NATURAL GAS

Who pays for new pipeline infrastructure? FERC, electricity market at impasse

The nation's pipeline industry and merchant electric power sector remain on a collision course over the need to expand the gas infrastructure to ensure enough future delivery capacity for expanding gas-fired generation, officials on both sides say.

As the Federal Energy Regulatory Commission prepares to hold five regional conferences on natural gas-electric power coordination issues next month, no significant movement toward a solution has appeared. But the issues grow apace with the expansion of electricity generation drawing on new production from shale gas resources.

Leaders of the natural gas pipeline industry are holding to their traditional practice that requires customers who need gas to sign long-term contracts for its delivery -- then, and only then, will be pipelines be built.

"Generally, across the board, the electricity market is not stepping up ... to contract for the reliability that they seek from the gas-fired generators," said Richard Kruse, vice president of regulatory affairs for Spectra Energy Corp., which operates 19,000 miles of natural gas pipelines. Through its Algonquin pipeline division, it is a key supplier of fuel to gas-fired power plants in New England, where the pipeline-power issue is most pressing.

"We hear all the time from gas-fired generation in New England, 'We cannot afford pipeline capacity if we don't get paid to hold that capacity,'" Kruse told reporters at a press briefing Friday sponsored by the Interstate Natural Gas Association of America (INGAA).

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"When people step up and say they want to sign up for contracts, that's when we'll start working on the infrastructure that they need," Kruse said.

On the other side, the bottom line of merchant electric power plants hasn't changed. Eighty percent of their revenues comes from short-term power that they offer for sale in competitive markets; when a power plant that contracts for gas long-term cannot beat its competition hour by hour, it doesn't run, and it will be paying for gas it cannot use, said John Shelk, president of the Electric Power Supply Association (EPSA), representing the U.S. merchant power plants.

"In the end, you can't force somebody to pay for something over a longer term than the product they're selling," Shelk said, pinpointing the conflict between long-term gas contracts and short-term power sales.

The power companies' dilemma is apparent, said INGAA CEO Don Santa. "You can't reasonably expect somebody to contract for a set of pipeline services if they don't have some assurance or confidence that they're going to be able to cover that cost in the price they get for what they're selling," Santa said.

That puts the ball squarely in FERC's court, because of its statutory responsibility to oversee the reliability of the interstate power grid, he said.

"While we want to encourage consensus-building exercises, encouraging dialogue, at some point in time I think the commission is probably going to have to make some real threshold decisions here as to how to deal with these issues," he added. "I don't think they [the issues] are prone to quick resolution via consensus.

"Quite frankly, [FERC commissioners] probably going to have to break a few eggs to make this omelet," Santa said.

Gray areas

But FERC's authority to order a solution is not carved clearly in stone, some experts say.

"FERC has reliability authority over the bulk power system under Section 215 of the Federal Power Act," said energy attorney Linda Stuntz, a former deputy Energy secretary. "But Congress was very specific [in the 2005 Energy Policy Act]. That authority does not extend to the adequacy of supply. It's running the system that exists in a safe, reliable manner."

There are gray areas. The regional grid managers that FERC regulates do set conditions for generators that bid to provide future generation capacity in competitive markets. But FERC regulatory initiatives to expand its authority typically trigger a deluge of time-consuming legal challenges, and this front would likely be no different, Stuntz said.

"I haven't seen an analysis that lays out the basis for that authority" for FERC, Shelk said.

Shelk said the issue does not need to go on a fast track at FERC.

"We do agree the policy call should be made by FERC," he said. "While it is an important subject, it's not that we have to hit the panic button. We've had record heat this summer, and therefore record demand, and it's being met by a record amount of natural gas."

Kruse said that time is not on the power industry's side in New England. Power generators' average daily gas usage on Algonquin's system jumped from around 200,000 decatherms [a decatherm is equal to 1 million British thermal units] per day in mid-2009 to 400,000 decatherms at the end of last year, he said. Generators held contracts for firm rights to move 125,000 decatherms on Algonquin per day -- 20 percent of what they used. But the summer peak demand has grown close to pipeline capacity, he said.

By not holding more firm transmission capacity, gas generators are relying on firm customers or secondary market participants to release spare pipeline capacity, he said. "From the pipeline's perspective, that's not bad news," he said.

"The bad news is that if all the LDCs [gas distribution utilities] on a cold day recall their capacity, you're going to see a shortfall in pipeline capacity ... to serve gas-fired generation," Kruse said.

Spectra commissioned a consultants' study calculating that New England could achieve between $240 million and $300 million in long-term cost savings if the region invested $150 million in new gas pipeline capacity. "You could almost see a 2-to-1 savings, or even more, if we can figure out ... who's going to pay for it," Kruse said.

The problem is most urgent for New England," he said. "If you think you have a problem two years from now, now is the time to make a decision and contract for pipeline capacity." It may grow in significance for the Midwest, too, as more coal-fired generation is retired, Santa said.

Shelk said a full-fledged debate over pipeline financing may go in ways the pipeline industry might not prefer. "If they are looking for assured financing from us, that substantially lowers or eliminates the risk that they face, in which case, their approved rate of return from FERC ought to go down substantially. They'd better be a little careful in starting a debate over how pipelines are financed."

There is no apparent enthusiasm for attacking the issue through state regulation of local gas and utility obligations to serve, however. Ultimately, households and businesses are the customers that pay for electricity and gas for heating and have a direct interest in assuring reliable delivery of both.

"I don't think the retail customer is obliged to pay for capacity in a socialized manner so that it stands ready for the electrical generator," Santa said. "I think the electricity customer should be the one to pay for that.

"If a local distribution company voluntarily wanted to propose that in some fashion and could both get it past the consumer council and whoever is representing the retail rate payers and protecting their interests, have at it. But you have to recognize that, in many instances, the local gas distribution companies compete against the electric utilities for customers. If you are competing, why would you want to saddle the gas customers with paying the costs of subsidizing the electricity service? It's a vexing problem," Santa said.

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