably with less generation and trausmission capacity.
14 Some observers are concerned that DR in the form of bidding into wholesale markets is not well suited to
low-volume (e.g., residential) customers, because bidding into a wholesale market can be a complex
undertaking involving high information and transaction costs for participants. The provision in the
ANOPR regarding participation by aggregators in wholesale markets is an effort to respond to this concern.
7

Although all of these proposals are likely to enhance DR, 15 they have two
shortcomings. First, they do not directly address the fundamental problem inhibiting DR:
retail customers usually do not receive efficient and timely price signals because most
retail prices do not track changes in wholesale prices. As discussed above, traditional
regulated retail rates underprice or subsidize consumption in peak demand periods and
overprice consumption in off-peak periods. As long as traditional retail price regulation
persists in subsidizing consumers for buying electric power in periods of high demand.!"
the electric power system will not be efficient and is likely to be less reliable than it could
be. 17 Further, improving the efficiency and timeliness of direct price siguals to retail
customers may be more effective than bidding into wholesale ancillary service markets in
drawing the attention of customers to DR incentives, as well as easier for customers to
understand, less costly to implement, and less subject to administrative errors. We
recommend that FERC urge state utility regulators to cease impeding retail DR. Greater
retail DR will increase DR at the wholesale level.
Second, the ANOPR does not directly recognize that increased DR can protect
customers from generator market power, and thus can reduce pressures for price
regulation, including price caps. Relaxation or removal of wholesale market price caps
15 Allowing customers to bid into wholesale (or wholesale aucillary service) markets and to get paid for
consuming (or promising to consume) less power, as FERC proposes, can serve as a means to bypass
states' traditional retail pricing regimes. It may be the best available approach to expanding DR if states
areunwilling to reform traditional retailpricing.
16 In fact, one could argue that the large cross-subsidies inherent in traditional retail price regulation result
in prices that do not satisfy the statutory requirement that they be "just and reasonable." Such subsidized
prices accentuate wholesale price volatility, undermine reliability, and increase the average costs of the
electric power system.
17 See, e.g., Hethie Parmesano, "Rate Design Is the No. I Energy Efficiency Tool," 20:6 Electricity J. 18
(July 2007); Sheldon Switzer and Jeffrey Trout, "The 'Optimal' Structure of the Deregulated Electric
Utility Industry," 20:6 Electricity J. 8 (July 2007).
8

also would give investors more efficient price signals and thus would improve investment
d .. 	18
ecisrons.
FERC also may wish to take account of three additional aspects of DR that have
ramifications for competition, as it considers the benefits and costs of policies to increase
DR. First, efficient incentives for DR (through the provision of more efficient prices
when customers offer DR) can cause customers to take advantage of the technological
advances in small generators by investing in onsite generation. An increase in self-
supply not only lowers existing prices by reducing the demand for power from the grid-
as FERC recognizes - but also increases the sensitivity of demand to changes in price,
which makes attempts to impose anticompetitive price increases less profitable and, thus,
less likely. And, in fact, customers with onsite generation capacity (for example,
industrial customers that have their own generators because electric reliability is essential
in their manufacturing processes) have been found to have higher elasticity of demand
because they can continue to consume electric power without purchasing any from the
grid if prices for power from the grid exceed the competitive level. I9
18 FERC has approved "capacity markets" in some RTOs and ISOs in an effort to compensate for a shortfall
in investment incentives that stems from wholesale price caps. (In capacity markets, fhe RTO or ISO
makes payments to owners of generators in the region, based on a generator's capacity and its record of
being a reliable supplier during peak demand periods. Capacity market payments augment fhe revenues
that generators receive when they sell electric power to wholesale or retail customers.) More timely and
accurate price signals for retail customers should alleviate the perceived need to augment investment
incentives and thus would have positive effects on the efficiency and organization of wholesale markets.
