Electricity Restructuring: FERC Could Take Additional Steps to Analyze Regional Transmission Organizations' Benefits and Performance
Published: 2008-09-22T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: In 1999, as a part of federal efforts to restructure the electricity industry, the Federal Energy Regulatory Commission (FERC) began encouraging the voluntary formation of Regional Transmission Organizations (RTO)--independent entities to manage regional networks of electric transmission lines. FERC oversees six RTOs that cover part or all of 35 states and D.C. and serve over half of U.S. electricity demand. As electricity prices increase, stakeholders-- organizations and individuals with financial and regulatory interest in the electricity industry--have voiced concerns about RTO benefits and how RTO expenses and decisions influence electricity prices. GAO was asked to review (1) RTO expenses and key investments in property, plant, and equipment from 2002 to 2006, the most current data available; (2) how RTOs and FERC review RTO expenses and decisions that may affect electricity prices; and (3) the extent to which there is consensus about RTO benefits. To do so, GAO reviewed documentation and data and spoke with FERC officials and experts.
section_title: What GAO Found
paragraphs: RTO expenses and investments in property, plant, and equipment vary, depending on the size of the RTO and its functions. Expenses for the six RTOs FERC oversees totaled $4.8 billion from 2002 to 2006, and property, plant, and equipment investments totaled $1.6 billion as of December 2006. RTOs and FERC rely on stakeholder participation to identify and resolve concerns about RTO expenses and decisions that affect electricity prices, such as decisions about reliability and whether to develop markets for electricity and other services. The stakeholders GAO spoke with in two RTO regions value the opportunity for input but have concerns about the resources and information required to participate. Moreover, although regular review of RTO budgets could help FERC with its responsibility to ensure RTO rates remain just and reasonable or determine if a new rate proceeding is needed, FERC's review of RTO budgets varies. Furthermore, while FERC requires RTOs to report actual expenses annually, it does not regularly review this information for accuracy or reasonableness and is at risk of using and providing to the public inaccurate and incomplete information. FERC officials, industry participants, and experts lack consensus on whether RTOs have brought benefits to their regions. Many agree that RTOs have improved the management of the transmission grid and improved generator access to it; however, there is no consensus about whether RTO markets provide benefits to consumers or how they have influenced consumer electricity prices. FERC officials believe RTOs have resulted in benefits; however, FERC has not conducted an empirical analysis of RTO performance or developed a comprehensive set of publicly available, standardized measures to evaluate such performance. Without such measures, FERC will remain unable to demonstrate the extent to which RTOs provide consumers and others with benefits--information that could aid FERC in its evaluation of its decision to encourage the creation of RTOs and help address divisions about which benefits RTOs have provided.

section_title: Letter
paragraphs: The efficient and reliable operation of the electricity industry is critical to  the health of the U.S. economy and well-being of Americans. Residential  consumers rely on electricity to power their households, and electricity is  a key input for businesses that produce trillions of dollars in products and  services. Consumer expenditures for electricity amounted to $343 billion  in 2007, the most recent year for which annual data were available. After  declining in the late 1990s, retail electricity prices rose to an average of  nearly 9 cents per kilowatt hour (KWh) in 2006, an almost 9 percent  increase from 2005 and the largest annual increase since 1982. Prices  surpassed 9 cents per KWh in 2007, and a number of experts anticipate  continued price increases in coming years. These rising prices have  spurred some to question whether federal policies to introduce  competition into electricity markets and new entities to facilitate that  change—referred to in this report as wholesale restructuring—have  brought improvements or whether they themselves are responsible for  rising prices.
For many years, the electricity industry has consisted of regional  monopolies that were regulated by states—generally through state utility  commissions—and the federal government—through the Federal Energy  Regulatory Commission (FERC). During the 1990s, efforts were made to  transform the electricity industry from one characterized by monopoly  utilities that provided local consumers with electricity at regulated rates to  one in which companies compete to sell electricity to customers at prices  that are determined under more competitive conditions. This  restructuring took place in response to statutory and regulatory changes at  the federal level and in many states. The overall goal of this broad  restructuring was to increase competition in wholesale markets—where  power is bought and sold by utilities and other resellers—and retail  markets—where power is sold to the ultimate consumer—with the goal of  giving electricity consumers benefits such as lower prices and access to a  wider array of retail services. Many stakeholders—organizations and  individuals with financial and regulatory interest in the electricity industry,  including consumer advocacy groups, owners of generation and  transmission resources, and others—are interested in whether  restructuring has achieved its goals, and how it may have affected prices  that consumers pay.
In 1999, as a part of the wholesale restructuring effort, FERC began  encouraging the voluntary formation of Regional Transmission  Organizations (RTO)—independent entities to manage regional networks  of electric transmission lines, called the grid, and give market participants,  such as owners of power plants and other sellers of electricity,  nondiscriminatory access to these lines. To form an RTO, owners of  transmission lines voluntarily agree to turn over operational authority–– but not ownership––of their lines to the RTO. FERC encouraged the  formation of RTOs to, among other things, improve the pricing of  transmission service and ease the entry of new generators, thus promoting  efficiency in wholesale electricity markets and ensuring consumers pay  the lowest possible price for reliable service. As part of its evaluation of  whether to create RTOs, FERC estimated that RTOs could provide  significant benefits such as enhanced electric reliability, improved  efficiencies in the management of electricity transmission, and lower  electricity prices for consumers, among others. FERC estimated the  benefits of RTOs to be at least $2.4 billion annually, due to cost savings  from the improved operational efficiency of generators, easier access to  transmission service, and other factors.
To date, seven RTOs have developed across the United States, covering  part or all of 35 states and the District of Columbia and serving over half of  U.S. demand. These RTOs vary in the amount of electricity transmission  they manage and the size of territory they serve. Their functions generally  include administering electricity transmission, managing and monitoring  the competitiveness of wholesale markets for electricity and other  services, and planning for long-term reliability.
In parts of the United States with RTOs, wholesale electricity prices are  related to decisions RTOs make about system reliability, transmission  planning and how to design markets that establish prices for electricity and  other services, as well as the operational and investment expenses of RTOs  that are recovered through FERC-approved rates. The prices consumers  ultimately pay for electricity are affected by the wholesale price, as well as a  number of decisions made by regulators about transmission and distribution,  among other things, and by the price of fuel used to generate electricity.  FERC has statutory responsibility to ensure that prices in wholesale  electricity markets—including those administered by RTOs—are “just and  reasonable” and not “unduly discriminatory or preferential.” To do so, it  reviews and approves RTO market rules and monitors the competitiveness of  RTO markets. FERC is also responsible for ensuring the rates RTOs charge  customers to recover expenses—capital expenses, such as software needed  to administer electricity markets, and operational expenses, such as salaries  and benefits—are just and reasonable. To do so, FERC conducts formal rate  proceedings in which it considers information about proposed RTO expenses  and comments from interested parties, though the proceedings may not occur  annually. In certain circumstances, it may also consider other sources of  information on RTO expenses, including budgets RTOs develop annually that  contain information on proposed expenses and an annual financial report— the FERC Form No. 1—that contains information on actual RTO expenses. If  necessary, such as when facts are in dispute, FERC may hold a trial-type  evidentiary hearing before an administrative law judge before determining the  rates for an RTO. Stakeholders also play a role in reviewing RTO expenses  and decisions that affect electricity prices by providing comments to the  RTOs and FERC.
A number of industry participants have voiced concerns about how RTO  expenses and decisions influence electricity prices and whether RTO costs  outweigh their benefits. Generally speaking, RTO expenses are small  compared to wholesale electricity prices. For example, ISO New England’s  non-inflation-adjusted expenses were 87 cents per megawatt hour (MWh) in  2006; its average wholesale electricity price was $62.74 per MWh that same  year. Because of the potential for RTO markets to influence wholesale, and  ultimately consumer, prices, some of consumers’ most significant concerns  relate to RTO decisions about developing and operating markets for  electricity and other services. Experts from industry and the academic  community have begun to evaluate these issues, as well as the broader effects  of restructuring. In this context, this report provides information about the  steps FERC officials and other experts have taken to analyze RTO expenses  and benefits. Specifically, this report provides information on (1) RTO  expenses from 2002 to 2006 and key investments in property, plant, and  equipment; (2) how RTOs and FERC review RTO expenses and decisions that  may affect electricity prices; and (3) the extent to which there is consensus  about whether RTOs have provided benefits to consumers.
To determine the total expenses incurred by RTOs from 2002 to 2006, the  most current year for which data were available when we began our review,  and their key investments in property, plant, and equipment, we reviewed  independent public auditor reports over this period, as well as information  the RTOs reported on their full-time-equivalent personnel and transmission  volume. We also reviewed 2006 financial information the RTOs submitted to  FERC. We adjusted all expense amounts for inflation with 2007 as the base  year. We focused on six RTOs during our study: California ISO, ISO New  England, Midwest ISO, New York ISO, PJM Interconnection (PJM), and  Southwest Power Pool. We did not consider the seventh, the Electric  Reliability Council of Texas, because it is primarily regulated by the Public  Utility Commission of Texas, rather than FERC. To determine how FERC and  RTOs review RTO expenses and decisions, we collected broad information  from these six RTOs about their analysis of expenses and their decision- making processes. We also conducted site visits and collected more in-depth  information for two RTOs—ISO New England and the Midwest ISO. In  addition, we spoke with FERC officials and reviewed related documentation  that outlined FERC’s steps to review RTO expenses for reasonableness. While  we generally considered FERC’s oversight of RTO decisions, we did not  perform an in-depth analysis of FERC’s review of specific RTO decisions that  may affect electricity prices. Finally, to understand the extent to which there  is consensus about whether RTOs have provided benefits to consumers, we  interviewed FERC officials and reviewed related documentation, including  FERC’s initial assessment of RTO expected benefits and academic and  industry studies. We also interviewed several experts in the field of electricity  restructuring to discuss their opinions on the benefits and costs of RTOs and  their assessments of the adequacy of FERC’s analysis of RTOs to date. We  conducted this performance audit from October 2007 to September 2008 in  accordance with generally accepted government auditing standards. Those  standards require that we plan and perform the audit to obtain sufficient,  appropriate evidence to provide a reasonable basis for our findings and  conclusions based on our audit objectives. We believe that the evidence  obtained provides a reasonable basis for our findings and conclusions based  on our audit objectives. A more complete discussion of our scope and  methodology is provided in appendix I of this report.
subsections: section_title: Background
paragraphs: The electricity industry includes four distinct functions: generation,  transmission, distribution, and system operations. Once electricity is  generated—whether by burning fossil fuels; through nuclear fission; or by  harnessing wind, solar, geothermal, or hydro energy—it is sent through  high-voltage, high-capacity transmission lines to areas where it will be  used. Once there, electricity is transformed to a lower voltage and sent  through local distribution wires for end use by industrial plants,  businesses, and residential customers. Because electric energy is  generated and consumed almost instantaneously, the operation of an  electric power system requires that a system operator constantly balance  the generation and consumption of power.
Historically, the electric industry developed as a loosely connected  structure of individual monopoly utility companies, each building and  operating power plants and transmission and distribution lines to serve  the exclusive needs of all the consumers in its local area. Because these  companies were monopolies, they were overseen by regulators who  balanced different stakeholder interests in order to protect consumers  from unfair pricing and other undesirable behavior. Retail electricity  prices were regulated by the states, generally through state public utility  commissions. States retained regulatory authority over retail sales of  electricity, construction of transmission lines within their boundaries, and  intrastate distribution. Generally, states set retail rates based on the  utility’s cost of production plus a fair rate of return. States also approved  plans and spending for building new power plants to serve regulated  customers. In contrast, wholesale electricity pricing and interstate  transmission were regulated by the federal government, principally FERC.  Under law, FERC has the obligation to ensure that the rates it oversees are  “just and reasonable” and not “unduly discriminatory or preferential.” To  meet this responsibility, FERC approved rates for transmission and  wholesale sales of electricity in interstate commerce based on the utilities’  costs of production plus a fair rate of return on the utilities’ investment.
Since the early 1990s, the federal government has taken a series of steps to  restructure the wholesale electricity industry, generally focused on  increasing competition in wholesale markets. Federal restructuring efforts  have (1) changed how electricity prices are determined, replacing cost- based regulated rates with market-based pricing in many wholesale  electricity markets, and (2) allowed new companies to enter electricity  markets. Some of these efforts have focused on allowing nontraditional  utilities to buy and sell electricity in wholesale markets, while others have  focused on allowing nontraditional utilities to build new power plants and  sell electricity to utilities and others.
