U.S. Supreme Court Affirms FERC Primacy over Demand Response in Wholesale Power Markets
On January 25, 2016, the U.S. Supreme Court upheld in a 6-2 decision the Federal Energy Regulatory Commission’s (FERC) Order 745, which requires wholesale market operators to pay the same compensation to demand response (DR) providers for conserving energy as paid to generators for producing it. In doing so, the Court found that under the Federal Power Act, FERC can regulate wholesale markets and other matters “directly affecting” wholesale rates if it “affects—even substantially—the quantity or terms of retail sales.” While this ruling does not necessarily clarify the “bright line” between federal and state regulation of the power grid, it expands the area inside the line where federal regulation constitutes the final word.
- Broad interpretation of “wholesale”: The Court overruled a 2014 appellate court decision that DR was not a “wholesale sale” subject to FERC jurisdiction, expressly rejecting the position that FERC jurisdiction was only over “sales for resale” and DR is aimed at energy consumers, not resellers. It implicitly found that a “negawatt” is the same as megawatt for jurisdictional purposes.
- “Direct affect” on wholesale rates: The Court acknowledged that FERC DR policies—or any wholesale market policy—could affect retail rates because the markets are not “hermetically sealed” from each other. But it found that irrelevant. The DR rules “directly affect” wholesale rates, which are clearly within FERC’s jurisdiction. It rejected extending FERC jurisdiction merely because it “related to” wholesale rates, but said FERC may regulate practices and rules “affecting” wholesale prices. Thus the FERC/state jurisdictional line remains blurry and subject to case-by-case interpretation.
- Regulatory intent matters: In its ruling, the Court looked at, and effectively endorsed, FERC’s policy assessment and motivations, stating that DR is not a FERC power grab but a “market-generated innovation for more optimally balancing…supply and demand.” It found that FERC’s objective was holding down prices and enhancing reliability in peak periods, both within its purview.
- No “regulatory gap”: The Court rejected that there can be a regulatory “no man’s land” of electricity transactions (in this case, the retail-wholesale hybrid DR) —no matter how narrow—that is not subject to either federal or state regulation. There was little discussion of joint exercise of regulatory authority in this gray area of DR.
- Deference on DR compensation: The Court, throughout its opinion, endorsed FERC’s rationale for Order 745’s policy and deferred to its judgment on the technical issue of the level of DR compensation, finding payment to DR of full locational marginal price was not “arbitrary and capricious.” They explicitly rejected the claim a DR participant’s avoided retail cost of power should reduce the wholesale compensation for DR.
- States retain some power: Although they cannot dictate the terms of DR (and other wholesale) programs, states retain authority to limit or ban retail customer participation in DR.
The decision is first a big boost for DR, as it defers to FERC, whose policies have been promoting DR in both Orders 719 (permitting DR aggregation) and 745. Given its now broad jurisdiction and regulatory findings in support of Order 745, FERC’s approach to DR and LMP compensation is here to stay. Electric suppliers’ complaint will remain though: that DR will cause some critical “iron in the ground” capacity resources to shutter. Time will tell whether capacity adequacy and reliability issues will arise.
Second, this ruling could have broader implications, expanding federal authority and superseding state policies in other federal-state jointly regulated activities such as the Clean Power Plan, absent some limiting principle. One rationale for expansive federal authority was the Court’s statement that electricity flows “not through ‘the local power networks of the past,’ but instead through an interconnected ‘grid’ of near-nationwide scope.” The Court might articulate some limiting principle in Hughes v. PPL Energy Plus, which involves a challenge to a Maryland policy guaranteeing a fixed price to generators, aimed at encouraging generation development in an area with reliability issues. That case bears watching.
Third, it is unclear whether and how this jurisdictional approach may be applied to traditional bilateral markets in that Order 745 and this ruling are in the context of competitive wholesale electric markets.
Finally, this ruling may afford FERC more leverage in crafting policies that may impact some retail customers in the interest of “just and reasonable” wholesale prices. While FERC has historically worked in collaboration with state regulators in considering and forming policy, it might feel empowered to abandon such comity when addressing critical market issues.
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