Ofher RTOs and ISOs are considering fhis approach but also are considering an "energy-markets-only"
approach to resource adeqnacy. The latter RTOs and ISOs generally recognize that higber wholesale price
caps - or the outright elimination of these caps - will be necessary under an energy-markets-only approach
to resource adequacy. Similar issues arise in ancillary service markets. See, e.g., Yann Rebours, Daniel
Kirschen, and Marc Trotignon, "Fundamental Issues in Markets for Ancillary Services," 20:6 Electricity J.
26 (July 2007).
19 "[Cjustomers . .. with onsite generators had, on average, arc elasticities about 40% higher than
customers that did not." Charles Goldman, Nicole Hopper, Ranjit Bharvirkar, Bernie Neenan, and Peter
Cappers, "Estimating Demand Response Market Potential among Large Conunercial and Industrial
Customers: A Scoping Study," Lawrence Berkeley National Laboratory Report LBNL 61498, at xiii (Jan.
2007), available at http://ectd.lbl.gov/ea!EMS!rW",,'11s!61498.pdf
9

Second, the removal of regulatory barriers to retail customers' ability to bid to
reduce their own consumption and thereby effectively enter wholesale "ancillary service"
markets - i.e., markets for services such as reactive power, voltage control, loss
compensation, system protection, and other services necessary to support transmission
while maintaining reliable operations - could make it more difficult for traditional
suppliers to exercise market power in ancillary service markets. If coordinated
interaction is a concern in such markets, allowing entry by customers offering DR will
increase the number and diversity of actual or potential market participants. (See Section
2.1 ofthe Horizontal Merger Guidelines promulgated by the U.S. Department of Justice
and the Federal Trade Commission (issued Apr. 2, 1992; Section 4 revised Apr. 8, 1997),
which describes the effects of easier entry and supplier diversity on the likelihood and
effectiveness of coordinated interaction among sellers.) Ancillary service markets appear
to be more susceptible than wholesale electric energy spot markets to an exercise of
market power. 20
Third, efficient financial rewards for DR not only can lead to immediate
reductions in consumption, but also can encourage retail customers to invest in ways to
increase their future DR. This means that the price elasticity of demand will increase
over time, making it progressively more difficult for suppliers to profit from raising
prices above the competitive level. Empirical evaluations of price elasticity often find
that the long-term price elasticity of demand exceeds the short-term price elasticity of
20 Concerns that ancillary service markets are prone to unilateral market power or coordinated interaction
have been expressed by market monitors - most notably, by Frank A. Wolak, Robert Nordhaus, and Carl
Shapiro, "The Competitiveness of the California Energy and Ancillary Services Markets" (Mar. 9, 2000),
available at ht!P:!!www.caiso.com!docs!09003!lQQH)/04·}O!0900}alL()_~O()430ed.pdf. See also Rebours el
al., "Fundamental Issues in Markets for Ancillary Services," supra note 18, at 32-33.
10

demand." FERC's consideration of the benefits of initiating supplementary
compensation for DR that would be efficient in the absence of efficient retail pricing
should take into account the benefits of speeding DR's growth.
B. Proposals on Customization of DR Bids, Double Payment for DR, and
Caps on DR Prices
Three other aspects ofFERC's discussion of DR warrant comment from a
competition policy perspective because they are likely to affect efforts to increase DR
(and thus affect suppliers' efforts to exercise of market power). First, FERC observes
that RTOs and ISOs routinely allow electricity generators to specify minimum prices and
minimum durations in their wholesale spot market bids. 22 72 Fed. Reg. at 36283. FERC
suggests permitting prospective DR providers to include provisions for minimum
duration and price. The customization options described by FERC may not be as broad
as necessary to facilitate efficient DR. Retail customers are more likely to participate in
DR programs if they can customize their DR bids to reflect the opportunity costs they
face to change energy consumption patterns. FERC may wish to allow a range of
customization for DR bids that corresponds to the range of opportunity costs faced by
potential DR providers. The range oftypes of opportunity costs faced by potential DR
providers may differ from those of generators. For example, a grocery retailer offering
DR may be able to reduce refrigeration cooling as long as food cases remain within a safe
temperature range, but could face substantial losses from spoilage if the temperature in
21 For a discussion of the importance of efficient price signals for the development of onsite (distribnted)
generation, see, e.g., Pannesano, "Rate Design Is the No.1 Energy Efficiency Tool," supra note 17.
