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Robert E. Burns, Esq. Research Specialist Center for Energy, Sustainability, and the Environment

Federal and State Jurisdiction in the Electric and Gas Sectors: A Bright Line Obscured by Shifting Sands. Robert E. Burns, Esq. Research Specialist Center for Energy, Sustainability, and the Environment The Ohio State University 614-292-9487 burns.7@osu.edu. Seminar Information.

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Robert E. Burns, Esq. Research Specialist Center for Energy, Sustainability, and the Environment

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  1. Federal and State Jurisdiction in the Electric and Gas Sectors: A Bright Line Obscured by Shifting Sands Robert E. Burns, Esq. Research Specialist Center for Energy, Sustainability, and the Environment The Ohio State University 614-292-9487 burns.7@osu.edu

  2. Seminar Information • Indiana State Bar Association’s • Utility Law Section • Fall Seminar • Friday, October 16, 2009 • Blue Chip Casino • Michigan City, Indiana

  3. Early History • The Beginning -- State Railroad Commissions set up under the Granger Laws of the 1870s • Munn v. Illinois, 94 U.S. 113, 126-127 (1877): “when private property is “affected with a public interest, it ceases to be juris privati only.” • The Georgia Constitution of 1877 required “just and reasonable rates,” a full decade prior to the founding of the Interstate Commerce Commission

  4. Early History • Likewise, the Indiana Utility Regulatory Commission traces its roots to the Indiana Railroad Commission formed and approved by law in 1905

  5. Early History • Baltimore Gas Company (later BGE) installs gas lights in 1816 • It was subjected to municipal regulation • Pearl Street Station in 1882 was the first central station power plant • Generated DC power

  6. Early History • Tesla, in part to spite Edison, provides Westinghouse with the means of producing alternating current in 1887, which allows for transmission of electricity beyond a few city blocks. • This technological change created an eventual need for regulation as AC systems grew beyond municipalities

  7. Early History • The Public Service Commission of Indiana was formed in 1913 to regulate public utilities, including electric, gas, telephone, water, and street railways • All of the powers of the Railroad Commission were transferred to the PSC

  8. State PSC Regulatory Authority • State Public Service Commissions’ original authority: • Retail rates: revenue requirement, cost allocation, rate design for each customer class • Entry • Quality of Service / Quality of Power • Protection Against Undue Discrimination

  9. Public Utility Holding Companies • Bonbright observed that like baseball, the holding company is generally acknowledged to be an American invention • At common law, a corporation was held not to have the power to own the stock of another corporation except in satisfaction of debt or as a preliminary step toward merger. • Prior to 1888, all holding companies operated on the basis of special legislative charters

  10. Public Utility Holding Companies • The first general law enacted allowing holding companies was the New Jersey General Stock Corporation Law as amended in 1888. 1888 N.J. Laws Ch. 269, sec. 1 at 385; Ch. 295, sec. 1 at 445.

  11. Samuel Insull • Samuel Insull also worked for Thomas Edison, first as his business secretary and then as second V-P of GE • Formed the Midwest Utilities in 1912 • The Insull Group was the third largest utility group in 1930 • Highly diversified, pyramided companies, pyramided securities -- all dependent on the earnings of the electric operating companies • In 1932, bank credit was withdrawn -- collapse.

  12. The Regulatory Gap • In the meantime, Public Utilities Commission v Attleboro Steam & Electric Co., 273 U.S. 83 (1927) created a regulatory gap. • Attleboro held that interstate wholesale sales of electricity were beyond the reach of state regulation, which was barred by the Commerce Clause because such regulation would impose a “direct burden” on interstate commerce

  13. Enter Federal Regulation • The Public Utility Act of 1935, Pub.L. No. 74-333, 49 Stat. 803 (1935), had two titles. • Title I was the Public Utility Holding Company Act of 1935, which Congress enacted to prevent financial abuses among public utility holding companies and their affiliates.

  14. Enter Federal Regulation • The Securities and Exchange Commission administered the PUHCA of 1935 until its repeal and replacement with the PUHCA of 2005. (More on that later.)

