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D.C. Circuit Upholds FERC Orders Challenged by Virtual Marketers

A group of virtual marketers challenged FERC orders concerning the disbursement of surplus funds collected for transmission-loss charges.  The case discusses the distinction between virtual marketers and participants who physically transmit electricity for purposes of wholeslae power transmission charges.

Background

The FERC orders at issue approved PJM’s new method of allocating the surplus, which resulted in the virtual marketers essentially receiving no reimbursement.  These virtual marketers also challenged FERC orders that allowed PJM to recover transmission-loss funds previously refunded to such virtual marketers under a prior distribution method.

The case concerns the treatment of virtual marketers of energy transactions by FERC and RTOs – or Regional Transmission Organization.  Virtual marketers never take delivery of electricity.  Instead they trade based on price fluctuations in the energy market.

The primary complaint of virtual marketers centered on the amounts charged by one RTO – PJM International LLC.  In the Day-Ahead and Real-Time market, PJM imposes charges under the Locational Marginal Pricing (LMP) model.  The LMP model assesses charges with three components: (i) generation costs, (ii) congestion charges, and (iii) transmission-loss charges.  The component charge at issue was the transmission-loss charges.

Method of Allocating and Reimbursing Surplus Transmission-Loss Charges

PJM considered two methods to determine transmission-loss charges: (i) average loss pricing and (ii) marginal loss pricing.  PJM initially used the average loss pricing method, but FERC determined that this method charged long-distance buyers too little, and short-distance buyers too much.  So PJM switched to the marginal loss pricing method.

Under the marginal loss pricing method, an RTO will charge buyers the marginal cost of transmission losses.  Because actual transmission charges will usually be lower than their marginal cost, an RTO will collect more money than it actually takes to cover the cost of transmission losses.  The central question at issue is who should receive reimbursement of the surplus, and how much?

To prevent market manipulation, FERC required PJM to allocate surplus funds based on the amount participants pay for fixed costs of the transmission grid.  Such a method of allocation, reasoned FERC, would “divorce the surplus allocations from the amount that market participants pay into the surplus in the first place.”

When traders know that their marginal loss payments are going to be partially refunded, they will treat the LMP as a mere sticker price that masks the true, post-rebate price of each trading, distorting the incentives marginal loss pricing is supposed to create.

Because virtual marketers do not transmit or deliver electricity, they pay none of the fixed costs of the transmission grid.  As a result, under PJM’s method of allocating surplus funds, virtual marketers receive none of the surplus funds.  They objected to this method of allocating and reimbursing surplus funds.

Applying the “arbitrary and capricious” standard, the court upheld FERC’s allocation method.  Virtual marketers argued that the allocation method was improper because it violated the cost-causation principle – “all approved rates reflect to some degree the costs actually caused by the customer who must pay them.”  But in an LMP system, it is impossible to identify the participant that caused the marginal cost.  In other words, because all customers contribute to the peak load, no single customer is responsible for the associated cost. Thus, the cost-causation principle was not a sufficient reason to invalidate FERC’s allocation method.

Virtual marketers then argued that since they do not transmit or deliver electricity, they should not be charged for transmission-loss charges in the first place.  The court ruled, however, that such an argument ignores the fact that virtual marketers do buy and sell contracts for electricity just like other market participants.

Finally, the virtual marketers argued that FERC’s allocation method unduly discriminates against them.  While the court agreed that they were treated differently from other market participants, the disparate treatment was justified.  The court agreed with FERC that the difference in treatment was necessary to prevent incentives to engage in market manipulation that would not be present with load-serving entities.

Reimbursement Order Was Not Justified

While the virtual marketers were unsuccessful in challenging FERC’s allocation method for reimbursement of transmission-loss surplus funds, they won a limited argument regarding FERC’s order requiring them to repay amounts they previously received from PJM (“Recoupment Order”).  They argued that the Recoupment Order was arbitrary and capricious because FERC had not adequately justified its decision to require recoupment from virtual marketers.

The court noted that while FERC justified the new allocation method, it did not explain why recoupment of funds paid out under the old method was appropriate.  As the court reasoned, “There is a significant distinction between denying refunds and recouping them.”  (Emphasis in original.)  Accordingly, the court remanded the case back to FERC to determine whether recoupment is an appropriate remedy for funds previously paid out under the old allocation method.

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