FERC Okays ISO-NE “Pay-For-Performance” Plan, But Objections Remain

July 14, 2014

The Federal Energy Regulatory Commission handed ISO-New England a significant victory by accepting most of its pay-for-performance proposal, but the decision has encountered criticism from stakeholders who urged FERC to reconsider its approval of what one called a “Franken-tariff.”

On May 30, the commission issued an order that largely endorsed ISO-NE’s capacity market reforms over a counter-plan offered by the New England Power Pool. Broadly speaking the change requires that participating resources perform during shortages – and would be rewarded for doing so – while non-performing resources would be penalized. As the ISO explained, “Put simply, resources that perform well will be paid more, and resources that perform poorly will be paid less.”

But as part of its decision, FERC also accepted NEPOOL’s plan to increase reserve constraint penalty factor prices, a move that is expected to improve short-term system reliability by offering an increased incentive for generating resources to perform.

In its order, FERC noted that both proposals were intended to address fleet-wide resource problems in New England. It went on to explain: “ISO-NE’s proposal involves significant changes in the Forward Capacity Market (FCM) design, while NEPOOL’s proposal involves incremental changes to the energy and ancillary services market and the FCM while largely maintaining the existing FCM rules.”

However, the commission determined that neither plan on its own was “just and reasonable.”

FERC said that ISO-NE’s plan discriminated against energy efficiency resources and could potentially send improper price signals in the event of a transmission constraint within a capacity zone. On the other hand, the commission found NEPOOL’s proposal lacking because it would measure a resource’s performance only against its historical performance, which FERC said “may inappropriately reward poorly performing resources and penalize highly-performing resources, which could further erode reliability in the region.”

Still, FERC largely adopted ISO-NE’s plan – except for the treatment of energy efficiency resources – and NEPOOL’s recommended increases in the reserve constraint penalty factor. According to Restructuring Today, “The rule changes will place more risk on capacity suppliers to give them the needed incentives to develop and maintain their resources so they can perform reliably when most needed.”

In its order, FERC said it believed the ISO-NE proposal, which would modify the FCM to incorporate a two-settlement capacity market design that measures resource performance during capacity scarcity conditions, was an acceptable approach.

Under the pay-for-performance plan, according to the grid operator, “Each supplier that takes on a forward obligation in the Forward Capacity Auction will have a second settlement, during the delivery year, based on its actual performance during scarcity conditions. Under this design, resources that perform poorly cover their forward obligations through purchases from other suppliers in the pool that perform well.”

FERC concluded that the grid operator’s plan to more closely link capacity revenues to real-time performance will provide “better incentives for investment decisions” that are appropriate to the region.

In a statement following FERC’s order, ISO-NE said:

(T)he Commission accepted all of the important elements of the pay-for-performance proposal, which the ISO filed in response to serious challenges to the continued reliability of the New England power grid. These key elements accepted unanimously by the commissioners include the linkage between capacity payments and resource performance in real time; that exemptions from performance requirements are not appropriate; a phased-in performance payment rate; that the performance requirements should apply equally to all resource types; and the proposed factors that should be included in resource offers, including risk premiums and opportunity costs related to pay for performance.

Stakeholders, however, did not share the grid operator’s pleasure over FERC’s order.

In their joint request for a rehearing, as Restructuring Today reported, NRG and PSEG argued that the pay-for-performance system penalizes non-performance in the energy markets and that those penalties could outweigh any upfront capacity payments generators would receive for participating in the capacity market. This, the two companies added in their filing, will result in “unnecessary consumer costs” and “discourage private investment.”

Meanwhile, government agencies in Connecticut, the Rhode Island Public Utility Commission, and United Illuminating took aim at FERC’s decision to adopt parts of both the ISO-NE and NEPOOL plans. The commission took the most expensive elements from both proposals, they charged, creating a “Franken-tariff.”

The opposition was not unexpected. In its May 30 order, FERC noted that most of those who commented on ISO-NE’s initial filing objected to the plan, some of whom argued that the proposal “fundamentally redefines the capacity market and inappropriately attempts to address resource performance concerns in the capacity market rather than in the energy and ancillary services markets.” And in their request for a rehearing, NRG and PSEG noted that more than 80 percent of stakeholders supported the NEPOOL plan.

ISO-NE has 45 days from the date the order was issued to deal with changes FERC requested, including the manner of which efficiency is treated in the proposal and assurances that congestion within capacity zones does not unfairly take money away from power plants.