To facilitate formation of these markets and these companies’ efforts to  buy and sell electricity, FERC initially required that transmission owners  under its jurisdiction, generally large utilities, allow all other entities to use  their transmission lines under the same prices, terms, and conditions as  those they apply to themselves. To do this, FERC required the regulated  monopoly utilities—which had historically owned the power plants,  transmission systems, and distribution lines—to separate their generation  and transmission functions, and encouraged these companies to form  independent entities, called Independent System Operators (ISO), to  manage the transmission network. In recognition that these initial efforts  were not sufficient, FERC issued Order 2000 in December 1999 to  encourage owners of transmission systems to develop more robust  organizations, called RTOs, to manage the transmission networks and  perform other functions that FERC believed were important. FERC  believed RTOs were needed to address impediments to competitive  wholesale markets: growing stresses on the transmission grid and  remaining discrimination in the provision of transmission service— transmission owners operating their grids in a way that favored their own  interests over those of their competitors. FERC Order 2000 encouraged,  but did not mandate, that transmission owners join RTOs and allowed  companies engaged in purchase and sale of electricity in markets to  continue to own power plants, retail utilities, distribution lines,  transmission lines, and other assets regulated by FERC or the states.
FERC outlined minimum characteristics that RTOs were to have:  independence from control by any market participant, sufficient scope to  maintain reliability and support nondiscriminatory power markets,  operational authority for transmission facilities under their control, and  exclusive authority for maintaining the short-term reliability of the grid  they operate. Appendix II describes these characteristics in more detail. In  Order 2000, FERC opined that RTOs would achieve the following benefits:    eliminate multiple charges incurred when crossing transmission  systems owned by different utilities,  improve management of electricity congestion––bottlenecks resulting  from insufficient transmission capacity to accommodate all requests to  transport power and maintain adequate safety margins for reliability,    provide more accurate estimates of transmission system capacity—the  amount of electric power the transmission system can manage,  increase efficiency in planning for transmission and generation  investments;  improve grid reliability, and  reduce opportunities for discriminatory transmission practices.
FERC expected the formation of RTOs to result in significant cost  reductions, additional efficiencies, and better wholesale market  performance, ultimately lowering prices for electricity consumers.  Specifically, it estimated RTOs would bring at least $2.4 billion in annual  benefits to the industry. Because of their independence, FERC expected  RTOs to lead to lighter regulation by reducing the need for resolving  stakeholder disputes through the FERC complaint process and allowing  FERC to provide additional latitude to RTOs in their transmission pricing  proposals, among other things.
FERC’s efforts to encourage the formation of RTOs have been relatively  successful and RTOs now serve many parts of the country and extend into  Canada, as figure 1 shows. FERC oversees six RTOs: California ISO, ISO  New England, Midwest ISO, PJM, New York ISO, and Southwest Power  Pool. The Electric Reliability Council of Texas is primarily regulated by  the Public Utility Commission of Texas.
RTOs operate, but do not own, electricity transmission lines and are  responsible for ensuring nondiscriminatory access to these lines for all  market participants. As shown in table 1, the six RTOs under FERC’s  jurisdiction, in general, are responsible for managing transmission in their  regions—by implementing the rules and transmission pricing outlined in  their tariffs and performing reliability planning by considering factors such  as weather conditions and equipment outages that could affect electricity  supply and demand—as well as operating wholesale markets for  electricity and other services.
Decisions an RTO makes when carrying out these responsibilities can  influence the wholesale price of electricity and ultimately the price  consumers pay. A number of other factors outside an RTO’s control, such  as regulator decisions about what transmission and distribution rates to  approve and whether to implement price caps, also influence the prices  consumers pay for electricity. Prices are also highly dependent on the cost  of fuel used to generate electricity.
Typically, consumer electricity prices are composed of three broad  components: (1) distribution, which, for four states GAO contacted,  accounts for about 15 to 30 percent of the final price of electricity; (2)  transmission, which accounts for about 5 to 10 percent of the final price;  and (3) electricity generation or production, which accounts for about 55  to 65 percent of the final price. In RTO regions, distribution rates  continue to be set by state regulators, and transmission rates continue to  be set by state and federal regulators. FERC also approves RTO  procedures for planning transmission infrastructure, as well as the  recovery of transmission expenses. The electricity generation component  was previously set by regulators based on the cost of providing electricity  plus a rate of return. The price of this component is now determined in  RTO-administered markets—regulated by FERC to ensure they are  competitive—to the extent that entities choose to buy electricity in these  markets. Some RTOs also administer markets that determine the price of  other services needed to maintain reliability, such as capacity and  ancillary services, in lieu of charging a cost-based rate. The generation  portion of consumers’ bills may also include administratively determined  payments made to generators to maintain reliability—reliability payments,  as well as a FERC-approved rate to recover RTO expenses. The size of  these components varies from region to region. In New England, for  example, on average approximately 47 percent of a typical consumer’s bill  in 2006 was for electricity, capacity, and ancillary services, the prices of  which are determined through the markets this RTO administers. A very  small portion of a typical consumers’ bill, less than 1 percent, was from  ISO New England’s rate to recover operational and investment expenses.  Figure 2 provides more information.
Because RTOs charge for the use of transmission lines, for certain  wholesale sales of electricity, and to recover their own expenses, they are  subject to FERC oversight and regulation. In general, FERC regulates  RTOs as it does other utilities. FERC’s basic rate authority stems from  Sections 205 and 206 of the Federal Power Act of 1935 and is to ensure  that wholesale electricity rates are just and reasonable and not unduly  discriminatory or preferential. Under Section 205, FERC generally has the  authority to review and approve expenses and, if applicable, a reasonable  rate of return on investment used to serve customers. For RTOs, which are  nonprofit entities, rates are generally based on proposed annual expenses  and are periodically adjusted based on the actual expenses incurred by the  RTOs. RTOs must also seek FERC approval for decisions to implement  initiatives such as new markets and changes to existing markets and  market rules, among other things. Section 206 authority provides for FERC  review of rates already in effect. FERC may initiate Section 206  proceedings if it deems an investigation is needed or in response to a  complaint filed by an outside party. FERC has authority to determine if  these rates are just and reasonable, set new rates, and may, in some cases,  order refunds.
Under Section 205 or Section 206, RTOs or other parties, respectively, file  evidence with FERC to support their proposed rates or rate changes.  Others can file comments and present any contrary evidence under either  provision. FERC conducts hearings, which may include proceedings  before an administrative law judge, and makes final decisions. Parties may  file appeals, first with FERC and later in federal court.
section_title: RTO Expenses and Investments in Property, Plant, and Equipment Varied Considerably
paragraphs: From 2002 to 2006, RTO expenses totaled $4.8 billion when adjusted for  inflation and varied considerably depending on the size of the RTO and  functions it carried out. In general, RTOs with greater electricity  transmission volume benefit from economies of scale by spreading their  expenses over more units of electricity volume, thereby reducing their  expenses per MWh. On a per MWh basis, RTO inflation-adjusted expenses  have varied from 2002 to 2006, with ISO New England, Midwest ISO, and  New York ISO expenses rising and California ISO, PJM, and Southwest  Power Pool expenses decreasing. The expenses per MWh we calculated  for PJM for 2002 and 2003 are significantly higher than the amounts it  billed its market participants, because we did not retroactively apply  financial statement reclassifications to data from prior years. Form No. 1  filings for 2006 made by the RTOs to FERC provide better visibility of  transmission and market expenses than prior years’ reports did. In 2006,  about 17 percent of all RTO expenses were for transmission services, 13  percent were for market expenses, 39 percent were for administrative and  general expenses, and 31 percent consisted of other expenses. RTOs also  made major investments in property, plant, and equipment—$1.6 billion  when adjusted for inflation as of December 2006.
subsections: section_title: RTO Expenses Totaled $4.8 Billion from 2002 to 2006
paragraphs: From 2002 to 2006, total inflation-adjusted expenses reported in RTO  financial statements totaled $4.8 billion, ranging from $227 million for  Southwest Power Pool, a smaller RTO in terms of 2006 transmission  volume and the number of functions it performs, to $1.4 billion for PJM, an  RTO with many diverse functions and the largest 2006 transmission  volume. As shown in figure 3, the largest category of expenses for RTOs  over this time period was salaries and benefits, accounting for about $1.6  billion, or 33 percent of RTOs’ expenses from 2002 to 2006. According to  RTO officials, due to the highly technical and sophisticated nature of the  functions RTOs must carry out, RTOs require highly trained staff, such as  power system engineers, economists, and software engineers. In 2006, all  RTOs combined employed 2,737 full-time equivalents (FTE) with an  average salary and related benefits of approximately $134,000. Appendix  III shows the inflation-adjusted expenses, number of full-time equivalents,  and average salary and expenses per full-time equivalent for each RTO  from 2002 to 2006. Our analysis reflects total annual expenses as reported  in the RTOs’ audited financial statements. We did not retroactively apply  financial statement reclassifications to data from prior years. Because PJM  made retroactive reclassifications that affected its 2002 and 2003 financial  statements, in 2002 and 2003, the expenses we calculated for PJM are  significantly higher than the amounts it billed its market participants.
section_title: Larger RTOs Benefit from Economies of Scale
paragraphs: In general, RTOs with greater electricity transmission volume benefit from  economies of scale––spreading their expenses over more units of  electricity volume, thus lowering the amount of RTO-related expenses per  MWh. For example, PJM had the highest total inflation-adjusted expenses  among RTOs in 2006—$282 million—but had the second lowest expense  per MWh—$0.39 per MWh—because it transmitted a greater amount of  electricity than the other RTOs. In contrast, ISO New England had the  second lowest expenses in 2006—$118 million—but had the highest  expense per MWh—$0.89 per MWh—because it transmitted less  electricity. Figure 4 illustrates total RTO expenses in 2006 per unit of  electricity transmitted by major category. Appendix IV provides  transmission data and expense per MWh data by RTO from 2002 to 2006.
Our analysis reflects total annual expenses as reported in the RTOs’  annual audited financial statements, divided by the amount of  transmission volume within the RTO. These calculations may result in  MWh expenses that differ from what RTOs charge their market  participants. Furthermore, we did not retroactively apply financial  statement reclassifications to data from prior years. Because PJM made  retroactive reclassifications that affected its 2002 and 2003 financial  statements, in 2002 and 2003, the expenses per MWh we calculated for  PJM are significantly higher than the amount it billed its market  participants. For example, in 2002, PJM had expenses of $0.95 per MWh,  according to our analysis. According to data provided by PJM officials that  we adjusted for inflation, market participants were billed $0.51 per MWh,  after refunds and other billing adjustments were taken into account.  Similarly, in 2003, PJM had expenses of $0.85 per MWh according to our  analysis, but market participants were billed $0.57 per MWh when  adjusted for inflation. In addition, RTOs utilize differing billing  methodologies. As a result, the rates they charge to market participants  may be different than the total expenses per MWh calculated in our  analysis. Table 2 shows actual electricity rates per MWh charged to RTO  market participants, adjusted for inflation, from 2002 to 2006.
section_title: Individual RTO Expenses Have Varied over Time
paragraphs: When looked at annually, inflation-adjusted RTO expenses from 2002 to 2006  have varied, reflecting new initiatives implemented by the RTOs and other  changes made by management. Figure 5 illustrates changes in RTO inflation- adjusted expenses per unit of electricity transmitted over this period.
Several key trends occurred over this period, with the expenses per MWh  of three RTOs—Midwest ISO, New York ISO, and ISO New England— rising as they implemented major market and other initiatives. For  example, during this period, Midwest ISO expanded its role from  coordinating reliability, administering its tariff, and performing  transmission system planning to include operating markets for energy and  other services. As a result, Midwest ISO’s expenses rose in a number of  areas. Salaries and benefits increased as the RTO increased its full-time  equivalents from 265 in 2002 to 643 in 2006, in part, to carry out the RTO’s  expanded operations. Expenses for consulting, professional, and outside  services—used, in part, to develop the new markets for electricity and  other services—and depreciation and amortization expenses—to recover  the costs of major investments, such as information systems and  infrastructure related to the electricity market—also increased from 2002  to 2006. Increases in Midwest ISO’s expenses were mitigated by its rising  transmission load as it took on additional members.