  15. Enter Federal Regulation • Title II contained the Federal Power Act which expanded the authority of the Federal Water Power Commission’s authority and created the Federal Power Commission in order to close the Attleboro regulatory gap. • The Federal Power Act requires the Federal Power Commission, now the Federal Energy Regulatory Commission, to regulate electricity sales for resale (closing the Attleboro gap) AND interstate transmission of power.

  16. Enter Federal Regulation • The Natural Gas Act of 1938, P.L. 75-688, 52 Stat. 821, allowed federal regulation to set the price for natural gas sold in interstate commerce and for interstate transmission services • The FPC also regulates natural gas pipeline certificates and abandonments • Until 1954, the FPC declined to regulate wellhead gas prices, instead regulating interstate pipelines

  17. Federal Preemption and the Original Bright Line • The original bright line allowed states to regulate retail electric services, including all bundled services to retail customers. • The original bright line provided that FERC regulates wholesale sales (sales for resale) of electricity and all unbundled transmission (wheeling) services.

  18. Federal Preemption and the Original Bright Line • The original bright line allows state commissions to regulate gas distribution system costs and retail gas sales. • The FERC regulates interstate gas transmission and eventually is required to regulate interstate gas sales

  19. Original Bright Line • But what does the Federal Power Act say?

  20. FPA Section 201(a): Federal regulation of transmission and sale of electric energy • It is declared that the business of transmitting and selling electric energy for ultimate distribution to the public is affected with the public interest …and of the transmission of electric energy in interstate commerce and the sale of such energy at wholesale in interstate commerce is necessary in the public interest, such Federal regulation, however, to extend only to those maters which are not subject to regulation by the States.

  21. FPA Section 201(b)(1): Use or sale of electric energy in interstate commerce • The provisions of this subchapter shall apply to the transmission of electric energy in interstate commerce and to the sale of electric energy at wholesale in interstate commerce ….The Commission shall have jurisdiction over all facilities for such transmission or sale of electric energy, but shall not have jurisdiction, except as specifically provides in this subchapter and subchapter III, over facilities used in the generation of electric energy or over facilities used in local distribution or only for transmission of energy in intrastate commerce, or over facilities for the transmission of electric energy consumed wholly by the transmitter.

  22. FPA Sections 201 (c), (d) • (c) Electric energy in interstate commerce: For the purposes of this subchapter, electric energy shall be held to be transmitted in interstate commerce if transmitted from a State and consumed at any point outside thereof;… • (d) Sale of electric energy at wholesale: The term “sale of electric energy at wholesale when used in this subchapter, means a sale of electric energy to any person for resale.

  23. What Do the Courts Say Concerning Sales for Resale in Interstate Commerce? • Transmission facilities do not have to cross state lines if the transaction using the facilities is interstate • See Jersey Central Power & Light v. FPC, 319 U.S. 61 (1943). See also Connecticut Light & Power Co. v. FPC, 324 U.S. 515 (1945).

  24. What Do the Courts Say Concerning Sales for Resale in Interstate Commerce? • What is interstate? • Transmission and/or resale of electricity is interstate if there is a physical interconnection -- direct or indirect between the transmission or power seller and another transmission or power seller in another jurisdiction is tied to the power flows. It is interstate if you are interconnected to a synchronous interstate grid. • See FPC v. Florida Power & Light Company, 404 U.S. 453, reh’g denied, 405 U.S. 948 (1972).

  25. The Bright Line Again in Power • The Federal Power Act created a “bright line” between FERC and state jurisdiction over power sales. • Retail sales are regulated by the states; sales for resale in interstate commerce are regulated by FERC • Power sales for resale in Alaska, Hawaii, and ERCOT are not in interstate commerce • See FPC v. Southern Cal. Edison Co, 376 U.S. 205 (1964). See also Arkansas Electric Cooperative Corp. v. Arkansas Public Service Commission, 461 U.S. 375, 380 (1983). • Little wheeling of power (unbundled transmission service) in interstate commerce occurred until after Open Access and the Energy Policy Act of 1992

  26. A Wrinkle on the Bright Line • Wholesale Sales in interstate commerce are covered even if they use local distribution facilities • Where common facilities are used to serve retail and wholesale load, FERC has jurisdiction over the wholesale transaction • FPC v. Southern Cal. Edison Co., 376 U.S. 205, 210, n.6 (1964).