22 RTOs and ISOs do this becanse some generators face fixed costs whenever they change the level of
output. By bidding a minimum time period at a minimum price, these generators can be assured of
covering their marginal costs of being dispatched by the RTO or ISO. Without this assurance, some of
these generators are unlikely to bid even dnring peak demand periods.
11

food cases were to rise above a safe level. This type of customer might be willing to bid
DR only if a maximum, rather than a minimum, duration can be specified because there
could be high opportunity costs for exceeding that duration.
Second, FERC asks for comments on the view expressed by the Edison Electric
Institute ("EEl") that an inappropriate subsidy (a "double payment") occurs whenever a
retail customer is paid for wholesale demand reductions that also result in savings on the
customer's retail bill. 	72 Fed. Reg. at 36286. In most electric power markets, EEl's
conclusion is incorrect with regard to most customers because retail prices do not
accurately reflect wholesale prices in a timely manner.v' The basic problem is that the
reduction in a customer's retail bill, due to lower use of electricity during peak demand
periods, understates the economic value of the reduction when traditional retail pricing is
in place. In order to give efficient incentives for conservation during peak demand
periods, the savings on the customer's power bill must be supplemented so that the
combination - savings on the bill plus the supplementary compensation - results in an
efficient price to the retail customer. Contrary to EEl's view, such a system would not
constitute an improper subsidy, and it likely would enhance DR and undermine any
efforts by suppliers to exercise market power. Acceptance of EEl's position would
prevent or reverse FERC's DR regulatory reforms at the wholesale level. 24
23 EEl's conclusion is most likely to be correct if real-time retail prices are in effect and there are no
production or consumption externalities or other market failures. This is often not the case.
Additional compensation for DR can also be warranted if the customer is contractually obligated
to reduce consumption when requested by the system operator. This gives the operator greater certainty
than other forms of DR of being able to meet its system reliability responsibilities. Similarly, additional
compensation for DR can be warranted if there are positive externalities associated with DR that are not
captured by the consumer's own reduced retail power bill.
24 EEl nonetbeless is correct that it is possible to overcompensate DR participants, and FERC may wish to
guard against this possibility.
12

Third, FERC is concerned that application ofthe existing wholesale price caps to
payments for DR has the unintended effect of inefficiently reducing DR at the period
when it is most needed to sustain system reliability. FERC identifies four methods to
address this concern (72 Fed. Reg. at 36286-87):
1. 	Lift the wholesale price caps across the board in order to increase DR and thus
maintain required reserve levels.
2. 	Lift the price cap for DR but not for generation. The rationale for an asymmetric
price cap is that there is little ability or incentive for anyone to exercise market
power by withholding DR, whereas withholding generation can be an attractive
means to exercise of market power (because generation firms can gain profits on
inframarginal generators by withholding marginal generators).
3. 	Use an administratively determined demand curve as the basis for an increase in
the energy and/or reserve prices across the board if reserves fall below required
levels. The demand curve is designed to approximate the demand if real-time
retail pricing were in effect. The New York ISO uses this approach.
4. 	Set the market-clearing price at the price paid to participants in the RTO's or
ISO's emergency DR program.
The costs and benefits to customers of these alternative approaches should be
compared under three scenarios that describe potential conditions that could prevail in
electric power markets, and the probability of each should be assessed. In the first
scenario, high wholesale prices result from a genuine scarcity of'resources." In the
second scenario, suppliers reduce their generation output or curtail transmission in an
effort to exercise market power, so that high prices result from the exercise of market
power. The third scenario includes a combination of resource scarcity and market power
due to withholding of generation or curtailment oftransmission service.