In contrast, California ISO’s expenses per MWh hour declined significantly  over this time period, particularly in the areas of depreciation and  amortization and facilities and maintenance. California ISO officials  attributed declining expenses to an organizational focus on keeping  expenses low, including a specific cost containment management initiative  in 2005, and more economically advantageous contracts in a few key  areas. Additionally, as noted in the graphic, PJM changed the way it  reported revenues and expenses. Starting in 2004, PJM offset revenues and  expenses related to study and interconnection fees. Had 2002 and 2003  expenses been reported as they were in later years, PJM’s inflation- adjusted expenses per MWh would have fluctuated over the period and  ultimately declined from $0.52 per MWh in 2002 to $0.39 per MWh in 2006.  Finally, Southwest Power Pool’s expenses per MWh declined slightly over  this time period—from $0.47 per MWh to $0.37 per MWh, as increasing  overall expenses were mitigated by rising transmission load.
section_title: FERC’s Revisions to Its Form No. 1 Provide Better Visibility of RTO Expenses Related to Transmission and Markets
paragraphs: Starting in 2006, FERC required RTOs and other utilities to provide more  detailed information about market and transmission expenses on their  Form No. 1 filings to improve the visibility and uniformity of RTO and  utility financial reporting, and we found that RTO’s 2006 Form No. 1s are  more transparent than in previous years. FERC officials told us these  changes would facilitate review by FERC and the public of RTO expenses  and rates. Form No. 1 filings categorize expenses according to two key  functions RTOs perform—transmission coordination and market  operation—as well as other categories such as administrative and general  expenses. In 2006, about 17 percent of all RTO inflation-adjusted expenses  were for transmission services, 13 percent were for market expenses, 39  percent were for administrative and general expenses, and 31 percent  consisted of other expenses. Figure 6 provides information reported in  the Form No. 1 about each of the RTOs’ expenses. Appendix V shows 2006  RTO inflation-adjusted expenses as reported on the FERC Form No. 1.
Transmission expenses cover the cost of providing reliability services and  monitoring and operating the transmission systems, among other things.  Market expenses include the cost of administering markets for electricity  and other services, monitoring markets for competitiveness, and related  computer software and hardware maintenance, among other things.  Administrative and general expenses consist of employee salaries and  benefits, rent, and outside services, among other things.
section_title: RTOs Have Made Investments in Property, Plant, and Equipment
paragraphs: The six RTOs whose financial statements we reviewed have made  investments in property, plant, and equipment. Total inflation-adjusted  investment for all RTOs was $1.6 billion as of December 31, 2006, without  adjusting for accumulated depreciation. Software and equipment was the  largest category of investment at each of the RTOs, as shown in figure 7,  and was used by the RTOs to provide various transmission and market  services across regions. For example, in 2005, ISO New England began  construction of a replacement control center equipped with computer  hardware and software to deploy generators, forecast electricity  requirements, ensure load is not interrupted in the event of a contingency,  and conduct and monitor electricity transfers with other RTOs. Appendix  VI shows RTOs’ investments in property, plant, and equipment as of  December 2006.
section_title: RTOs and FERC Rely on Stakeholder Input when Evaluating RTO Expenses and Decisions That May Affect Electricity Prices
paragraphs: RTOs consider stakeholder comments when reviewing RTO expenses and  other decisions that may affect electricity prices. In the two RTOs we  visited, stakeholders said they valued the opportunity for discussion with  the RTOs, but some stakeholders expressed concern that attending  meetings was resource intensive and that too little emphasis was placed  on how decisions might affect the prices consumers pay for electricity.  Furthermore, though RTO budgets offer one tool FERC could use to  revisit whether rates remain just and reasonable between rate  proceedings, the extent to which FERC reviews proposed expense  information in RTO budgets varies. Additionally, although FERC annually  requires RTOs to report the actual expenses they incurred, FERC staff  have not regularly reviewed or audited these submissions for accuracy and  do not look at them for reasonableness. Instead, FERC relies heavily on  stakeholders to raise concerns over proposed expenses and other  decisions that may affect consumer electricity prices.
subsections: section_title: RTOs Consider Stakeholder Comments when Reviewing RTO Expenses and Making Decisions That Affect Electricity Prices
paragraphs: According to senior RTO officials, RTO boards and staff give much  consideration to stakeholder comments when reviewing RTO expenses  and making decisions that affect electricity prices. They told us that while  RTO decisions are independent—stakeholder input is generally advisory— stakeholders play an important role in evaluating RTOs’ operations and  plans. In particular, although RTOs conduct internal reviews of their  proposed expenses, establish controls for reviewing the prudence of  expenses, and may perform formal cost-benefit analysis on major  initiatives, officials told us stakeholder comments are one of the most  important factors when reviewing expenses and making decisions. In  general, RTOs solicit comments from stakeholders about their opinions on  decisions to modify new market rules, changes to governing documents,  and budgets and expenses, among other things. According to RTO  officials, in some instances, RTOs are required to secure affirmative  stakeholder votes on these decisions prior to proceeding. Specific issues  for discussion may be raised by the RTOs, stakeholders, or in response to  FERC orders or directives.
Stakeholders generally provide input to the RTO boards of directors in three  ways––written communications, oral discussions, and votes––although each  RTO has a unique process for soliciting this input, as shown in table 3. RTO  officials told us that these processes were developed after extensive  negotiations with stakeholders when each RTO was formed. To ensure  stakeholder input reflects a range of interests, five of the six RTOs we  reviewed group stakeholders with common interests, such as electric  distribution companies, transmission owners, and end users. All six of the  RTOs we reviewed involve state regulators in their decision-making process,  either formally as a unique stakeholder group or informally as participants  who attend stakeholder meetings. Though state regulators are not prohibited  from voting in stakeholder meetings, most have chosen to participate  formally in the process but not vote. Additionally, in several RTO areas, state  regulators have formed organizations to collectively represent their interests  and advise the RTO. For instance, state regulators in the Midwest ISO formed  the Organization of MISO States to discuss what decisions the RTO should  make and participate in stakeholder meetings.
In general, stakeholders participate in the RTO decision-making process  through a primary committee that reports to the board of directors and a  range of lower-level committees and working groups that report to the  primary committee. Lower-level committees and working groups tend to  focus on narrow subjects or specific initiatives such as development of  specific markets or proposed changes to existing rules, and lower-level  committees often involve stakeholders with expertise in the specific  subject matter. The primary committee and lower-level committees and  working groups hold regular or episodic meetings that stakeholders  participate in. These meetings are open to participation by any stakeholder  with an interest in attending. As shown above, stakeholders representing  many perspectives, from generators to groups representing consumers,  participate. Because of the numerous, simultaneous matters under  consideration, there can be many meetings potentially relevant to  stakeholders. Subjects discussed and analyzed in lower-level committee  and working group meetings are eventually raised for discussion at the  primary committee meeting, where a vote is taken about whether to  recommend a decision be pursued by the board of directors. (See fig. 8 for  an example of the Midwest ISO’s committee structure. Midwest ISO’s  primary committee is called the Advisory Committee.)
RTO staff may facilitate discussions within the primary committee, as well  as lower-level committees and working groups, and may also prepare  analyses to help stakeholders understand how a decision might affect  them. For example, as agreed to when its RTO status was approved,  Southwest Power Pool must develop a cost-benefit analysis before making  the decision to implement a new market rather than relying on cost-based  pricing of a service. Other RTO officials told us that although they may  develop formal cost-benefit analyses for some major decisions, such as  changes to key market rules, the stakeholder process is a key way in  which the cost and benefits of a decision are discussed.
Most RTOs have a specific lower-level committee to review and analyze  RTO budgets that contain information about proposed expenses.  According to RTO officials, RTOs and stakeholders discuss and jointly  determine organizational priorities, which influence the RTO’s preparation  of a draft budget. Stakeholders serving on the budget committee review  the budget’s proposed expenses and provide recommendations.  Discussion of the budget is then taken up by the primary stakeholder  committee, which then votes whether to recommend to the board that the  budget be adopted. The composition of the subcommittee that initially  reviews the budget differs among the six RTOs. For example, PJM’s  budget committee consists of equal representation from each formal  stakeholder group plus two members of the independent board. ISO New  England’s budget committee is open to participation by any stakeholder.
section_title: Stakeholders Value the Opportunity for Discussion with RTOs, but Some Believe Inadequate Emphasis Is Placed on Consumer Prices
paragraphs: Most stakeholders we spoke with in the two RTOs we visited—ISO New  England and Midwest ISO—valued the opportunity for discussion with  their respective RTOs and believed that RTOs facilitate an open and  democratic process that focuses on reaching consensus among  stakeholders. However, most stakeholders in these two RTOs found the  process resource intensive, specifically the stakeholder meetings, which  require staff time and travel costs. RTOs may carry out hundreds of  stakeholder meetings annually, as shown in table 4.
Stakeholders must prepare for meetings by reviewing documentation and  preparing comments, and the ability of stakeholders we spoke with to do  so varied significantly. Individual stakeholders in the two RTO regions we  visited estimated they devoted a range of time—from less than one-half of  a full-time equivalent to 5 full-time equivalents—to stakeholder  involvement annually. In some cases, stakeholders told us they are not  able to attend all meetings they would like to due to resource constraints.  For example, stakeholders from ISO New England’s public power sector  told us they often have to rely on other stakeholders to attend meetings in  their place, because they lack the resources to participate themselves.  Many stakeholders told us they believe the level of their participation  determines their influence on RTO decisions.
In the two RTOs we visited, many stakeholders representing and serving  consumers, such as consumer advocates and state commissioners, were  concerned that RTOs do not place adequate emphasis on assessing the  implications on consumer electricity prices of decisions, such as whether  to build new transmission lines, when to create markets for services in lieu  of charging cost-based rates, and reliability decisions. Several of these  stakeholders believed that RTOs overemphasize ensuring reliability  without full consideration as to whether lower-cost options are available.  For example, some ISO New England stakeholders we spoke to believed  the RTO was overly conservative when determining whether  noncompetitive generators were needed for reliability. They believed that,  as a result, the RTO entered into unnecessary and costly contracts to keep  these inefficient generators running. They observed that this could lead to  higher consumer electricity prices, which they did not believe were  justified, since they did not agree the generators were needed to ensure  electricity was delivered reliably. Moreover, one stakeholder we spoke to  was concerned that the cost of operating these generators, which may  benefit only certain local areas, were unfairly borne by consumers outside  those local areas. Officials from ISO New England acknowledged that  there can be trade-offs between reliability and costs, but said  transmission-planning efforts and their new capacity market are effective  in keeping payments for reliability as low as possible. They and other RTO  officials explained that fulfilling their mission of ensuring reliability and  efficient markets will minimize consumer prices in the long run. A number  of stakeholders representing and serving consumers in these two regions  were concerned, however, that the RTOs do not conduct enough cost- benefit analyses of how decisions may affect electricity prices. Others felt  they had inadequate access to data and resources to conduct such  analyses themselves. Some RTO officials told us that while they always  consider the costs and benefits of a decision before making it, formal cost- benefit analysis may not always be practical, because it is difficult to  estimate the potential impact of a decision on electricity prices, how  benefits and costs could change over time, the appropriate assumptions to  be made, and how different stakeholders are affected. They noted that  individual stakeholders already give much consideration to the costs and  benefits of a given decision when discussing it during stakeholder  meetings.
