On March 15, 2011, the Commission issued Order No. 745, “Demand Response Compensation in Organized Wholesale Energy Markets” (“Order No. 745” or the “Final Rule”).  Order No. 745 required that organized wholesale energy markets administered by a Regional Transmission Organization (“RTO”) or Independent System Operator (“ISO”) compensate demand response resources at the market price for energy, or locational marginal price (“LMP”), if the demand resource is able to displace a generation resource in an RTO/ISO effort to balance supply and demand and when proscribed by a new “net benefits test.”  The net benefits test will be used to evaluate when dispatch of the demand response resource is cost-effective.

The Commission’s Order No. 745 is designed to address compensation levels that “inhibit meaningful demand-side participation.”  The Commission built upon the March 18, 2010 Notice of Proposed Rulemaking, which proposed to deal with concerns about compensation for demand-side resources and participation levels. (see March 26, 2010 edition of the WER).   The Commission determined that a demand response resource in an RTO or ISO must be compensated for the service it provides at the LMP if that resource is cost effective, as determined by a net-benefits test, described further below.  FERC directed each RTO and ISO to establish a mechanism to determine the price level where dispatch of demand response resources will be cost effective, using historical data and monthly threshold price levels.  Further, the Commission directed that tariff changes be submitted as compliance filings under Order No. 745, not under section 205 of the Federal Power Act (“FPA”).   Market operators are also required to file by September 21, 2012 the results of a study to determine when paying demand response resources the LMP results in net benefits to customers, using the billing unit effect in the dispatch algorithm, or a so-called “dynamic approach.”

In order to satisfy the net-benefits test, under Order No. 745, an RTO/ISO must analyze historical data on a monthly basis to determine a price threshold where customer net benefits would occur.  This would correspond at the point for each month beyond where the benefit to load from the reduced LMP as a result of dispatching demand response resources exceeds the increased cost to load associated with the “billing unit” effect.  The “billing unit” effect refers to an increase cost per unit of remaining wholesale load after demand response is dispatched, and load is decreased.  The Commission-approved net-benefits test “methodology” must be posted on each RTO/ISO website.

Notably, Commissioner Philip Moeller issued a ten page dissent to Order No. 745, preferring to allow organized markets to “continue to develop their own rules” regarding demand response compensation.  Commission Moeller stated that the Final Rule imposed a “standardized and preferential compensation scheme” which conflicts with the Commission’s statutory mandate to “ensure supplies of electric energy at just, reasonable, and not unduly discriminatory or preferential rates,” and its efforts to “promote competitive markets.”  Commissioner Moeller expressed concern that the Final Rule granted preferential treatment to demand response resources in some instances and unduly discriminated against them in others, in the case of the application of a net-benefits test.  The net-benefits test, he argued, will distort price signals and attract demand response at a level that is not economically efficient.  Commissioner Moeller warned that the Final Rule will lead to inefficiencies that will result in customers experiencing a short-term benefit of a lower LMP, but a long-term cost on the energy markets.  Demand response providers under the Final Rule will receive more than the market price in order to curtail their consumption, and will then make inefficient decisions about usage.  Commissioner Moeller could not support the Final Rule, as he found that it would negatively impact the long-term competitiveness of the organized wholesale markets.  At the FERC monthly meeting on March 17, Commissioner Moeller explained that he is concerned about overcompensation, particularly in this economy, and emphasized that overcompensation can kill jobs.  He explained that the ultimate demand response is to develop dynamic retail pricing, but that is not within FERC’s jurisdiction.

 A copy of the Commission’s Order is available at www.ferc.gov and here.