25 If the price cap is currently performing ideally, the cap prevents the exercise of market power, but there
is uo scarcity. In other words, supply would be adequate but for suppliers' restrictions of output. In this
situation, removal of the price cap would pit the effects of incremental efforts to exercise market power
agaiust the effects of incremental DR. The net result for customers could be positive or negative depending
on which effect predominates. If the ideal price cap is already in place, leaving it in place for generators
but lifting it for DR may be superior to raising the cap across the board.
13

IV. FERC Proposals on Long-term Power Supply Contracts
FERC has a long-standing concern, based on complaints of some groups of
wholesale power customers, that information problems and regulatory arrangements
discourage efficient long-term supply contracts. 	Incumbent generators are more likely to
succeed in exercising market power if there are regulatory impediments to efficient long-
term supply contracts." In response to customers' perceptions about potential RTO and
ISO services." FERC proposes several new steps that would reduce obstacles to long-
term power supply contracts:
• 	Require RTOs and ISOs to post information that would facilitate long-
term power supply contracts.
• 	Require or encourage efforts by RTOs and ISOs to develop standardized
forward products.
• 	Dedicate a portion of the ISO's or RTO's website for market participants
to post long-term buy/sell offers.
If their benefits are likely to exceed their costs and they are implemented
efficiently, all of these proposals could increase wholesale electric power competition
because they remove obstacles to the entry of large generation projects that are expected
to be in service for several decades. Further, long-term forward contracts can be an
26 Chapter 3 and Appendix E of the Report to Congress on Competition in Wholesale and Retail Markets
for Electric Energy, supra note 8, discuss issues regarding long-term supply contracts. FERC's most recent
effort to remove regulatory obstacles to long-term supply contracts was FERC Order No. 681, Final Rule
on Long-term Firm Transmission Rights in Organized Electricity Markets (issued July 20, 2006). Order
No. 681 implements Section 1233(b) of the Energy Policy Act of 2005, which directed FERC to facilitate
the planning and expansion of transmission facilities to meet the reasonable needs of load-serving entities
and enable them to secure long-term transmission rights to meet such needs. One of Congress's primary
concerns was that the lack oflong-tenn financial transmission rights in RTOs and ISOs prevented
developers of long-lived generation projects from hedging the risk of future transmission congestion in
marketing a project's output. Increasing the risk of a generation project can raise the cost of the project and
make it uneconomical.
27 The current lack of such services from some RTOs and ISOs is one element of the concern expressed by
some transmission customers that RTOs and 1805 are not responsive to their interests. We discuss
incentives for RTOs and 1805 to be responsive to customers in Part VI of this comment.
14

important way to limit the incentives of incumbent generators to exercise market power
in wholesale electricity markets." Some large wholesale and retail customers contend
that long-term supply contracts are difficult to arrange because market design problems
add costs and uncertainty to the contract process. Removal of any such obstacles that
wholesale customers (such as municipal power distribution systems and cooperatives)
face to backward integration (via investment in generation) can also help alleviate
concerns about supplier market power. This is true because the ability to integrate
backward gives such customers a viable alternative if incumbent suppliers set prices
above the competitive level.
V. 	FERC Proposals on Market Monitoring and Information Sharing
FERC has established that the independence of market monitors is a necessary
characteristic ofRTOs and ISO. FERC proposes the following additional requirements
to bolster this independence:
• 	Assure that the management of an RTO or an ISO does not control the
"market monitor" - the entity that is responsible for monitoring the markets
within the RTO or ISO.
• 	Require that the market monitor (1) inform FERC and other stakeholders
of any market design flaws and (2) report to FERC any tariff violations it believes
the RTO or ISO (or other market participants) may have committed.
• 	Hold regular conference calls among the market monitors, interested state
regulatory commissions, and FERC staff.