There was disagreement among stakeholders in ISO New England and  Midwest ISO about which groups have, and should have, more influence  with RTOs; however, many stakeholders agreed that participating in  stakeholder meetings and, in particular, participating in lower-level  committees and working groups, provided the best opportunity to  influence RTOs’ proposed expenses and decisions that may affect  electricity prices. Although most stakeholders we spoke with thought ISO  New England and Midwest ISO worked hard to solicit comments from all  stakeholders, many believed that when making decisions, the RTOs  deferred more to certain stakeholders and that because RTOs were  created through the voluntary agreement of the transmission owners, the  RTOs were more likely to defer to their interests than to others’. Other  stakeholder groups we spoke with in ISO New England and Midwest ISO  commented that state regulators have a large influence on the RTOs’  decisions. A number of state public utility commission officials disagreed  with this view. In particular, one state regulator stated that because state  regulators are charged with protecting the public interest, their opinions  should carry greater weight than those of participants whose interests are  primarily profit-oriented.
section_title: The Frequency of FERC’s Review of Proposed RTO Expenses Varies
paragraphs: The frequency of FERC’s review of proposed RTO expenses varies, with  reviews of certain expenses not being conducted for years at a time.  FERC’s review of proposed expenses occurs when it conducts a  proceeding to evaluate whether the rate an RTO charges customers to  recover these expenses is just and reasonable and not unduly  discriminatory or preferential. Because of variation in the manner and  frequency with which rate proceedings are conducted, FERC’s  consideration of proposed RTO expenses can be infrequent. For example,  in 2001, FERC conditionally approved Midwest ISO’s rate for recovering  expenses associated with administering its tariff and ensuring reliability.  Because Midwest ISO has not since asked to change its rate for recovering  these expenses, FERC has not reviewed these expenses since 2001. FERC  officials explained that more frequent review of proposed RTO expenses is  not necessary because RTO expenses and decisions undergo much  scrutiny during the RTO stakeholder process. Moreover, according to  these officials, stakeholders are in the best position to know whether RTO  expenses are prudent and reasonable. As a regulator, FERC may initiate a  new rate proceeding if it believes an RTO’s rates are no longer just and  reasonable. While, as FERC points out, stakeholder comments and  complaints are an important piece of FERC’s consideration, more frequent  review of proposed expenses could also aid FERC in determining whether  a rate remains just and reasonable. Table 5 shows when each RTO’s rate  for recovering expenses was last approved.
RTOs annually develop budgets that contain extensive information on  proposed expenses; however, FERC’s use of RTO budgets as a tool in  reviewing proposed RTO expenses varies. For example, ISO New England  agreed with its stakeholders to submit operational and capital budgets to  FERC for annual approval. Southwest Power Pool submits annual copies  of its operating and capital budgets for informational purposes, rather than  for FERC approval. The other RTOs either do not submit budgets or do so  infrequently, despite the fact that these budgets could provide FERC with  potentially valuable information about proposed RTO expenses that could  help it in ensuring the rates RTOs charge customers are just and  reasonable. For example, FERC could use such information to regularly  benchmark RTO spending on key categories, such as market oversight or  capital investments. (Table 6 outlines the frequency with which RTOs  submit budgets to FERC for review.) FERC officials pointed out that  FERC staff sometimes attend stakeholder meetings, including discussions  about the budget, to observe what concerns stakeholders raise. They also  noted that RTOs post their budgets on their Web sites annually, allowing  FERC and the public to view them if so desired.
Some representatives of stakeholder groups including public utility  commissions, consumer groups, and the publicly owned sector expressed  concerns over FERC’s infrequent review of budgets or lack of independent  analysis of proposed RTO expenses. They expressed concern that FERC  deferred too much to the stakeholder process within the RTOs, assuming  stakeholders had adequately resolved all concerns. These stakeholders  were concerned that without more scrutiny of proposed expenses, FERC  could not be sure that the RTOs were as cost-effective as possible. We  found that RTO expenses may change over time, and some—such as  expenses for outside consultants––may decrease between the times FERC  reviews the rates. Furthermore, without more consistency in how FERC  reviews proposed expenses, customers may not fully benefit from  potential improvements or efficiencies RTOs achieve. For example, for the  2008 Midwest ISO budget, expenses as approved by the finance  subcommittee and the board of directors for outside services decreased by  24.4 percent, while its net operating expense increased by 1.2 percent. The  total cost of salaries and benefits increased by 10 percent, offsetting some  of the increased efficiency in the area of outside services. In the  stakeholder process for the 2007 budget, the finance subcommittee  expressed concerns about the continued increase in staffing levels and  how that need was determined. They recommended that Midwest ISO  develop financial metrics to evaluate and compare and contrast Midwest  ISO’s financial results. Since Midwest ISO’s proposed expenses were not  regularly reviewed by FERC, FERC may have missed an opportunity to  determine whether Midwest ISO’s salaries were reasonable and ensure  that Midwest ISO customers benefited from lower outside service  expenses. More broadly, without regular, recurring analysis of RTO  expenses, such as through review of RTO budgets, it is not clear that  FERC is as well positioned as it could be to know whether certain  expenses are reasonable and RTOs are as cost-effective as possible. Such  knowledge could supplement comments from stakeholders and help  FERC determine whether rates remain just and reasonable or when a new  rate case should be initiated.
section_title: FERC Does Not Regularly Review or Assess Actual RTO Expenses
paragraphs: FERC does not routinely review or assess the accuracy or reasonableness  of expenses RTOs report annually using the Form No. 1. FERC officials  told us they use the financial information in the Form No. 1 to carry out  FERC’s responsibilities and post this information to their Web site for use  by public utility customers, state commissions, and the public so that they  can assess the reasonableness of electric rates. However, during the  course of our work, FERC officials told us they did not routinely audit or  review the Form No. 1s for accuracy or completeness. When we began our  work, FERC had not audited any RTO FERC Form No. 1 filings for  accuracy or completeness, although in 2004 it performed some limited  review of the Form No. 1s during the course of other audits. In May 2008,  FERC initiated an audit of Midwest ISO that includes a more in-depth  examination of its Form No. 1. FERC officials told us it is the RTOs’  responsibility to ensure that the FERC Form No. 1 filings are accurate and  complete and said that it requires public accounting firms to attest that  they have audited RTOs’ balance sheets, statements of income, retained  earnings, and cash flows contained in their Form No. 1s in conformity with  FERC’s Uniform System of Accounts requirements. Auditor opinions  confirm that CPAs audit the above statements in the Form No. 1 but may  not audit all supporting schedules.
Without more regular audits and review of actual expense information for  accuracy, FERC may be at risk of unknowingly using and providing to the  public inaccurate and incomplete RTO financial data, limiting the  effectiveness of the Form No. 1 as a tool for determining whether rates are  just and reasonable. For example, during the course of our audit work, we  noted a significant reporting error on Southwest Power Pool’s 2006 Form  No. 1 filing. In 2006, Southwest Power Pool reported $88 million in rent  and $175 million in maintenance of general plant expenses; however, we  noted actual rent and maintenance of general plant expenses were  $830,000 and $440,000, respectively. FERC officials said that in 2006  several RTOs experienced problems using FERC’s software program to  file their Form No. 1s, due to an unforeseen delay in implementing  software updates. To correct the errors, a revised schedule was added to  Southwest Power Pool’s 2006 Form No. 1 filing. However, maintenance of  general plant expenses was still overstated in the revised schedule by  approximately $3 million, and the revised schedule was not clearly  referenced by the original schedule. FERC said the error did not affect  electricity rates; however, the overstated expense information remained  posted on FERC’s Web site for over a year, where public utility customers,  state commissions, the public, and other parties that may be interested in  reviewing RTOs’ expenses could access it. In August 2008, Southwest  Power Pool submitted a revised FERC Form No. 1 that corrects the error.  Furthermore, according to FERC officials, the Office of Enforcement is  taking steps to incorporate a system of electronic data validation checks  into the FERC Form No. 1 submission software to help ensure the  accuracy of the FERC Form No. 1 filings before they are submitted. FERC  anticipates having the validation checks in place for the 2008 FERC Form  No. 1 submission year and told us that once the checks are implemented,  an error like the one identified at Southwest Power Pool can be corrected  prior to the entity submitting its FERC Form No. 1 filing. Because these  checks have not yet been implemented, we cannot review their  effectiveness. We believe that while they will likely help identify and  correct some reporting errors, they do not constitute the comprehensive  review of the Form No. 1s for accuracy and completeness that FERC staff  could perform through audits or other review.
FERC does not routinely review RTOs’ reported expenses to ensure that  they are reasonable, noting that Form No. 1 information on expenses is  made public and interested parties can file a complaint about their  concerns. FERC officials from the Office of Energy Market Regulation  observed that the Form No. 1 might sometimes be used to detect  potentially unreasonable expenses but told us they do not analyze them  due to limited resources. Moreover, although FERC compared expenses  across RTOs in 2004 as a means to estimate the potential expense involved  in creating new RTOs, FERC officials do not regularly compare expenses  across RTOs or create expense benchmarks to use as an analytical tool in  evaluating just and reasonable rates or as a way of determining whether  efficiencies realized by one RTO could be applied to another. FERC and  RTO officials said that the varied nature of RTO functions would make  regular comparison of actual RTO expenses challenging and of limited  value. Several stakeholders we spoke with, including a former RTO  executive, disagreed, observing that comparisons among RTOs could help  raise questions about the appropriateness of expenses. Without reviewing  actual RTO expenses for reasonableness, FERC may not be as well  positioned as it could be to ensure the rates RTOs charge to recover their  expenses are just and reasonable and that RTO funds were spent  according to how FERC and the stakeholders approved them to be.
section_title: FERC Relies on Stakeholders to Raise Concerns over RTO Expenses and Decisions
paragraphs: FERC relies heavily on stakeholders to raise concerns about RTO  expenses and other decisions with the potential to affect electricity prices.  FERC officials acknowledged that the process through which RTO  stakeholders review information on proposed expenses contained in RTO  budgets is integral to identifying imprudent and unreasonable expenses  between RTO rate cases. Parties who disagree with RTO expenses can file  comments when an RTO’s rate for recovering these expenses is being  evaluated at FERC during rate-setting proceedings. In one instance, in  November 2005, the Attorneys General of Connecticut and Massachusetts  submitted comments to FERC about ISO New England’s proposed 2006  budget, contesting executive salaries that they believed were  unnecessarily high. FERC found the proposed salary expenses to be just  and reasonable after reviewing the entire record in the proceeding,  including all comments and ISO New England’s comments that surveys  and benchmarks showed the salaries were competitive. However, FERC  did not perform any independent analysis of ISO New England salaries or  review the surveys or benchmarks ISO New England cited. FERC also did  not conduct comparisons of salaries across RTOs, although FERC officials  said that had this information been introduced into the record, it would  have considered it. As with stakeholder review of proposed expenses,  FERC officials told us the Form No. 1 is a tool to provide stakeholders  with ready access to data needed to assess the prudence of actual RTO  expenses, and that its information is key to stakeholders knowing when a  new rate case may be needed.
FERC also explained that stakeholders can file a complaint that rates are  not just and reasonable at any time.  However, several stakeholders told  us that because FERC places the burden of proof on the complaining  party, it is difficult and resource intensive to file a complaint. These  stakeholders told us that they typically lack the staff and resources to file  a complaint and said that it is difficult to obtain the data and conduct the  analysis necessary to support it. For example, one state regulator noted  that the data needed to show that expenses are not just and reasonable is  typically proprietary and that such complaints are difficult to win, since  the burden of proof is high. FERC officials confirmed that they have heard  over the years that it can be challenging to make complaints and win. They  said consumer groups sometimes felt they were at a disadvantage  compared to transmission owners and generators because they have fewer  resources, including staffing and funding, to file and support complaints.  FERC officials also noted that if an evidentiary hearing was deemed  necessary, their staff might provide some analytical assistance.