  27. A Wrinkle on the Bright Line • Electric resales by landlords to tenants are FERC-regulated interstate wholesale rates • City of Oakland, California v. FERC, 754 F. 2d 1378 (9th Cir. 1985)

  28. More on State Commission Authorities • State Commissions • Consumer Complaints • Consumer Protection against Anticompetitive Behavior and unfair trade practices (false, misleading, or fraudulent) • Codes of conduct, regulate affiliate transactions • Prevent financial abuse

  29. More on State Commission Authority • State Commissions also • Regulate billing and metering • Determine and enforce utility disconnection policies • Often regulating to assure distribution-level reliability, including minimizing customer outages

  30. More on State Commission Authority • State commissions • Often approve forecasts • Often approve expansion planning • Sometimes approve integrated resource planning and associated demand response programs • Approve issuance of securities, equity, debt • Sometimes approves siting • Often approves certification of need

  31. Back to the Gas Sector • As noted earlier, everything worked smoothly, with natural gas pipeline regulation and until Phillips Petroleum Co. v. Wisconsin 347 U.S. 674 (1954), the FPC opted not to regulate wellhead gas prices • In 1954, the FPC was required to regulate wellhead gas in interstate commerce • That led to a shortage of gas in the interstate market, while there was abundant gas in the intrastate gas markets. Gas sometimes went through Hinshaw pipelines. 15 U.S.C. sec 717 (c)

  32. The Bright Line in Gas • Gas Interstate Pipelines (except Hinshaw) are regulated by the FERC • Wellhead gas prices are regulated by the FERC until deregulated • Then FERC engages in structural and behavior regulation of the upstream gas market • State commissions regulate local distribution companies and local retail access

  33. The Fallout of Wellhead Gas Price Regulation • The National Gas Policy Act of 1978, Pub. L. No. 95-621, 92 Stat. 3350 (1978) called for phased wellhead gas price decontrol. • Full decontrol of gas wellhead prices in 1989, provided for by the Wellhead Decontrol Act of 1989, Pub. L. No. 101-60, 103 Stat. 157 • In the meantime, because of bundled sales of gas and transmission, there was limited access to low-cost gas

  34. The Fallout of Wellhead Gas Price Regulation • To remedy the limited access to low-cost gas, FERC Order 380 invalidated take-or-pay contracts which eventually resulted in the elimination of pipeline minimum bills.

  35. The Fallout of Wellhead Gas Price Regulation • FERC allowed Special Marketing Programs (SMPs) to help ease pipeline requirements under take-or-pay contracts • SMPs permitted local distribution companies and large volume industrial customers to purchase gas directly from marketers and producers • Invalidated as unduly discriminatory in Maryland People’s Counsel v. FERC (DC Cir. 1985) • FERC was required to devise regulations that would permit all pipeline customers the ability to have unbundled transportation service.

  36. FERC’s Open Access Response • FERC Order 436, FERC Stats. & Regs. Para. 30,665 (1985) • In response to Maryland Peoples’ Counsel, the FERC issued regulations initiating non-discriminatory, open access gas transporation • Allowed downstream buyers to purchase directly from producers/marketers with transportation service on interstate pipelines • Pipelines were permitted to continue bundled sales • Modified Fix Variable (MFV) rate design

  37. FERC’s Open Access Response • FERC Order 497 (1988) • Adopted interstate pipeline marketer affiliate rules for activities of marketing affiliates • Established guidelines for sharing insider information • Required disclosure of information regarding affiliate transactions

  38. FERC Provides for Settling Take-or-Pay (Stranded Costs) • FERC Orders 500, 500-A through H, FERC Stat. & Regs. Para. 30,761, et al. (1989) • Provided mechanisms for settling take-or-pay contract buy-outs (stranded costs) as a result of FERC Order 436 • Generally 11 cents on a $1