• 	Following an appropriate lag period, release the offer and bid data
developed by RTOs and ISOs (after masking the market participants' identities),
28 Frank Wolak, "Lessons from the California Electricity Crisis," University of California Energy Institute,
Center for the Study of Energy Markets, Paper 110 (2003), available at
htmJlll'.Q.ositories.cQJib.orgic£i!vl.9wcontent.cgi'?article= 10 I O&context=uceilcsell}.
15

• 	Subject to certain limitations, permit state regulatory commissions within
an RTO or ISO, upon request, to receive information from the RTO's or ISO's
market monitor.
• 	Develop a pro forma market monitoring provision for each RTO's or
ISO's tariffthat mirrors the market monitoring provision set forth in the ANOPR.
These proposals may enhance competition because they reassure potential
independent suppliers and customers that the market monitor is objective and that market
monitors at the RTO/ISO and at the state level have access to more relevant information,
subject to antitrust concerns about inadvertently fostering coordinated interaction among
I· 	29
supp icrs.
As described in previous FTC comments." the credibility of market monitors
depends on their independence, but there is a concern that market monitors managed
within RTO/ISO operations may not be sufficiently independent. Because FERC relies
on market monitors to help develop its policy and enforcement decisions related to
market power, there should be a clear delineation of the market monitor's responsibilities
to report to FERC on both market design flaws and potential violations of market rules.
IfFERC continues to mandate the market monitoring function, but is concerned
about the independence and objectivity ofRTO and ISO market monitors, then FERC
29 Comments of the U.S. Department of Justice before FERC, Transparency Provisions of the Energy
Policy Act of 2005, Docket No. AD06-11-000 (filed Jan. 25,2007), available at
http://www.usdoj.gov/atr/pubJic/comments/223049.htm. See also Comment of the Staff of the Bureau of
Economics and of Policy Planning of the Federal Trade Commission before the United States Department
of Energy, Energy Information Administration, Agency Information Collection Activities: Proposed
Revision and Extension of EIA Form 767 and Other Electric Power Surveys (filed May 14, 2001),
available at h!tp://www.ftc.go\'!be!vOl 0007 .shtm.
30 Connnent of the Staff of the Bureau of Economics, Federal Trade Commission, Regional Transmission
Organizations, Section IILF, FERC Docket No. RM99-2-000 (filed Aug. 16, 1999), available at
!mp::;\yjvw.ftc.JrQ.y!):J"/v990011.pdf.
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may wish to consider the costs and benefits of alternative arrangements to ensure
independence.
VI. FERC Proposal on Cnstomer Responsiveness of RTOs and I80s
FERC has heard the views of wholesale and retail transmission customers that
RTOs and I80s are insufficiently responsive to customer concerns about the quality and
variety oftransmission services." In order to improve the customer responsiveness of
RTOs and ISOs, FERC proposes to provide RTO and ISO customers with direct access to
RTO and ISO boards of directors.
Although there is nothing objectionable about more communication between
customers and RTO/ISO boards of directors, the underlying problem is likely to be the
lack of incentives for non-profit RTOs and ISOs to minimize costs and provide high-
quality service. 32 A lack of attentive, high-quality customer service from RTOs and ISOs
can reduce DR in states with retail competition, if eligible customers find it more difficult
to gain access to independent generators that offer more efficient and timely retail price
signals.
31 See, e.g., John A. Anderson, President and CEO, Electricity Consumers Resource Council, "What Do
Energy Managers Need and How Do They Get the Necessary Results?" (presentation to the Energy
Solutions Network Conference in Long Beach, California, Aug. 14-17,2005), available at
:bttp://w\vwI.cere.energy,gov/femp!energy expo/2005fpdfs/lsp s3a.pclf.