As in its reviews of expenses, FERC also places much emphasis on the  stakeholder process when reviewing RTO decisions with the potential to  affect electricity prices, and FERC offers stakeholders the opportunity to  provide additional evidence for its consideration prior to making a final  decision. For example, in 2006, FERC conducted a proceeding related to a  proposed PJM decision to develop a capacity market—a market designed  to attract new generation and other resources to ensure PJM can meet  future electricity needs. PJM’s proposal resulted from years of work and  numerous stakeholder meetings. Additionally, PJM and numerous parties  submitted thousands of pages of comments in support and against the  proposed decision, which FERC evaluated. FERC issued a final order on  this proceeding in December 2006. In May 2008, numerous stakeholders,  including public utility commissions and consumer advocacy groups, filed  a complaint with FERC alleging the initial model PJM used for establishing  the price of capacity produced excessively high prices and did not deliver  commensurate benefits. Complainants are asking for rate relief, which  they estimate to be about $12 billion. The Maryland Office of the People’s  Counsel calculates that excess charges to Maryland residential customers  will average $570 over 3 years. FERC evaluated the merits of this  complaint and supporting documents. On September 18, 2008, it dismissed  the complaint but granted a request for a technical conference to  determine if further action would better achieve this market’s goals.
section_title: Experts, Industry Participants, and FERC Lack Consensus on the Benefits of RTOs
paragraphs: Experts, industry participants, and FERC lack consensus about whether  RTOs have provided net benefits to consumers. Many key experts and  industry participants agree that RTOs can provide certain benefits, such as  more efficient management of the transmission grid and improved access  by independent generators. However, there is some disagreement about  whether RTOs’ access to additional lower-cost generating resources has  led to electricity prices for consumers that are lower than they otherwise  would have been. Furthermore, experts and industry participants are  divided on the benefits of RTO markets and their effect on consumer  electricity prices. Some critics of RTO markets believe that RTO markets  have not fully achieved anticipated benefits and contribute to higher  consumer electricity prices, while proponents believe RTO markets have  kept prices lower than they otherwise would have been. Some RTOs have  developed assessments to demonstrate the benefits they have provided to  their regions. FERC officials share the view that RTOs have resulted in  benefits to the economy, such as new efficiencies in operating the regional  transmission grid, but FERC has not conducted an empirical analysis to  measure whether these benefits were realized or developed a  comprehensive set of publicly available, standardized measures that can  be used to evaluate RTO performance.
subsections: section_title: Many Agree That RTOs Can Improve Management of the Transmission Grid and Access
paragraphs: Many industry participants and experts agree that RTOs provide  opportunities for more efficient management of the transmission grid and  can improve access by independent generators. They believe that because  RTOs integrate multiple transmission systems into a larger service area,  they have broader knowledge of the grid’s transmission capacity and  wider perspective on events that can affect reliability, allowing them to  more efficiently manage the grid. For example, Midwest ISO now centrally  controls operation of a vast transmission network spanning 15 states that  was once overseen by 24 different system operators who had to work  together to address any reliability problems such as the unexpected loss of  a key transmission line or power plant. Some also believe that because  RTOs integrate multiple transmission systems into a larger service area,  they keep electricity buyers and sellers from paying multiple fees for each  transmission network they use—previously a disincentive to trade power  across multiple utilities’ transmission systems. In addition to the benefits  of centralized management of the transmission grid, many experts and  industry participants believe RTOs have improved independent generators’  access by reducing discrimination. They note that because RTOs operate  the grid independently and do not own generation or transmission  resources themselves, they have no incentive to discriminate when  providing transmission access. According to a representative of  independent developers of new generation we spoke to, this improved  access has allowed new generators to more easily connect to and use the  transmission system. A representative of buyers of power, on the other  hand, told us this improved access has allowed buyers of power  opportunities to purchase electricity from new suppliers, although this  representative questioned whether the prices they receive for that  electricity are better. Despite much agreement that RTOs have provided  opportunities for more efficient management of the transmission grid and  improved access, some industry participants we spoke with believed RTOs  were not the only way to provide these benefits. They question whether  similar benefits could be achieved using other mechanisms, such as power  pools—groups of utilities that have entered into agreements to coordinate  electricity supply, like those that have existed along the East Coast for  more than 30 years.
section_title: Many Agree That RTOs Provide Opportunities to Lower Costs of Producing Electricity, but Some Question whether This Improves Consumer Prices
paragraphs: Many experts and industry participants agree that RTOs are better  positioned than individual utilities to make use of lower-cost generators  more frequently, although they do not agree whether this has resulted in  electricity prices for consumers that are lower than they otherwise would  have been. By overseeing a region formerly run by many individual  utilities, RTOs have more generators at their disposal than the individual  utilities did. Because RTOs generally use the generators with the lowest  bid first—according to some, the least costly and most fuel efficient—they  may be able to more efficiently meet requirements for electricity reserves,  lower the cost of producing electricity, and use fuel more efficiently.
However, some industry participants we spoke with questioned whether  this has kept electricity prices for consumers lower than they otherwise  would have been.  They noted that generator bids may not always reflect  their costs of production and that in some cases, lower costs of production  have led to higher profits for generators rather than lower consumer  prices.
section_title: Experts and Industry Participants Are Divided on the Benefits of RTO Markets and Their Effect on Consumer Electricity Prices, Generator Efficiency, and Infrastructure Investment
paragraphs: Experts and industry participants are divided on whether RTO efforts to  create and oversee markets have lowered electricity prices and led to  other benefits, such as improved generator efficiency and more investment  in electricity infrastructure. Studies of restructuring draw differing  conclusions.
Experts and Industry Participants Are Divided on RTOs’ Influence on  Electricity Prices  Experts and industry participants debate how RTO markets have  influenced the prices consumers pay for electricity. Critics of RTO  markets believe these markets have not fully achieved anticipated benefits  and have contributed to the higher prices for electricity seen by  consumers, because markets are expensive to establish and operate, and  as currently designed, produce higher wholesale prices than would  otherwise occur. RTO markets use multiple types of generators—coal,  nuclear, natural gas, and others—in satisfying consumer demand, and the  different costs of fuels for these generators, among other factors,  contribute to different costs of electricity production. RTO markets select  the smallest amount of generating resources needed each day to provide  reliable service. To do so, these markets generally rank and accept  generator bids in the market in order of lowest to highest and pay  generators, regardless of their costs of production or fuel, the price bid by  the last generating unit needed to satisfy demand. Critics believe this  pricing approach reduces the benefits for consumers of using varied types  of generators, because low-cost generators, like nuclear and coal plants,  receive the same price as higher-cost generators, like natural gas plants,  when higher cost generators are needed to satisfy demand. Supporters of  RTOs believe this pricing approach, by rewarding low-cost generators,  promotes efficiency and provides an incentive for new low-cost generators  to enter the market, leading to lower prices in the long run than otherwise  would have been the case. They note that price transparency in RTO  markets is valuable and can signal profit-making opportunities for  potential new entrants. They believe that this, coupled with improved  access to the grid, can encourage market entry by, among others,  developers of renewable energy sources, such as wind power. Proponents  of RTO markets observe that price transparency may also encourage  demand response—consumers lowering electricity usage in response to  price signals—which can lead to lower, less volatile prices. RTO officials  explained that while RTO markets establish wholesale prices for  electricity traded in them, a number of other factors also influence the  price consumers ultimately pay. Furthermore, much electricity is supplied  from sources outside RTO markets, for example, when utilities use their  own generators to self-supply or when two parties directly negotiate a  transaction with each other. However, critics believe that the pricing  approach used by RTO markets has led to higher prices for directly  negotiated contracts as well, because low-cost generators recognize that  they can often receive the price bid by higher-cost generators in the RTO  marketplace.
A state-by-state analysis of electricity prices reveals differences between  RTO and non-RTO regions that have likely led to concerns about the  impact of RTO markets on electricity prices. We considered retail  electricity prices in four regions of the country: (1) original RTO states— states that joined an RTO in 1999 or earlier and were historically in a  power pool, (2) new RTO states—states in an RTO region after 1999, (3)  non-RTO states—states outside RTO regions, and (4) California. As  shown in figure 9, 11 of the 17 states with above-average retail electricity  prices are in the original RTO group. California also had above average  prices in 2007.
To further understand the basis for these disagreements, we analyzed  retail electricity prices for industrial customers, because we believe that  trends in industrial prices more closely reflect trends in wholesale prices,  which RTOs are most capable of influencing. However, this relationship is  not perfect, because, as noted earlier in the report, many other factors  influence retail prices. Furthermore, numerous wholesale transactions  occur outside RTO markets.
As shown in figure 10, inflation-adjusted electricity prices for industrial  consumers have been consistently higher in the original RTO states than in  the new and non-RTO states over the entire period. Prices in the original  RTO states fell from 1990 to 1999 but have since risen close to prior  levels. However, in recent years, the rate of price increases in the original  RTO states has generally been higher than in the non-RTO states. It is  important to note that this price analysis does not isolate the impact of  RTOs on prices. It is not possible to draw conclusions about what impact  the establishment of RTOs has had on electricity prices without properly  accounting for and isolating the impacts of other factors, such as the cost  of fuels used to generate electricity, changes in the fuel mix, and changes  in consumer demand.
Experts generally agree that fuel prices play a large role in determining  electricity prices. However, they disagree about the magnitude of their  influence. Prices for fuels commonly used to generate electricity—such as  coal and natural gas—have increased in recent years, with prices of  natural gas rising more dramatically than those for coal over this period.  Figure 11 illustrates how average prices of fuels used in the electricity  sector have changed from 1996 through 2006. Compounding this overall  trend, the original RTO region tends to rely more heavily on natural gas  than the non-RTO region.
Proponents of RTOs acknowledge that consumer electricity prices have  increased in RTO regions, but they believe that higher fuel prices, greater  demand for electricity, increasing costs for infrastructure needed after  years of underinvestment, the high costs of complying with environmental  regulations, and regulatory decisions made by states about transmission  and distribution rates are the principal reasons for rising electricity prices  across the country and in RTO regions. They believe RTO markets have  kept prices to consumers lower than they otherwise would have been.  Critics of RTO markets disagree, observing that problems with RTO  markets have exacerbated the effect of other factors, such as higher fuel  prices, on electricity prices.
Experts and Industry Participants Disagree on RTOs’ Influence on  Generator Plant Efficiency  Experts and industry participants are also divided about the ways in which  RTO markets may influence how efficiently existing plants are used. Some  believe prices established competitively in RTO markets have given  generators an incentive to improve the maintenance and operation of their  facilities and operate them a greater percentage of the time, thereby  improving efficiency and lowering the overall cost of generating  electricity. By operating plants more efficiently, generators can better  compete against rival bidders, resulting in either greater profits for  themselves, lower prices to consumers, or both. Some studies conclude  that nuclear plants in RTO and restructured regions have increased their  capacity factors—the electricity generated by a plant as a percentage of  that plant’s maximum capacity to generate electricity. As seen in figure 12,  our analysis illustrates that nuclear plant capacity factors show more  pronounced improvement in recent years in the original RTO states and  new RTO states than in the non-RTO group. We did not attempt to account  for other potential causes for this improvement, such as technological or  institutional factors that may have improved efficiencies prior to the  advent of restructuring and RTO markets or determine whether aggregate  trends were the result of widespread efficiency improvements or a few  improved generating units. While many agree that the results of capacity  factor analysis would inform discussions of the benefits of RTO markets,  they do not agree on how to isolate the influence of these markets and  restructuring on capacity factors or determine whether improvements  preceded restructuring changes or resulted from them.
Some experts and industry participants believe improved generator  efficiency at existing plants benefits consumers because it reduces the  need to construct new generating plants and allows less expensive  generating options, such as previously constructed nuclear plants, to  satisfy a greater portion of electricity demand. Others question the role of  RTO markets and restructuring in improving nuclear plant generator  efficiency and whether efficiencies have resulted in lower prices for  consumers than would have otherwise occurred.
Experts and Industry Participants Disagree about RTO Influence on  Infrastructure Investment  There is also disagreement about whether RTOs have led to other regional  benefits, such as increased construction of transmission and generation  infrastructure. For example, some industry participants and experts  believe a practice a number of RTOs employ of pricing electricity  differently at various locations in a region to reflect the costs associated  with transmission congestion provides valuable signals by indicating  where additional generation or transmission is needed. Some critics,  however, charge that this method of pricing electricity has not produced  the expected investment in transmission and generation in the locations  where it is needed. Furthermore, they believe this practice, combined with  what they characterize as limited competition in RTO markets, allows  generators to keep their bids high and earn excess profits.
