Since the May 2014 decision by the DC Court of Appeals (“EPSA decision” or “EPSA”), which vacated FERC Order No. 745 mandating that RTOs and ISOs compensate demand response resources at the same locational marginal price (LMP) as other energy products, a number of parties have advocated differing positions on how demand response should be handled. Most recently, PJM Interconnection released a white paper proposing an alternative treatment of demand response and seeking to address some of the key issues raised by the EPSA decision:

• Who has jurisdictional authority over demand response – FERC or state regulatory bodies?
• What is the value of demand response, and how should pricing be determined (Order No. 745 priced demand resources at the full LMP – the same as any other supply side resource)?
• Does the EPSA decision apply solely to wholesale energy markets, which was the purview of Order No. 745, or can the decision be more widely applied to capacity and ancillary markets?

PJM’s goal is to develop an alternate path that would minimize market disruptions until the litigation process is complete and the issues have been settled in the courts. In particular, PJM is against the idea of re-settling the most recent auction outcomes after removing the demand response bids as has been proposed by FirstEnergy and other stakeholders. PJM cites a risk of significant market disruption if the three-year forward capacity commitments established in previous auctions are reversed and resettled.

Key Details of the Proposal

• Demand response would be treated as a demand-side resource rather than a supply-side resource. The incentive to participate would thus be based on avoided costs and an avoided obligation to purchase energy/capacity rather than compensation for supplying energy/capacity
• PJM would eliminate jurisdictional uncertainty by basing planning and procurement decisions on commitments bid into PJM’s markets by wholesale market entities only
• Wholesale market entities (namely load-serving entities) could reduce their demand for wholesale load through curtailment arrangements with their end-use retail customers
• A demand resource would bid a curtailment commitment into the capacity auction at a particular price, shifting the demand curve and potentially impacting the clearing price (see Figure 1 from the PJM white paper)
• A transition mechanism would minimize disruption of the participation of existing demand response commitments that have already been secured through the capacity auctions

Implications

Although the decision to overturn FERC Order 745 slashed the projected annual growth rate of U.S. demand response almost in half, dropping it from 8% to 4.9% through 2023 (GTM Research report on demand response), demand response supporters believe it is too late for legal challenges to do long-term harm to the demand response marketplace—demand response is here to stay. However, the final fate of Order No. 745 could have significant implications on how demand response is regulated and by whom, as well as direct financial implications for customers in the PJM market. Public Utilities Fortnightly estimates that if FirstEnergy succeeds in having the PJM auction results thrown out and recalculated without demand response, the customers in PJM’s territory would be forced to pay out an additional $9.3 billion for capacity in the 2017-2018 planning period.

The FERC has until December 16 to decide whether to file an appeal and send the EPSA decision case to the Supreme Court, leaving these issues unsettled for some time to come. In the meantime, Senator Martin Heinrich of New Mexico has introduced a bill that would clarify the authority of the FERC to regulate the treatment of demand response in wholesale markets, though it is not yet clear if or when the bill will be taken up in Congress. In light of these circumstances, PJM is hoping their new proposal can provide a reasonable way to harness the value of demand response resources and provide certainty in the market until Order No. 745 is settled.

Additional Information

• The Evolution of Demand Response in the PJM Wholesale Market; PJM White Paper, October 6, 2014
• The Fate of FERC Demand Response Order No. 745: Efforts to Adapt while the Judicial and Complaint Processes Play Out; Cadwalader Clients and Friends Memo, November 14, 2014
• PJM Capacity Performance Updated Proposal; PJM, October 7, 2014
• $9 Billion at Risk, Public Utilities Fortnightly, November 2014

This report is part of the Regulatory Minute series. To view all featured Minutes, please click here.