See No Evil: FERC Refuses to Examine Gaming of RTO/ISO Electricity Spot Markets

Background: Order 697
The National Association of State Utility Consumer Advocates (NASUCA) and other utility consumer advocates requested rehearing and clarification of FERC Order 697 on market-based rates for the sale of wholesale electricity. No bona fide consumer organization had supported the further relaxation of regulation over wholesale electricity rates embodied in that order, and many had asked for stricter review of market rate outcomes in light of experience. See Industrial and Residential Customers Agree: Proposed FERC Rules for Electricity Market Rates are Flawed.

In its petition for rehearing, NASUCA urged FERC not to relax oversight and to examine whether sellers who pass its easy market share tests for stand alone market power can still manipulate market prices through strategic bidding, without overt collusion. See Nonregulated” Sellers of Electricity Become “Market-Regulated” Under New FERC Rule. In addition, several utility consumer advocates filed a petition for rehearing raising a number of legal issues, such as whether FERC’s new system of private, unfiled ratesetting passes muster under longstanding public rate filing requirements.

The Rehearing Order
On April 21, 2008, FERC rejected all consumer objections to its market-based rate regime, in its Order 697-A decision on rehearing. On the issue of rate manipulation and potential gaming of wholesale spot market prices in RTO/ISO markets, FERC stated:

NASUCA argues that the Commission must investigate whether sellers are able to raise electricity auction market rates to higher non-competitive levels, without collusion, through strategic bidding and gaming behavior in Commission-approved auction markets…. NASUCA states that experience, mathematical game theory analysis, judicial decisions, and laboratory simulations indicate that market participants who pass market power screens nonetheless may be able to elevate prices in Commission-approved auction markets through non-collusive strategic bidding, withholding, and gaming tactics. NASUCA states that the Commission’s market power screens are based on a static analysis of single sellers’ market shares, stating that less than a 20 percent share of the relevant market capacity is sufficient and less than the supply margin on the annual peak day satisfies the “supply margin assessment.” NASUCA concludes that neither of these tools addresses the problem identified in the research that sellers in these specialized markets repeatedly communicate through their bidding behavior….

NASUCA states that, to its knowledge, the Commission has never publicly discussed mathematical game theory analysis in depth in its orders, has not investigated the problem, and has held no technical conference or workshop to invite researchers to present their findings regarding gameability of the wholesale electricity markets…. NASUCA argues that strategic market behavior analysis is needed to assess whether current market designs allow participants, without overt collusion, to elevate market prices to unreasonable and non competitive levels. The purpose of such analysis would be to take corrective action to prevent gaming behavior, by revising market designs or rules. NASUCA asserts that the Commission misunderstood NASUCA’s request in finding that consideration and analysis of such behavior would be burdensome.

NASUCA argues that the “primary purpose” of the FPA and the Commission is protection of utility consumers. NASUCA states that, in order to achieve confidence that rates set in Commission-sanctioned markets are reasonable, the Commission must investigate strategic bidding and market gaming by market participants…. NASUCA therefore requests that, at a minimum, the Commission commence a proceeding to investigate this and begin it by inviting researchers who have identified strategic auction market gaming as a problem in auction markets of the type used for the sale of electricity to present their research at a public technical conference.

FERC responded to this request to examine whether its markets can be gamed as follows:

Commission Determination
We have considered the strategic bidding literature and various theoretical models which demonstrate that market participants who pass market power screens nonetheless may be able to elevate prices in Commission-approved auction markets through “noncollusive strategic bidding, withholding, and gaming tactics.” However, the Commission does not think it is necessary to investigate the possibility of whether sellers or market participants are able to engage in strategic bidding, withholding and gaming tactics to elevate prices in auction markets in order to determine whether to grant market-based rate authority. First, these theoretical or gaming models require consideration of numerous assumptions and hypothetical future behavior that may quickly become invalid because of the changing behavior of market participants, changes in the market or changes in other factors, e.g., supply or demand. Accordingly, the Commission is concerned that they would not be reliable tools in helping assess whether a seller has market power. Second, the type of behavior described by NASUCA may be prohibited by the Commission’s Anti-Manipulation Rule at section 1c.2 of the Commission’s regulations…. Violations of the Anti-Manipulation Rule include behavior constituting a fraud that had the purpose of impairing, obstructing, or defeating a well-functioning market…. The Commission’s Office of Enforcement monitors activity in the electric markets and conducts investigations to determine whether market participants are violating the Anti-Manipulation Rule. To the extent that NASUCA or any other entity has specific allegations of market manipulation, that entity should contact the Commission’s Enforcement Hotline or the Division of Investigations of the Office of Enforcement. Finally, as the Commission stated in Order No. 697, for practical considerations the data gathering and analysis burden imposed on sellers and the Commission to consider all the hypothetical types of behavior would be overly burdensome and impractical….

More states are finding it is “impractical” to rely on FERC to achieve reasonable wholesale rates, and many consumers are finding it “overly burdensome” to pay electricity bills inflated by unreasonable wholesale rates. FERC may someday need to reconsider its disregard of evidence that its RTO/ISO markets are defective.

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