Studies of Restructuring and RTOs Draw Differing Conclusions  In order to weigh in on these issues, a number of academics and private  consulting firms have conducted studies about the benefits of  restructuring and RTOs and their effect on electricity prices, although  their studies have drawn differing conclusions. Some of these studies seek  to isolate the effect of restructuring and RTO membership from other  factors, such as fuel prices, to determine whether restructuring and RTOs  themselves have influenced prices and led to other benefits. We identify  and describe in appendix VIII a selection of 13 studies that are  representative of these varied conclusions. Several of the studies conclude  that the formation of RTOs resulted in greater efficiencies in the electricity  industry, significantly benefited local economies, and, in some cases, kept  electricity prices lower than they otherwise would have been. Others  conclude that RTO market design and operations have not kept prices to  consumers lower, but rather have led to higher consumer prices and  higher generator profits.
section_title: RTO-Developed Assessments of Performance Find Benefits
paragraphs: As a way of addressing concerns about whether they have provided  benefits, some RTOs have quantified the benefits they believe they have  provided to their regions. ISO New England, for example, developed  measures related to wholesale electricity prices, power production costs,  emissions, and other areas to quantify the value it has provided to New  England. According to ISO New England, average wholesale electricity  prices in its region, when adjusted for rising fuel costs, have declined from  $45.95 per MWh in 2000 to $42.64 per MWh in 2006. ISO New England  reports that over this same period, non-fuel-adjusted prices rose from  $45.95 per MWh to $62.74 per MWh. Midwest ISO also recently developed  an initiative to quantify its performance. According to its analysis, Midwest  ISO has improved electric service reliability and is more efficiently using  generation resources, a fact that, along with other factors, has contributed  to between $555 million and $850 million in annual net benefits. Midwest  ISO is currently soliciting comments from stakeholders on its analysis. We  did not analyze or validate either of these efforts.
section_title: FERC Believes RTOs Have Produced Benefits but Has Not Conducted a Study or Developed a Comprehensive Set of Publicly Available Measures for Tracking RTO Performance
paragraphs: FERC officials believe that RTOs have resulted in benefits to the economy,  such as new efficiencies in operating the regional transmission grid;  however, it has not conducted an empirical analysis or developed a  comprehensive set of performance measures to analyze these benefits.  FERC officials told us they consider RTO benefits when they review  proposals to create RTOs and approve RTO decisions, such as new  markets for electricity and other services. FERC also recently initiated a  proceeding to consider specific reforms to RTO markets—for example,  considering how to strengthen market monitoring and increase  opportunities for long-term power contracts. FERC believes RTOs have  produced numerous benefits, including the following:  improving the efficiency of the regional transmission grid, including  resolving operating problems such as transmission congestion;  providing more efficient transmission pricing policies; and minimizing  market power;  improving transmission reliability by facilitating more accurate  calculations of regional transmission capacity;  improving access to the grid by reducing opportunities for  discriminatory transmission practices;  improving competition in regional power markets by facilitating the  entry of new independent generators;  facilitating stakeholder consensus solutions to regional problems;    enhancing transparency and oversight regarding how prices are  determined and how access to the grid is granted; and    providing a process of regional transmission planning, thus resulting in  more efficient planning and use of resources across a region, as well as  an opportunity for input by a broad range of stakeholders.
However, FERC has not conducted an empirical analysis to measure  whether RTOs have achieved these expected benefits or how RTOs or  restructuring efforts more generally have affected consumer electricity  prices, costs of production, or infrastructure investment. FERC believes  data exist to support its conclusion that RTOs have provided benefits—for  example, data illustrating changes in generating capacity in RTO regions  and data about the number of transmission interruptions used by system  operators to address congestion. However, FERC has not used these or  other available data to analyze whether RTOs have produced benefits.  Furthermore, FERC has not reexamined its prospective estimate of the  benefits RTOs were expected to produce—estimated in 1999 at $2.4 billion  annually in cost savings—to determine whether these expected benefits  are actually being realized or how actual outcomes have differed from  original estimates. Some of the projections used to develop this estimate  were too conservative, indicating that the estimate is not as reliable as it  could be. Rather than incorporating a range of assumptions about future  fuel prices to account for uncertainty, the model used one set of fuel price  projections that turned out to be lower than what actually occurred. For  example, the model’s projections assumed the average price of natural gas  delivered to electric generation plants in the United States would rise to  $3.25 per million British thermal units (Btu) by 2005. In fact, the actual  price rose much faster, reaching $8.50 per million Btu in 2005. Similarly,  the model assumed that U.S. electric generation capacity using natural gas  and oil as fuel would increase from about 230,000 megawatts in 1997 to  about 284,000 megawatts in 2005, but in fact, U.S. electric generation  capacity rose to about 440,000 megawatts. FERC officials acknowledge  that some of the study’s assumptions were low but maintain that RTOs  have provided benefits.
Although FERC collects a wide range of data from the RTOs, it has not  developed a report or other assessment with comprehensive, standardized  measures that Congress and the public could use to identify and track  RTO performance. FERC has taken a step in this direction by developing a  nonpublic document that provides some standardized measures of RTO  market performance, and these measures are also addressed in public  reports issued by the RTOs. However, FERC officials explained that these  measures were not intended to be used to assess RTO benefits or evaluate  the performance of individual RTOs. Moreover, they are not  comprehensive, since they do not address the extent to which RTOs have  achieved the full range of expected benefits—such as improved reliability,  more efficient planning for generation and transmission investments, or  prices for consumers that are as low as possible—and do not compare  performance between RTO and non-RTO regions. FERC also includes  some statistics about RTOs on its Web site and in its annual report on the  electricity industry, but these data are of limited scope and do not contain  measures of operational and market performance. The RTOs themselves  publish large volumes of data about market and operational performance  in publicly available annual reports and other documents available on their  Web sites; however, the large amount of information and, in some cases,  its lack of standardization, make it difficult for the public or Congress to  easily compare and interpret it. Moreover, FERC has not synthesized these  data in a way that allows Congress and the public to draw conclusions  about the benefits of RTOs and their effectiveness or discern whether  RTOs and organized markets are in their best interest.
According to FERC officials, quantitative analyses of whether benefits  were achieved and identification of performance measures are not a  necessary part of its oversight of RTOs. Rather, FERC officials believe  FERC’s continual review of RTO performance—through its evaluation of  RTO decisions, proceedings about RTO market reforms, and market  monitoring—is sufficient to ensure RTOs continue to benefit consumers as  expected. Furthermore, FERC officials cited methodological challenges to  performing an empirical analysis of whether benefits were achieved and  developing performance measures, which it believes would limit their  value. FERC officials also explained that RTO participation is voluntary,  and that participants are able to assess for themselves the benefits of RTO  membership and join or depart based on their own determination.
Experts from the electricity industry and the academic community we  spoke with acknowledged that empirical analysis and measures of RTO  performance would be methodologically challenging to conduct. In  particular, these experts noted that there are difficulties in isolating the  influence of RTOs on prices, efficiency, and investment from other factors,  such as fuel prices. However, these experts observed that tracking  performance measures across RTOs would encourage better performance  and could identify potential areas for improvement. Some added that, in  certain cases, the same measures could be developed for non-RTO regions  to provide points of comparison. These experts suggested measuring and  providing standardized information to the public on market  competitiveness, transmission and generation investment, plant efficiency,  reliability, and changes in prices in RTO regions, among other things.  Some industry groups have also called for the development of common  measures of RTO performance, such as measures to track the difference  between generator costs and prices charged in RTO markets, changes in  congestion costs over time, and RTO costs of acquiring capital for major  investments. Another industry group commissioned an independent study  to identify and begin tracking standardized measures of RTO performance.
GAO’s Standards for Internal Control identify the value to organizations of  comparing actual performance to planned or expected results. More  specifically, past GAO work recognizes that federal agencies can use  performance information to identify problems in existing programs,  develop corrective actions, and identify more effective approaches to  program implementation, among other things. By developing standard  performance measures that draw upon its own internal analysis or work  being conducted by RTOs, industry experts, market monitors, and others,  FERC could, over time, develop a more thorough empirical understanding  of RTO performance and whether and to what extent RTOs have provided  benefits to the industry and to consumers. This could help FERC in  evaluating the success of the decision to encourage the creation of RTOs  and understand whether RTOs have led to the benefits expected of them.  Measures may also help FERC determine whether to encourage the  creation of additional RTOs or identify areas where its RTO policy and  RTOs themselves could be improved. Moreover, if available to Congress  and the public, measures could allow FERC to weigh in on the  disagreements among experts and industry participants about the benefits  RTOs provide.
section_title: Conclusions
paragraphs: It has been over 10 years since major federal electricity restructuring was  introduced and some of the first RTOs were developed to facilitate it, yet  there is little agreement about whether restructuring and RTOs have been  good for consumers, how they have affected electricity prices, and  whether they have produced the benefits FERC envisioned. Compounding  this, rising electricity prices and diverse regional interests complicate an  unbiased discussion of the merits of RTOs and restructuring. Although  there are challenges to answering questions about the benefits of RTOs, a  more structured and formalized approach to RTO oversight would be  beneficial.
FERC’s initial approach to allow a diverse range of RTO types, governance  structures, and rate recovery mechanisms provided a means for regions to  quickly build upon existing institutions like power pools and past  participant experience working together. However, much has changed  since the first RTOs came into existence, and it has become clear that  FERC’s efforts to regulate RTOs as it does utilities may no longer be  sufficient. Furthermore, the specific characteristics of RTOs devised by  FERC and its expectation that these entities would lead to lighter  regulation by FERC give RTOs a unique position in the electricity industry.  Some RTO functions, such as operating the transmission grid, typically fell  within the purview of utilities. Others, including market monitoring and  balancing different stakeholder interests, were more traditionally  performed by regulators. As a result of this unique set of responsibilities,  RTOs face much public scrutiny—something RTOs have implicitly  embraced in part through their varied stakeholder processes—and may  require different oversight by FERC. Although stakeholders told us they  value the stakeholder process at each of the RTOs, the concerns they  raised about its resource intensiveness and the challenges involved in  analyzing RTO decisions highlight the importance of FERC involvement  and oversight. In this regard, without more regular, consistent review of  RTO expenses and budgets, FERC may be missing an opportunity to better  ensure the cost-effectiveness of RTOs and that their rates remain just and  reasonable, even between rate proceedings. Furthermore, FERC’s lack of  regular review of RTO financial reports, filed annually in the Form No. 1,  limits its ability to ensure RTO expenses are accurately and completely  reported and reassure Congress, industry participants, stakeholders, and  the public that the billions of dollars in expenses RTOs have incurred in  recent years were reasonable and spent in accordance with budgets  previously approved.
Finally, while FERC believes RTOs have produced numerous benefits, the  fact that it has not developed a comprehensive set of publicly available  standardized measures to track RTO performance contributes to  uncertainty about what those benefits have been and their magnitude. We  acknowledge that FERC’s review of RTO decisions that affect electricity  prices and consideration of stakeholder comments and complaints  sometimes results in new rules designed to improve the ability of RTOs to  deliver benefits to their regions. However, in the absence of measures for  evaluating the success of the decision to encourage the creation of RTOs,  FERC may be missing opportunities to facilitate improvements in RTO  operations and markets and is not as strongly positioned as it could be to  evaluate the success of its decision to encourage the creation of RTOs and  determine whether to encourage further RTO development.
section_title: Recommendations for Executive Action
paragraphs: To help ensure that FERC, industry participants, and the public have  adequate information to inform their assessment of whether rates to  recover RTO expenses are just and reasonable, we recommend the  Chairman of FERC take the following two actions:    develop a consistent approach for regularly reviewing expense  information contained in RTO budgets and  routinely review and assess the accuracy, completeness, and  reasonableness of the financial information RTOs report to FERC in  their Form No. 1 filings.
To provide a foundation for FERC to evaluate the effectiveness of its  decision to encourage the creation of RTOs and help Congress, industry  stakeholders, and the public understand RTO performance and net  benefits, we recommend the Chairman of FERC take the following two  actions:    work with RTOs, stakeholders, and other experts to develop  standardized measures that track the performance of RTO operations  and markets and  report the performance results to Congress and the public annually,  while also providing interpretation of (1) what the measures and  reported performance communicate about the benefits of RTOs and,  where appropriate, (2) changes that need to be made to address any  performance concerns.
section_title: Agency Comments and Our Evaluation
paragraphs: We provided FERC a draft of this report for review and comment. In a  letter dated August 28, 2008, we received written comments from the  Chairman of FERC. These comments are reprinted in appendix IX. We also  received technical comments, which we incorporated into the report as  appropriate.
In his letter, the Chairman generally agreed with our report and its  recommendations. We commend FERC for its interest in addressing the  concerns we raised. The Chairman also provided comments in response to  each of the recommendations and outlined plans to address them.  Specifically:    Regarding our first recommendation, that FERC develop a consistent  approach for regularly reviewing expense information contained in RTO  budgets, FERC agreed to increase its efforts to review RTO budgets and  the reasonableness of RTO costs, and the Chairman has directed FERC  staff to evaluate possible approaches for doing so.
Regarding our second recommendation, that FERC perform additional  review of the financial information in Form No. 1 filings, FERC indicated  that, in addition to the one audit it has already begun, it plans to perform  periodic audits of the financial information in Form No. 1 filings in the  future.