32 An alternative way to organize RTOs and ISOs ~ in the form of a "club" of customers (i.e., oflocal
distribution utilities) ~ was found to be ineffective in the United Kingdom, which transferred the ownership
of the grid to an independent, for-profit firm (National Grid). Similarly, the previous composition of the
Califomia ISO's board of directors ~ board positions allocated to specified stakeholder groups ~ appears to
have contributed to gridlock on the board during the California energy crisis of 2000-01. PERC ordered a
reorganization of the board of the California ISO so that it would consist of independent directors. PERC
Order Directing Remedies for California Wholesale Electric Markets, PERC Docket Nos. ELOO-95-000 et
al., at 5-6 (issued Dec. 15,2000), available at
http://w\v\."caisopmJ!(IJ2.s/2000iL2/lSi2000 12IS16224JJ&31.pdf.
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As described in previous FTC staff comments." FERC should consider a
requirement that efficiency and customer responsiveness be minimum attributes ofRTOs
and ISOs. For-profit Transcos are likely to perform better than nonprofit entities in this
regard because they have strong profit incentives to satisfy customers and minimize
costs. In the United Kingdom, for example, the choice of an independent, for-profit
entity to operate the electric transmission grid - with financial incentives to reduce grid
congestion and achieve other efficiencies - has been associated with remarkable
decreases in transmission congestion and other improvements in transmission customer
service. 34
VII. Conclusion
FERC has proposed a variety of steps to improve DR and address other concerns
about competition in wholesale electricity markets. Increased DR can benefit electric
power customers by making it more difficult for generators to exercise market power.
We commend FERC for these proposals, and also encourage FERC to do the following:
33 "FERC may wish to establish an additional minimum characteristic concerning efficient operations of
RTOs. With any new independent institution, there is a risk that independence will devolve into
indifference to the quality of service, the pace of innovation, and changes in customer preferences. RTOs
are unlikely to be an exception. To avoid traveling down such a path, FERC may wish to identify
minimum efficiency incentives thatwill characterize RTOs.
"For example, ao RTO is more likely to operate efficiently and be responsive to customer
preferences if the RTO (or its employees) gain by reducing costs and increasing the volume of wholesale
transmission. Similarly, efficiency may be enhanced by providing a mechanism for displacing
maoagement and the board of directors if either or both fail to operate and maoage the RTO efficiently or
fail to respond to customer preferences. A Transco completely separated from generation might serve as
the benchmark for FERC's consideration of an efficient operations minimum characteristic. From a policy
perspective, the efficient operations functions may present the greatest challenge to an RTO organized as
an ISO. ISOs are non-profit entities and, therefore, lack profit incentives to perform efficiently and
responsively unless methods to provide such incentives are specifically incorporated into the ISO
structure." Comment of the Staff of the Bureau of Economics, Federal Trade Commission, Regional
Transmission Organizations, FERC Docket No. RM99-2-000, at 27-28 (filed Aug. 16, 1999), available at
http://\vww.ftc.gov/be!v990011'pdf(footnote omitted).
34 For a discussion of the process and results, see Paul L. Joskow, "Patterns of Transmission Investment," at
25-31 (Mar. IS, 2005), available at
l!.!1p~jv.'~)~~_ksgJl'!:,[~~!lrd.cdu/hcpg/Papers/Joskow p~Jjf~IJ1S of Transmission Investment.pdf.
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• 	FERC should acknowledge more of the competitive benefits of DR so as to enrich
its assessment of the benefits and costs of DR policies.
• 	FERC should work with states to encourage direct implementation of efficient
retail prices if such a course of action is likely to yield net benefits compared to a
regime of supplementary wholesale DR payments. A system by which RTOs and
ISOs pay DR suppliers (i.e., retail electric power customers) at the same rates that
they pay generators for equivalent services can compensate to some degree for the
lack of timely and accurate price signals that many consumers face at the retail
level.
• 	As DR grows, FERC may wish to rely increasingly on DR rather than wholesale
price caps to prevent generators from exercising market power.
• 	IfRTO and ISO market monitors are found to lack independence and objectivity
when they operate within an RTO or an ISO, FERC may wish to consider
alternative means to ensure independence in market monitoring.
• 	FERC may wish to address the underlying issue oflack of incentives for RTOs
and ISOs to achieve efficiencies and be responsive to transmission customers.
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