  39. FERC Requires Vertical Unbundling • FERC Order 636, FERC Stat. & Regs. Para. 30,939 & 30,950 (April 1992) • This order is the final significant change after FERC Order 436. • To enhance natural gas sale competition, it required the unbundling of sales from transportation • Pipelines were removed from the merchant function • Pipelines were precluded from retaining upstream pipeline capacity

  40. FERC Requires Vertical Unbundling • FERC Order 636 • Adopted a Straight-Fixed Variable (SFV) rate design -- it provides an incentive to maximize pipeline throughput and allows gas to compete with alternative fuels on a timely basis • Pipelines are required to offer • Unbundled no-notice firm transportation service • Firm transportation service • Open access storage • Capacity release programs / secondary market for pipeline capacity

  41. FERC Fine Tunes the Market • FERC Order 637, FERC Stat. & Regs., para. 31,091 (2000) • Requires enhanced pipeline services for balancing and load control • Revised scheduling, pipeline segmentation rights, imbalancing,and operation flow orders • Revised price caps on the secondary markets • Provided greater flexibility to pipeline customers • Tightened operation flow order & penalty parameters • Clarified right of first refusal

  42. FERC Provides for Short-Term Capacity Market • FERC Order 712 on Capacity Release, FERC Stat. & Regs., para. 31,271 (2008) • Allows market-based pricing of short-term capacity releases, but not long-term and not for sales of primary capacity • Facilitates asset management arrangements • Clarifies rules on releases of storage capacity • Waives rules for capacity releases in state unbundling programs • Provides no waiver of shipper-must-have-title requirement

  43. FERC Provides for Greater Market Transparency • FERC Order 710 -- Form 2 Reform, , FERC Stat. & Regs. Para 19,389 (2008) • Permits more effective oversight by the FERC, pipeline customers, and the public by improving information transparency • Requires additional and more detailed information on the disposition of shipper-supplied gas, affiliate transactions, incremental rate facilities, and deferred taxes • Facilitates the filing of undue discrimination claims under NGA section 5

  44. Gas Pipeline Certification • The principal reason that new gas pipelines are needed are to take new sources of gas to market. • New sources include unconventional gas, Alaska natural gas, and LNG. • Unconventional gas and LNG are being developed now. Alaska gas is in the future.

  45. Gas-Fired Generation Gas-fired generation has about one-fourth the carbon emissions per kwh as coal. It’s the lowest of any of the fossil fuels. • There is an abundance of gas, albeit not necessarily cheap gas • Gas fired generation has the lowest capital costs, is reliable (except when there is no fuel), and can be built quickly on a commercial scale. • To expand, gas fired generation needs new sources of gas and more pipelines

  46. State of Federal Gas Regulation • Contract carriage of natural gas pipelines • Pipelines regulated because of monopoly characteristics • Rules of the market are the result of attempting to balance the interests of the stakeholders • Pipeline expansion being driven by market forces

  47. Shifting Sands: The Resultant State Gas Sector Regulation • Without ever crossing the bright line, FERC changed the industry structure • State commissions must now worry about gas purchase adjustments and gas purchase portfolios for their local distribution companies • States regulate marketers and brokers providing direct retail access to wellhead • Still traditional regulation of revenue and rates, except for the pressure to adopt revenue decoupling

  48. The Mobile-Sierra Doctrine • Rates, terms, and conditions of interstate electric service embodied in contractual agreements, while subject to FERC regulation, are entitled to a presumption of reasonableness. See United Gas Pipeline Co. v. Mobile Service Corp., 360 U.S. 332 (1956) and FPC v. Sierra Pacific Power Co., 350 U.S. 348 (1956). The doctrine was later extended to market-based rates. Morgan Stanley Capital Group, Inc. v. Public Utility District #1, No. 06-1457 (S. Ct. June 26, 2008)

  49. The Mobile-Sierra Doctrine • Can be modified by the FERC only if the party challenging the agreement can meet the relatively high burden of demonstrating that the rates or terms of services are contrary to the public interest (as contrasted with the private interests of the parties).

  50. The Mobile-Sierra Doctrine • The Mobile-Sierra Doctrine drives bilateral and now market-based wholesale contract rates • States cannot challenge because of the Narragansett Doctrine, unless the Pike County Exception applies

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