Regarding our third and fourth recommendations, that FERC work with  RTOs, stakeholders, and other experts to develop standardized measures  that track the performance of RTO operations and markets and report on  those measures to Congress and the public, the Chairman noted that  FERC is considering appropriate procedures for developing such  measures and how best to report them. Regarding reporting, the Chairman  observed that RTO “State of the Market” annual reports may be a vehicle  for providing data and additional information to the public on RTO  performance. While we agree that these annual reports of data on RTOs  could be helpful for providing the public with additional performance  information, we urge the Commission to consider what role it can play in  helping Congress, industry stakeholders, and the public interpret and  evaluate data and other information from RTOs in order to draw  conclusions about RTO performance and value. It is clear that electricity  markets and RTO operations are complex. FERC’s expertise and  independence make it well positioned to help Congress and others assess  RTO performance and net benefits, and its oversight authority gives it the  ability to use this information to encourage continued improvement. The  Chairman also expressed uncertainty about whether annual evaluation of  results and recommendations for change was feasible or cost-effective. We  recognize that FERC must balance numerous responsibilities and that the  extent of its evaluation of RTO performance may vary from year to year.  However, we believe significant value could be realized from (1) providing  Congress and others with a consistent, annual source of data for tracking  the performance of RTOs and (2) ongoing analysis of performance  information and consideration of how it could aid FERC in carrying out its  RTO responsibilities.
Finally, along with its general agreement with our recommendations,  FERC provided two clarifying comments.
The first clarifies FERC’s role in approving RTO procedures for planning  transmission infrastructure, and we incorporated this comment into our  report.
In the second, FERC commented on a statement in our draft report’s  conclusions that RTOs are in a position of greater public trust than  utilities. FERC observes that all utilities have a position of public trust and  that a number of utilities are responsible for administering transmission  systems that are as large as or larger than those of some RTOs. We agree  that all utilities carry out important activities in the public interest that  necessitate vigilant regulatory oversight and acknowledge that a number  of large utilities exist. However, we also recognize that FERC had a  number of unique expectations for RTOs that it did not have for utilities,  believing the creation of RTOs could lead to lighter regulation by FERC.  For example, FERC expected RTOs to assist it in its oversight of the  electricity industry through, among other things, their market monitoring  activities and the stakeholder process in which market development and  other issues are discussed and potentially resolved without resorting to  FERC’s complaint process. It is for these reasons that we believe FERC  should take certain regulatory steps specific to RTOs like those we  recommend in our report—for example, evaluating RTOs using  performance measures—in order to improve RTOs and educate the public  on their performance. However, in response to FERC’s comments, we  revised the report’s conclusions to emphasize the unique role of RTOs and  avoid relative comparisons of trust between RTOs and utilities.
As agreed with your offices, unless you publicly announce the contents of  this report earlier, we plan no further distribution until 30 days from the  report date. At that time, we will send copies of this report to interested  congressional committees; the Chairman of FERC; and other interested  parties. We will also make copies available to others upon request. In  addition, the report will be available at no charge on the GAO Web Site at  http://www.gao.gov.
If you or your offices have any questions about this report, please contact  me at (202) 512-3841 or gaffiganm@gao.gov. Contact points for our Offices  of Congressional Relations and Public Affairs may be found on the last  page of this report. GAO staff who made major contributions to this report  are listed in appendix X.
section_title: Appendix I: Objectives, Scope, and Methodology
paragraphs: At the request of the Chairman and Ranking Member of the Senate  Committee on Homeland Security and Governmental Affairs, we reviewed  (1) Regional Transmission Organizations’ (RTO) key expenses and  investments in property, plant, and equipment; (2) how RTOs and the  Federal Energy Regulatory Commission (FERC) review RTO expenses and  decisions that may affect electricity prices; and (3) the extent to which  there is consensus about what benefits RTOs have provided. Our review  focused on the six RTOs in FERC’s jurisdiction—California Independent  System Operator (ISO), ISO New England, Midwest ISO, New York ISO,  PJM Interconnection (PJM), and Southwest Power Pool.
To determine the total expenses incurred by RTOs from 2002 to 2006, the  most recent data available when we began our review, and their key  investments in property, plant, and equipment, we reviewed independent  public auditor reports over this period, as well as full-time-equivalent  personnel and transmission volume as reported to us by the RTOs. We  summarized RTO expense, personnel, and transmission volume and  property, plant, and equipment balances by RTO, and calculated average  salary and related benefits per full-time equivalent and total expenses per  megawatt hour (MWh) from 2002 through 2006 for each RTO. Our analysis  reflects total annual expenses as reported in the RTOs’ annual audited  financial statements. We did not retroactively apply financial statement  reclassifications to data from prior years. In addition, RTOs utilized  differing billing methodologies, and consequently, the rates they charged  to market participants may be different from the total expenses per MWh  calculated in our analysis.
To illustrate the total amount of investments in property, plant, and  equipment as of December 31, 2006, we used total property, plant, and  equipment in our analysis without reducing those amounts by  accumulated depreciation. We also reviewed 2006 RTO FERC Form No. 1  filings, the most current available at the time of our audit, to determine the  amount of RTO expenses attributable to transmission expenses and  regional market expenses, as well as administrative and general expenses.  Independent public auditor reports did not aggregate expenses by these  categories. We adjusted all expense amounts for inflation utilizing 2007 as  the base year.
To determine how FERC and RTOs review RTO expenses and decisions  and discuss other aspects of RTO costs and benefits, we collected general  information, interviewed representatives from the six RTOs, and spoke to  the ISO/RTO Council about how FERC and the RTOs review proposed  budget expenses and consider how RTO decisions affect electricity prices.
For two RTOs—ISO New England and Midwest ISO—we collected more  in-depth information and interviewed stakeholders from each of the major  stakeholder sectors. We selected these two RTOs because they are  multistate and perform a breadth of functions and services, but also reflect  geographical and historical differences. For example, ISO New England  evolved from a power pool; Midwest ISO did not. We interviewed state  agency officials from these RTO areas, including state regulatory agencies  (such as the Connecticut Department of Public Utility Control, Illinois  Commerce Commission, Indiana Utility Regulatory Commission, Maine  Public Utilities Commission, and Massachusetts Department of Public  Utilities), state consumer agencies (such as the Connecticut Office of  Consumer Counsel and Maine Office of the Public Advocate), and state  regulatory associations (such as the Organization of MISO States, National  Association of Regulatory Utility Commissioners, and the New England  Conference of Public Utility Commissioners). We also interviewed  representatives from each of these RTOs’ stakeholder groups to  understand how FERC and RTOs review RTO decisions and expenses. We  interviewed officials from the North American Electric Reliability  Corporation to understand their interaction with RTOs. We spoke with  officials from FERC’s Office of Enforcement and Office of Energy Market  Regulation and reviewed related documentation that outlined FERC’s  steps to review RTO expenses for reasonableness and accuracy. We  reviewed selected FERC rate proceedings to better understand the type of  information provided to FERC about proposed RTO expenses and the  analysis it performs. We also considered FERC’s process for reviewing  actual expenses as reported in FERC Form No. 1 filings and reviewed  FERC audits of RTOs conducted in 2004 which focused primarily on  governance. While we generally reviewed FERC’s oversight of RTOs, we  did not perform an in-depth analysis of FERC’s review of specific RTO  decisions.
Finally, to address the extent to which there is consensus about what  benefits RTOs have provided, we interviewed FERC officials and reviewed  related documentation, including FERC’s 1999 prospective assessment of  RTO expected benefits. We interviewed several experts in the field of  electricity restructuring to discuss their opinions on the benefits and costs  of RTOs and their assessment of the adequacy of FERC’s analysis of RTOs  to date. These included experts from the Analysis Group, Cornell  University, Northeastern University, Penn State University, the University  of California Berkeley, and Vermont Law School. We chose experts  affiliated with academic institutions and research firms with extensive  knowledge of electricity restructuring and RTOs. We selected experts with  a balanced range of views about the economic benefits of RTOs. We also  interviewed a number of industry participants, including representatives  from electricity industry associations and consumer organizations, such as  the American Public Power Association, Compete Coalition, Consumer  Federation of America, Electric Power Supply Association, Edison  Electric Institute, Electricity Consumers Resource Council, Industrial  Energy Consumers of America, National Rural Electric Cooperative  Association, and Public Citizen to more fully understand where there was  agreement and disagreement about the costs and benefits of RTOs. We  reviewed reports and analyses from these and other industry participants  that discussed the costs and benefits of RTOs.
We also reviewed expert studies on the economic effects of restructuring  and competition in the electricity industry and electricity consumers. In  deciding which studies to include in our summary table, we selected some  studies that were sponsored by both advocates and critics of the existing  RTOs, as well as studies that are more academic in nature. Some of these  studies specifically addressed the impact of RTOs on electricity costs and  prices, while others addressed the impacts of restructuring and  competition more generally, without specifically isolating the impact of  RTOs. We conducted basic analyses of data on electricity prices, intensity  of the use of generation resources (capacity factors), and type of  generation resources (by fuel use). For the analysis of prices and capacity  factors, we divided states into four categories: (1) original RTO states— states joining an RTO in 1999 or earlier and historically in a power pool,  (2) new RTO states—states joining an RTO region after 1999, (3) non-RTO  states—states outside RTO regions, and (4) California. The original RTO  states category included Connecticut, Delaware, Massachusetts, Maryland,  Maine, New Hampshire, New Jersey, New York, Pennsylvania, Rhode  Island, Vermont, and the District of Columbia.  The new RTO states  category included Iowa, Illinois, Indiana, Kansas, Michigan, Minnesota,  Missouri, North Dakota, Ohio, Oklahoma, Virginia, Wisconsin and West  Virginia.  The non-RTO states category included Alaska, Alabama,  Arkansas, Arizona, Colorado, Florida, Georgia, Hawaii, Idaho, Kentucky,  Louisiana, Mississippi, Montana, North Carolina, Nebraska, New Mexico,  Nevada, Oregon, South Carolina, South Dakota, Tennessee, Utah,  Washington and Wyoming.  We placed California in a separate category  because its electricity industry went through a turbulent restructuring  process during part of the time period that we analyzed. We did not  include Texas in our analysis, because most of the state constitutes a  separate grid from the two other main grids in the United States and is  largely unregulated by FERC. For the other three groupings, states that  were partially in an RTO region were considered part of the region if  electricity for most major cities was provided by a utility that participated  in an RTO. Our analysis was based on electricity data obtained from the  Energy Information Administration. For the price analysis, we used  electric power retail sales and electric revenues data. We developed  average price estimates by aggregating state-level data, dividing revenues  by sales, and adjusting for inflation using the gross domestic product price  index. We focus on the prices in the industrial sector because the retail  portion of its electricity prices is typically smaller than the retail portion of  residential and commercial electric prices. RTOs operate wholesale  markets and do not determine the retail portion of electric prices. We also  conducted a specific analysis of relative industrial electricity prices.  A  description of that analysis and our methodology is presented in Appendix  VII.  For the analysis of the intensity of the use of generation resources, we  calculated capacity factors from Energy Information Administration state- level data on electric power generation capacity and actual generation. We  also interviewed representatives from the Energy Information  Administration to understand the type of data that agency collects related  to estimating the benefits and costs RTOs.
We conducted this performance audit from October 2007 to September  2008 in accordance with generally accepted government auditing  standards. Those standards require that we plan and perform the audit to  obtain sufficient, appropriate evidence to provide a reasonable basis for  our findings and conclusions based on our audit objectives. We believe  that the evidence obtained provides a reasonable basis for our findings  and conclusions based on our audit objectives. We provided a draft of this  report to FERC for its review. FERC’s comments are reprinted in  Appendix IX.
section_title: Appendix II: RTO Characteristics and Functions Required by FERC Order 2000
paragraphs: Appendix II: RTO Characteristics and  Functions Required by FERC Order 2000 RTOs must be independent of control by any market participant and have the authority to  propose rates, terms, and conditions of transmission services provided over the facilities they  operate. An RTO’s employees must not have financial interest in any market participant.
RTOs must serve an appropriate region of sufficient scope to maintain reliability, support  efficient and nondiscriminatory power markets, and carry out their other functions.
RTOs must have operational authority for all transmission facilities under their control.
RTOs must have exclusive authority for maintaining the short-term reliability of the grid they  operate.
RTOs must administer their own transmission tariff—an agreement that outlines the terms and  conditions of transmission service—and employ a transmission pricing system that promotes  efficient use and expansion of transmission and generation facilities.
RTOs must ensure the development and operation of market mechanisms to manage  transmission congestion.  These mechanisms should accommodate broad participation by all  market participants and provide transmission customers with efficient price signals.
