How to keep the lights on in organized markets

States must seek ways to preserve baseload generation through ‘around market’ solutions, Ray Gifford writes

The following is a guest post from Ray Gifford, managing partner at Wilkinson Barker Knauer LLP and former chairman of the Colorado Public Utilities Commission from 1999 to 2003. If you are interested in submitting a guest post, please review these guidelines.

Baseload power is exiting wholesale power markets – as much as 21 GW of capacity by 2020, according to one recent study.

This unfortunate development, one that raises troubling questions about keeping the lights on, receives scant attention compared to the more publicized Clean Power Plan rule. Yet the fundamental issues lurking beneath these retirements may have a more significant impact on the future of the electric grid – regionally and nationally – than does the Environmental Protection Agency’s regulatory effort.

The question raised by the departure of nuclear and coal generation from restructured wholesale power markets is whether these markets have a market design problem, either as a factor of design or were fatally flawed from the get-go.  It can be argued that markets are sending exactly the right signals for coal and nuclear to shut down. However, state policy responses illustrate such outcomes will not be tolerated as a matter of state energy policy.

What do we know about keeping the lights on? Embedded baseload capacity is proving uneconomic under current market designs across the country. Capacity markets – where they exist – have proven inadequate to the task of keeping baseload units profitable. In fully restructured markets, where dis-integration is the product of legal mandates, there is severe difficulty in keeping sufficient capacity in the current resource mix. Additional intermittent wind and solar resources will only exacerbate the stress on wholesale markets in the near-term. To be sure, market distortions in the form of tax and price preferences for renewable resources ripple through the wholesale markets. One can argue the wisdom of the recently enacted federal Production Tax Credit and Investment Tax Credit, but the bottom line is baseload capacity is exiting these markets. States, in artful and other ways, have responded.  

For example, in the ISO New England footprint, Entergy shuttered the Vermont Yankee nuclear power plant in December 2014, relegating the facility to the annals of administrative law textbooks where it lives on in Vermont Yankee Nuclear Power Corp. v. Natural Resources Defense Council. The Pilgrim nuclear power plant will soon follow suit. Entergy has announced it will cease operations on May 31, 2019.

Moving west, PJM has debated the future of seven coal and one nuclear plant in its footprint. The Public Utility Commission of Ohio has approved a Power Purchase Agreement (PPA) rider to keep these plants online, but the Federal Energy Regulatory Commission has overruled the state. Further west, MISO is seeing the same dynamic, the result of Exelon’s long-discussed and recently announced nuclear plant closures in Illinois and Dynegy and DTE Energy plans for significant amounts of coal retirements. All of this is occurring as MISO is forecasting a generation shortfall in parts of Michigan, Missouri, and Illinois. Meanwhile, ERCOT and the Public Utility Commission in Texas continues its perennial argument over creating capacity markets to “plug” the capacity issues exacerbated by large intermittent resources in energy-only supply auctions.

Given these potential market design issues, states are stepping in to redress the problems in creative ways. For example, Exelon unsuccessfully endorsed legislation in Illinois to implement a Zero Emission Standard that would have required de facto capacity payments to its large nuclear units. FirstEnergy and AEP sought a similar result through the PPA rider in Ohio.

Each state action is tailored to the various interests at play in a given state. However, these efforts all amount to “around market” solutions, or at the very least, back door capacity payments to keep what – from a state perspective – is valuable embedded capacity afloat in the markets.  All these strategies share a common goal: Each seeks to build or sustain baseload capacity to avoid the exit of that capacity from the market. And each state “around market” action also shares another common trait.  All their efforts are encountering opposition.  In Illinois, it was the legislature.  In Ohio, it was the Federal Energy Regulatory Commission. In Maryland and New Jersey, it was the U.S. Supreme Court.

I do not hazard a guess at the solution to this complicated problem, but the conversation needs to be had, and there are some broad threshold questions to address in the policy realm:  Should FERC be concerned about these state ‘around market’ action? Are states developing creative solutions in the best interests of ratepayers, or are these in fact rent-seeking proposals masquerading as state-level market solutions?  Are current market institutions compatible with the initiatives pushed by environmental regulators to reduce carbon emissions from the power sector and Congressional action to create incentives for the deployment of intermittent resources?  Can markets operate efficiently when the price system is manipulated by regulators and tax policy to achieve other social outcomes?

The policy intuition of preferring market institutions, where feasible, is sound.  But that intuition must recognize the susceptibility of those closely-regulated market mechanisms to “taxation by regulation” and other rent-seeking pressures.  Whether the current problems amount to a market failure or a regulatory failure is beside the point.  The fact that states are responding to perceived wholesale market inadequacies is the salient issue.

Firm solutions or even indicative directions are tough to come by right now, and are likely different in different parts of the nation. Nonetheless, wholesale markets have a problem. States are offering various ‘solutions’ to those perceived problems. A single state with a legislative electricity policy proposal might be a one-off. At this point, however, it is a definite trend across the restructured markets that states think the “market” outcomes are sub-optimal. With the potential overlay of the Clean Power Plan, these pressures will only get more severe. ISO-NE for example, has predicted a potential supply shortfall as soon as the winter of 2017-18.  MISO’s independent market monitor recently cautioned that the capacity market has failed to provide the “economic signals” needed to “facilitate” investment.

Despite recent setbacks, states – or state actors – must seek ways to inject new generation or preserve existing generation through ‘around market’ solutions. One needs look no further than Massachusetts, where pending legislation seeks to replace lost nuclear capacity with hydropower and wind. States should continue to pursue ‘around market’ solutions to preserve generation.  Until markets show they can retain baseload capacity, the institutional integrity of the current market structure remains at risk.

Filed Under: Generation Regulation & Policy
Top image credit: Depositphotos