Texas regulators will take a fresh look at an eight-year-old rule that allows certain electricity generators to “swim free” of safeguards against manipulation of the wholesale energy market — a practice that critics say can lead to higher bills for consumers.
An energy trading company is asking the Public Utility Commission to nix its “small fish, swim free” rule, which gives small electricity generators — those said to individually control less than 5 percent of installed capacity on the Texas grid — an absolute defense against allegations of market power abuse.
In a petition filed in late April, Raiden Commodities, a Virgin Islands-based company that trades on the market run by the Electric Reliability Council of Texas, says the loophole enables small generators to operate with virtually no scrutiny.
“It’s a product of bad market design,” said Barry Hammond, an attorney representing the trading company. “It creates incentives for people to manipulate the market to their benefit. This manipulation can lead to higher consumer and industrial prices.”
No party has filed a public comment on the petition, which the PUC has until late June to act on.
The filing comes as Raiden and Houston-based Aspire Commodities have filed a federal lawsuit against Houston-based GDF Suez Energy North America and its subsidiaries, accusing them of exploiting the company's small fish status to withhold electricity generation during times of tight supply to artificially drive up energy prices and later profit in its trades on the commodities futures market.
Julie Vitek, a Suez spokeswoman, declined to discuss specifics of the case or the petition. “We believe that all of our actions have been fully transparent and compliant with applicable regulations,” she said. “We will defend our position vigorously.”
Under the premise of the small fish rule, which does not exist in other U.S. energy markets, small generators lack the market share to manipulate prices. Recent analyses, however, have shown that small generators could have that ability at certain times. Though consumer advocates have not officially weighed in on the petition, some have spoken out before on the small fish rule, saying it could spark higher energy prices.
“A loophole allowing some generation companies to abuse the market should be closed,” said a 2010 news release by the Cities Aggregation Power Project, which is now known as the Texas Coalition for Affordable Power.
“Market power,” according to a 2006 PUC rule, is “the ability to control prices or exclude competition” in a market. The rule defines “abuse” of such power as practices that are “unreasonably discriminatory or tend to unreasonably restrict, impair or reduce the level of competition.” Examples of such practices include predatory pricing, withholding of production, precluding entry and collusion.
Charges of such abuse are not unheard of. In 2005, for example, state investigators accused TXU Corp. (now called Luminant) of controlling such a large share of the power-generation market that it was able to drive up wholesale electricity prices. Despite a recommended fine of $210 million, Luminant ended up paying $15 million as part of a settlement in which it denied wrongdoing.
Small generators, according to the rule, are “deemed not to have market power,” meaning that that regulators cannot issue penalties for abuse, such as hefty fines.
“Even if there was an ability to show an abuse of market power,” said Beth Garza, acting director of Potomac Economics’ ERCOT Independent Market Monitoring group, an ERCOT-funded position created by the Legislature in 2005, “that could not be a PUC finding” of abuse.
Under typical market conditions, power plants will add power to the grid when the market price eclipses the costs of production. The small fish loophole was intended to give those smaller generators leeway to ask for higher prices when the grid is strained to help those companies recoup the fixed costs of turning on seldom-used plants.
One way that generators could manipulate the market is to withhold electricity during times of tight supply — when air conditioners are humming on hot summer days, for instance — to ultimately sell power at a higher price.
In an analysis of 2011 and 2012 market data, Potomac Economics found that there were more than 450 hours during those two years in which a “large” small fish “would be pivotal and able through their offers to increase the market clearing price.”
“Although 5 percent of total ERCOT capacity may seem like a small amount,” Potomac wrote in a 2012 report detailing the findings, “the potential market impacts of a market participant whose size is just under the 5 percent threshold choosing to exercise flexibility and offering a significant portion of their fleet at very high prices could be large.”
It’s not clear why the PUC landed on 5 percent as the threshold for small fish generators. A look through more than 140 PUC filings related to the rulemaking showed some discussion between commissioners, but no analysis.
“It’s a good question, but I just can’t seem to find the answer,” said Terry Hadley, spokesman for the commission.
Ken Anderson, the only one of three PUC commissioners who was available for comment for this article, was not on the commission when it was considering the small fish rule. He said he would wait for more information before determining his vote on the petition. But he also said he doubted that small generators were making such moves, which could prove financially risky, and that that market forces were enough to discourage such behavior.
“It’s a risky strategy to withhold your generation when you don’t own very much, because the lost opportunity cost is that much higher,” Anderson said. “If you do that too often and you bet wrong, you’re going to be losing more money than you have the possibility to make.”
In a lawsuit filed last month in U.S. District Court in Houston, Raiden and Aspire allege that such risks do not deter Suez. The lawsuit alleges the company makes up for energy market losses elsewhere — “namely by trading with inside, superior knowledge on commodities markets.”
Citing ERCOT data, the traders accuse the company of “knowing and reckless manipulation of the commodities markets,” causing the traders to lose as much as $4 million on a single day and artificially driving up power prices that are passed on to consumers.
In December, an analysis of ERCOT data by the energy publication Platts showed that Suez was able to raise the gridwide price of 564 to 1,332 megawatts of electricity near the market's $5,000 cap — typically for about an hour during late afternoons. (During peak times, ERCOT manages about 74,000 megawatts of capacity.)
The lawsuit alleges that Suez violated the federal Commodities Exchange Act, using the small fish exemption as protection. The company sits just below the 5 percent generation threshold.
Asked whether Potomac has examined accusations against Suez, Garza only said, “Potomac regularly and routinely reviews the offers submitted by all market participants in the ERCOT market.”
Anderson said he could not comment on the lawsuit, but added that if the allegations were credible, “it’s outside the purview of the PUCT.”
Disclosure: Luminant is a subsidiary of Energy Future Holdings, which was a corporate sponsor of The Texas Tribune in 2011 and 2012. A complete list of Texas Tribune donors and sponsors can be viewed here.
This article originally appeared in The Texas Tribune at http://www.texastribune.org/2014/05/07/puc-mull-small-fish-loophole-price-manipulation/.