RTOs must develop and implement procedures to address engineering and reliability problems  caused by parallel path flows—a term that refers to electricity flowing over all possible  transmission lines regardless of who owns the lines and what transmission contracts were  agreed to.  According to FERC, prior to RTOs many transmission owners found their grids  overloaded by the actions of others because of this engineering reality.  Since they were unable  to determine the responsible party, these owners had to curtail their own use of their grid.
RTOs must serve as the provider of last resort for ancillary services—services to maintain the  reliable operation of the transmission system—and have the authority to decide the minimum  required amounts of each ancillary service.  RTOs must also ensure that transmission  customers have access to a real-time balancing market.
RTOs must be the single administrator for the Open Access Same Time Information System  (OASIS) site—an Internet-based electronic communication and reservation system through  which transmission providers provide information about the availability and price of transmission  and ancillary services and customers procure those services. Furthermore, RTOs must  independently calculate total and available transmission capacity—measures of the amount of  electric power that the transmission system is capable of transferring from one point in the grid  to another.
RTOs must provide for objective monitoring of markets administered to identify market design  flaws, market power abuses, and opportunities for efficiency improvements.
RTOs must be responsible for planning and directing necessary transmission expansions,  additions, and upgrades that will enable it to provide efficient, reliable, and nondiscriminatory  service. In doing so, they must coordinate such efforts with appropriate state authorities and  must encourage market-driven operating and investment actions for preventing and relieving  congestion.
RTOs must ensure the integration of reliability practices across regions.
section_title: Appendix III: RTO Inflation-Adjusted Expenses and Full-time Equivalents from 2002 to 2006, by RTO
subsections: section_title: Consulting, professional, and other outside services
section_title: Appendix IV: Megawatt hour Load Served by RTO from 2002 through 2006
section_title: Appendix V: Inflation-Adjusted RTO 2006 Expenses Reported on FERC Form No. 1
paragraphs: Appendix V: Inflation-Adjusted RTO 2006  Expenses Reported on FERC Form No. 1 (Dollars in thousands)
section_title: Appendix VI: Investment in Property, Plant, and Equipment for RTOs as of December 31, 2006
paragraphs: Appendix VI: Investment in Property, Plant,  and Equipment for RTOs as of December 31,  2006 (Dollars in thousands)
section_title: Appendix VII: Indexed Electricity Prices, 1990-2007
paragraphs: As part of our effort to examine trends in state-level prices for industrial  customers, we created indexes of prices at the state level. The indexes  reflect the average of electricity prices paid by industrial customers,  divided by the comparable national average price. As such, a state with an  index greater than 1.0 would indicate that the state price was greater than  the national average and vice versa. Such an approach focuses attention  on how prices compare to the national average and how the different  states’ standing relative to the national average changes over time. This  approach also avoids the necessity of deciding which deflator is most  appropriate for adjusting nominal electricity prices for inflation.
To examine the trends in these indexes for the different regions of the  country according to their RTO affiliations, we created weighted average  indexes consistent with our RTO classifications described in appendix I.  We chose to include Texas in this analysis for purposes of comparison. We  obtained a weighted average by multiplying each state’s index for a given  year by the share of its retail sales of electricity to industrial customers  relative to its group’s total, and then summing up the resulting multiples  for all the states in a given group. The results of this effort are reasonably  consistent with the results of the basic price analysis reflected in figure 10  of the report. This analysis provides additional insights into price trends  over the period of analysis. For example, it shows that from about 1997  through 2002, the original and new RTO states witnessed relative price  decreases compared to the non-RTO group. Further, it appears that from  2002 through the most recent data in 2007, the original RTO states also  witnessed relative price increases that effectively erased the decline in  prices from 1997 through 2002. In this analysis, these prices (original RTO  states) in 2007 are higher, in a relative sense, than they were prior to  restructuring in 1997. Industrial prices in Texas, generally not overseen by  FERC, have witnessed notable relative price increases since the  introduction of restructuring. It is important to note that this analysis  provides a look at price trends and does not provide any indication of  RTOs causing these trends or even influencing them. Notably, both the  original RTO states and Texas are highly reliant on natural gas, the prices  of which have increased dramatically in recent years.
section_title: Appendix VIII: Summary of Expert Studies Analyzing the Benefits of Restructuring and Regional Transmission Organizations
subsections: section_title: Author and affiliation
paragraphs: Restructuring and  competition in New  England resulted in  relatively small savings  in the capital and  operating costs of  wholesale electricity. No  specific analysis of the  impact of wholesale cost  savings on consumer  prices.
Sponsored by an electricity- generating company. Estimated  that restructuring and  competition resulted in an  expected 2 percent savings in  wholesale electricity costs for  New England from 2002 to  2018. Net benefits estimate  based on comparing model  simulations of capital and  operating costs of the  restructured electric industry in  New England with simulations of  investments and operating costs  in a “counterfactual” case with  more traditional regulation and  without industry restructuring.  Attributed very significant  benefits to greater nuclear plant  efficiency from restructuring and  competition.
Restructuring has been  beneficial to companies  that restructured, but the  evidence regarding the  impact of RTOs on  consumers is far less  clear.
Constructed an economic and  statistical model to study the  impact of various elements of  retail and wholesale  restructuring on the price-cost  markup of electricity-generating  companies. Asserted that  restructuring was beneficial to  companies that restructured,  based on the conclusion that 2  to 3 cents per kilowatt-hour of  the difference between prices  and costs was explained by  restructuring rather than  increases in fuel prices.
The study finds no  evidence that RTO  formation or industry  restructuring explains  price differences among  regions of the country.
Compared actual average retail  industrial electricity prices with  model-predicted prices in states  classified as restructured and  nonrestructured in 2001-2003.  Concluded that prices were  lower than predicted in two- thirds of restructured states and  in about one-quarter of  nonrestructured states.  Concluded also that regulatory  reform at neither the retail nor  wholesale levels (RTO  participation) was a significant  driver of the difference in price  trends.
Consumers in the  Eastern Interconnect  region (entire United  States except 11  Western states and  Texas) benefited from  large savings in the cost  of utility wholesale  purchases of electric  power.
Commissioned by private  energy companies. Concluded  that wholesale competition in  the electricity industry in the  Eastern Interconnect region  resulted in large net economic  benefits and that RTOs  contributed significantly to the  realization of these benefits.  Used a computer model to  simulate wholesale electricity  production costs for 1999-2003  under two scenarios: simulating  (1) actual restructuring events  over 1999-2003 and (2) the  absence of procompetitive  FERC reform over the same  period. Concluded that  procompetitive reforms resulted  in about $15 billion net savings.  Savings largely driven by  dramatically improved  efficiencies of power plants.  Also specifically estimated large  net economic benefits from  expansion of the PJM  Interconnect in 2004, supporting  the conclusion that RTO  formation and operations played  an important role in realizing the  benefits of competition.
Average retail prices are  slightly lower per  megawatt hour for PJM  and New York ISO  residential consumers  than if coordinated  markets had not been  implemented.
Commissioned by PJM. Used  several statistical economic  models to isolate the impact of  electricity restructuring from  several other variables that  affect electricity prices. All  model specifications indicated  somewhat lower prices  associated with restructuring.  Concluded that while current  RTO markets are imperfect,  they have provided material  benefits to consumers.
LMP markets in RTOs  have not delivered  benefits to consumers in  ISO New England and  PJM; resource owners  have reaped windfall  profits.
Commissioned by the American  Public Power Association.  Concluded that location-based  pricing of RTO markets like PJM  and ISO New England  represented the best approach  available for operating large,  interconnected power pools  efficiently and reliably. Also  concluded that the benefits of  this form of pricing have been  limited because markets are  based on bids rather than costs  and lack perfect competition.  Further, this pricing mechanism  in the PJM and ISO New  England markets resulted in  windfall profits for resource  owners without benefits to  consumers. Found no evidence  of this form of pricing improving  the pattern of investments in the  industry.
Large savings in  wholesale electricity  costs in New England  and in ratepayers’ bills,  and other benefits  including service  reliability, lower  emissions, and greater  demand response.
Summarized unpublished ISO  New England analyses that  estimated RTO benefits in  different aspects of electricity  service in New England.  Estimated average annual  wholesale market savings of  about $850 million from 2000 to  2006, equivalent to an  approximate net monthly  savings of $4 for the average  New England ratepayer.  Quantified other RTO benefits,  such as lower emissions of  certain pollutants. Concluded  that ISO New England had a  significant role in enhancing the  reliability and efficiency of the  region’s electricity industry and  can help achieve the region’s  environmental goals by enabling  the interconnection of low- carbon-emitting resources,  benefit the region’s electricity  consumers, improve planning,  and more.
Lower prices for  residential and industrial  consumers.
Constructed an economic and  statistical model to study the  effects of retail and wholesale  competition on electricity prices  for residential and industrial  consumers, using the share of  electricity generated by  unregulated generators in a  state as a proxy measure for the  effect of wholesale  restructuring. Concluded that  greater activity in a state’s  wholesale electricity market is  associated with lower prices for  residential and industrial  consumers, supporting the  study’s view that RTOs  improved industry performance.
Found no reliable or  convincing evidence that  consumers are better off  as a result of  restructuring the U.S.  electric power industry.
No data analysis  conducted (review of  other studies)
Commissioned by the American  Public Power Association,  reviewed 12 studies on the  economic impact of restructuring  in the U.S. electricity industry.  Identified serious weaknesses in  all 12, concluding that the  methodologies consistently fell  short of the standards for good  economic research. Most also  failed to fully address the effects  of restructuring.
Large net economic  benefits in the Midwest  ISO region in various  aspects of electricity  services; no specific  analysis of how benefits  affect consumer prices.
Size, duration, cost, and  probability of electricity  outages; measures of  the use of electricity  generation capacity and  of the cost of reserve  generation capacity;  RTO administrative and  operating costs; etc.
Summarized Midwest ISO and  consulting firm studies that used  different approaches to  estimating the economic impact  of Midwest ISO operations in  several areas. Concluded that  $555 million to $850 million in  annual net economic benefits for  the region resulted from more  efficient use of the industry’s  resources (generation and  transmission assets), more  reliable service, and improved  planning and investment  patterns. Pointed to unquantified  benefits related to greater price  transparency, regulatory  compliance, and improved  opportunities for demand  response and renewable  resources.
No conclusions on  whether RTOs yielded  net economic benefits or  whether retail  consumers were  benefiting from RTOs.
Prepared for the National Rural  Electric Cooperative Association  and intended to provide insight  into RTO performance in various  areas. Stated that many industry  stakeholders were concerned  that no single reference  document was available for  RTO statistics to objectively  analyze RTO and RTO market  performance. Consolidated data  from different sources to make  performance comparisons  across RTOs. Mentioned areas  of strength of individual RTOs  and expressed concern,  particularly about market power,  demand response, and  investments.
Restructuring electricity  markets at least so far  has resulted in no  discernible benefits to  consumers of electricity.
Commissioned by the Virginia  State Corporation Commission.  Addressed retail and wholesale  restructuring. Recognized that  RTOs’ “marginal cost” pricing is  needed for an efficient market  under competitive conditions,  but expressed concern that RTO  markets were not sufficiently  competitive because consumers  had very limited ability to  respond to high prices by  reducing demand and because  of evidence of market power on  the supply side.
Restructuring and  competition resulted in  significant reductions in  the prices consumers  pay for electricity.
Used a comparison of prices for  1997 and 2002, assuming that  prices were lower in 2002 due to  a large extent to restructuring.  Estimated that PJM electricity  consumers saved about $3.2  billion in 2002 from  restructuring, equivalent to  about 15 percent of their  electricity bills that year.
For comparison, the 2007 average retail price of electricity was about 9 cents per kilowatt-hour (see  fig. 9).
Blumsack, Lave, and Apt, Electricity Prices (2008), p. 24: “Overall, simply joining an RTO has had  little effect on price-cost markups, although the combination of RTO membership and retail  competition appears to dampen the increase in price-cost margins.”
section_title: Appendix IX: Comments from FERC
section_title: Appendix X: GAO Contact and Staff Acknowledgments
subsections: section_title: GAO Contact
section_title: Staff Acknowledgments
paragraphs: In addition to the individual above Jon Ludwigson, Assistant Director;  Pedro Almoguera; Dan Egan; Philip Farah; N’Kenge Gibson; Paige  Gilbreath; Randy Jones; Jennifer Leone; Ying Long; Alison O’Neill; Glenn  Slocum; Barbara Timmerman; Walter Vance; and George Warnock  provided significant contributions.