On May 21, 2020, FERC found PJM Interconnection, L.LC.’s (“PJM”) existing reserve market design to be unjust and unreasonable and established a replacement market design that includes, among other elements, a downward-sloping Operating Reserve Demand Curve (“ORCD”) and a $2,000/MWh price ceiling. In addition, FERC found that the changes to PJM’s reserve market would render PJM’s existing methodology for calculating its energy and ancillary services offset (“E&AS Offset”) unjust and unreasonable, and directed PJM to implement a forward-looking E&AS Offset on compliance. In a separate dissenting statement, Commissioner Richard Glick stated that PJM’s proposal would result in over procurement of reserves and impose billions of dollars of additional costs on consumers. Pointing to FERC’s recent orders accepting PJM’s Variable Resource Requirement Curve (see April 23, 2020 edition of the WER) and Minimum Offer Price Rule (see April 22, 2020 edition of the WER), Commissioner Glick characterized the May 21 order as the latest installment in a series of decisions prioritizing high prices over efficient markets.

In order to balance load and generation, PJM lines up reserves—i.e., generation resources that are not scheduled to serve load during a target period of time, but are capable of providing energy on short notice if needed. PJM proposed changes to its reserve market design in March 2019, explaining that its reserve market design failed to: (1) acquire the reserves necessary for PJM to operate its system reliably; (2) yield market prices that reasonably reflect the marginal cost of procuring reserves; and (3) send appropriate price signals for efficient resource investment.

FERC’s May 21 order agreed that PJM’s existing reserve market design is unjust and unreasonable, among other things, pointing out that nearly half of the revenue for procuring reserves is paid through out-of-market payments rather than through market-clearing prices. In addition, FERC largely accepted PJM’s proposed replacement reserve market design, including its proposals to raise the ORCD price ceiling to $2,000/MWh and to adopt a downward-sloping ORCD rather than the existing vertical-stepped curve. FERC explained that the $2,000/MWh ceiling would more accurately reflect the opportunity cost of resources bidding into the reserve market; that a downward-sloping demand curve would better quantify the incremental reliability benefits of each unit of reserves procured in excess of PJM’s minimum reserve requirements; and that a downward-sloping curve would send more accurate price signals for investment in and retention of reserve resources.

FERC also ordered PJM to submit a compliance filing to implement a forward-looking E&AS Offset. The E&AS Offset is an estimate of the energy and ancillary services revenues that a theoretical reference resource will receive in a given Delivery Year, and also impacts PJM’s capacity market demand curve, offer caps, and minimum offer price floors. Although PJM had not proposed changes to its E&AS Offset, FERC concluded pursuant to its authority under Federal Power Act section 206 that the historic E&AS Offset previously in use was no longer just and reasonable given the significant revisions to PJM’s reserve market design. FERC concluded that moving to a forward-looking E&AS Offset would avoid price volatility that could undermine investment incentives, and would better estimate energy and ancillary services revenues in a given Delivery Year.

Commissioner Glick issued a separate dissenting opinion, in which he stated his position that PJM failed to show that its existing reserve market design is unjust and unreasonable, or that its proposed replacement design is just and reasonable. Commissioner Glick explained his view that the $2,000/MWh ceiling was overstated, and that the downward-sloping ORCD would result in PJM procuring reserves in excess of its reserve requirements as if it were facing a reserve shortage. According to Commissioner Glick, these unneeded reserves could increase costs to consumers by between $500 million and $2 billion per year without corresponding benefits to reliability. However, Commissioner Glick supported FERC’s decision to implement a forward-looking E&AS Offset, explaining that the change would mitigate the costs associated with PJM’s proposal by reducing capacity market prices accordingly.

FERC’s May 21 order is available here.