On Friday, May 23, 2014, the United States Court of Appeals for the District of Columbia Circuit issued a long-awaited opinion in Electric Power Supply Association, et al., v. FERC. The court found that the Federal Energy Regulatory Commission (FERC) Order No. 745, dealing with “wholesale demand response,” exceeded its legal authority under the Federal Power Act (FPA) and vacated the entire order as “ultra vires” (literally, “beyond the powers”).
If you are a FERC aficionado (as I confess I am, having been an energy lawyer for over 30 years), this is a big deal. Moreover, the American Public Power Association (Public Power) has a strong interest in this case, because we were a petitioner, along with the Electric Power Supply Association (EPSA), the National Rural Electric Cooperative Association (NRECA), and the Edison Electric Institute (EEI). It is not often that we are on the same side as EPSA on any issue having to do with FERC-regulated wholesale markets, much less that we join together with EPSA to appeal a FERC order. It is even less common that a court so totally agrees with us on the merits of a FERC order (although, to be sure, it was a 2-1 decision, with a strong dissent). So it is worth marking the moment and explaining why Public Power took this appeal.
But first, some of you may wonder just what “demand response” is. The court in its opinion noted that FERC’s regulations at issue had “a single definition of “demand response”— a “reduction in the consumption of electric energy by customers from their expected consumption in response to an increase in the price of electric energy or to incentive payments designed to induce lower consumption of electric energy.” If this reduction in consumption came at a high demand hour, the overall system would benefit from the reduction, which is why FERC wanted to incent it.
The FERC docket that gave rise to Order No. 745 started in 2010. In September 2010, I attended a day-long “technical conference” (somewhat like a legislative hearing) held at FERC to air the issues surrounding “wholesale demand response.” I left at the end of the day with a much different attitude than I came in with about what FERC was trying to do. It became clear to me that FERC was making a “wholesale demand response” product out of the decisions of individual retail customers NOT to buy retail electric service in any hour.
As an energy lawyer, I thought this was extremely problematic. The FPA allows FERC to regulate wholesale sales of electric power and transmission of electric power in interstate commerce, and clearly says that items regulated by the states are reserved to the states. And retail electric service is definitely within the regulatory purview of the states—and public power utilities. Moreover, FERC wanted to require Regional Transmission Organizations (RTOs) to pay those non-consuming retail customers the hourly locational marginal price (“full LMP”) for their “negawatts.”
This creates real problems for retail electric suppliers (including public power utilities) that must incur the costs to stand by to provide retail electric service every hour, whether the retail customer participating in the wholesale market takes that service or not. Retail suppliers get none of the money paid to the retail customers in wholesale markets, which effectively requires other retail customers to pick up the costs of standing by to provide retail service.
But the cherry on top of the policy sundae here was FERC’s ultimate reason for doing all this. In an exchange at the very end of the day, then-FERC Chairman Jon Wellinghoff said he felt FERC must move forward “because I have no assurances as to when the states will put in dynamic [time-of-use based] retail prices with the controversies that are going on, all the political problems with getting those in place. I think the only way we are going to get [end use customer-installed technology to shift/reduce demand] in place and we’re going to move forward with it is to move forward with it in the wholesale markets.”
Commissioner Phil Moeller swiftly responded, “I think without dynamic pricing we have the serious potential of residential consumers subsidizing wholesale consumers, and that worries me greatly. And I think the key is shifting demand, and we’ve got to do it through dynamic pricing. If we do this wrong, we will have the opposite effect. So I respectfully disagree with my Chairman.”
Moeller’s concern about cost shifting was right. And I was frankly appalled by the lack of respect for the limits the Federal Power Act places on FERC’s jurisdiction. If “wholesale demand response” was within FERC’s jurisdiction, then pretty much everything could be, and public power utilities’ local ownership and local control would be fatally undermined.
So, after considering all this, Public Power joined with NRECA to appeal this case, along with EPSA and EEI. And for once, the D.C. Circuit Court saw it our way. As the court said: “Demand response—simply put—is part of the retail market. It involves retail customers, their decision whether to purchase at retail, and the levels of retail electricity consumption. If FERC had directed ISOs [Independent System Operators] to give a credit to any consumer who reduced its expected use of retail electricity, FERC would be directly regulating the retail rate. At oral argument, the Commission conceded crediting would be an impermissible intrusion into the retail market. … Ordering an ISO to compensate a consumer for reducing its demand is the same in substance and effect as issuing a credit… A buyer is a buyer, but a reduction in consumption cannot be a ‘wholesale sale.’ FERC’s metaphysical distinction between price-responsive demand and incentive-based demand cannot solve its jurisdictional quandary.”
The court also made clear that it did not think it was “just and reasonable” to compensate retail customers providing wholesale demand response with the “full LMP.” The court expressly noted the arguments that Commissioner Moeller had made in his dissents on this issue, and FERC’s failure to address them. It closed its opinion with this parting shot: “The Commission cannot simply talk around the arguments raised before it; reasoned decisionmaking requires more: a “direct response,” which FERC failed to provide here…[I]f FERC thinks its jurisdictional struggles are its only concern with Order 745, it is mistaken. We would still vacate the Rule if we engaged the Petitioners’ substantive arguments.”
This court opinion is gratifying, in that it pushes back on FERC’s assertion of jurisdiction over subject areas that are “out of bounds” under the FPA — something FERC has done more and more in recent years. It comes, however, at a very interesting time.
Since Order No. 745 came out in March 2011, wholesale demand response has become quite intertwined in RTO markets, both day-ahead/real-time and capacity markets. About 11,000 MW of Demand Response cleared the PJM 2017-2018 Base Residual Capacity market auction, according to the auction results announced just last week.
The Environmental Protection Agency (EPA) is about to issue its proposed regulations on carbon dioxide (CO2) emissions from existing power plants to address climate change. The EPA regulations are likely to rely heavily on demand response and energy efficiency as a way to reduce such emissions. (Of course, not all demand response will necessarily lower CO2 emissions — in fact, it might increase such emissions overall, depending on the mix of generation resources used to meet the shifted demand.)
Public Power has always been a strong supporter of both demand response and energy efficiency. Public power utilities will need to do even more in these areas, given where our industry is going. Reducing overall CO2 emissions will be an extremely important priority. We all agree on that, but as we do so, state, local, and federal entities will have to work together and respect jurisdictional limits.