Ken Silverstein EnergyBiz Insider Editor-in-Chief

Regional Transmission Organizations (RTOs) are based on the notion that transmission asset owners will contractually commit to follow the lead of independent operators whose key responsibility is to schedule power deliveries and to prevent market abuses. In the areas where they exist, RTOs are open and active markets with defined rules that are translating into lower prices across geographic boundaries. As additional utilities have joined them, pricing mechanisms have become increasingly transparent and efficient.

"RTOs provide a great deal of benefit because they are independent and because they take the long view," says Suzanne Daugherty, CFO of the PJM Interconnection in Valley Forge, Pa. "While they would be beneficial in other parts of the U.S., you can't force fit a model everywhere you go. You need to look at the circumstances and whether the needs of customers could be better served."

PJM is a for-profit RTO. The underlying assets are owned by its members that have ceded authority to it to schedule and deliver electricity. It can also order transmission upgrades and as such has authorized $1 billion since 1997 toward that effort. Like all other RTOs, it has no financial stake in any transaction but does recover its administrative costs. Unlike others, its members have opted to remain a for-profit entity, ensuring future flexibility and the possibility of becoming a "Transco" that operates other transmission systems around the country.

In their quest to route out inefficiencies and to produce competitive markets, federal regulators sought in the late 1990s to create open access to electric transmission lines allowing any generator to send its power to prospective customers. The idea was the vertically-integrated utilities that controlled both the generation and the transmission would be reluctant to allow upstart merchant generators the right to move power along their lines -- particularly because they had residential and business loads to serve.

Altogether, seven separate RTOs now exist around the country. They are: the California ISO, the Electric Reliability Council of Texas, the Midwest ISO, the New England ISO, the New York ISO, PJM Interconnection and the Southwest Power Pool. The Northwest, meantime, is in discussions over whether to create a hybrid version called Grid West while the Southeast failed to create the so-called SE Trans.

Good Cops

RTOs are federally regulated and take bids collectively from buyers and sellers of electricity and subsequently establish a price. They also schedule the physical delivery of that product on a day-ahead basis or in real time. Low cost generation is dispatched first. The Northeast ISO (NE ISO) boasts that the added efficiencies there have cut wholesale market prices -- excluding the underlying cost of fuel -- by 11 percent since 2001.

Most of the systems give market participants the most up-to-date information on supply, demand and pricing at numerous delivery points on the transmission system during periods of congestion. At the same time, system operators have the ability to order power generators to ramp up or down.

Most regions around the country need additional transmission to move electrons. And while many of the RTOs have the authority to order upgrades or new construction, they say participants have responded to the market. The NE ISO says that permission has been given to build five new lines. Similarly, the California ISO (CAISO) says that $3.2 billion in transmission projects have been approved since 1998, including Path 15, all to alleviate the infamous bottleneck between southern and northern California. The RTO, however, says that getting new transmission built to accommodate cheaper generation in the Southwestern U.S. is still problematic.

In the case of the Midwest ISO (MISO), it reviews 170,000 data points every few seconds to make certain the grid is secure. It also has a market-based congestion management system, says James Torgerson, CEO of the organization. Price signals are constantly sent to generators in an effort to balance the network. If reliability of the grid is an issue, MISO now has the authority to order generators on or off the lines.

"Today, we do this all the time," says Torgerson, when asked to compare the system's strengths and weaknesses between now and the 2003 Blackout. "We use market signals to move generation around and we can see what each generator is doing. We also have a market monitor who looks at things in real time and whose whole job is to look for trends or behaviors that might create situations where people could manipulate the market."

Some Skepticism

To be sure, support for RTOs is anything but unanimous. Under FERC's new chairman, Joseph Kelliher, the enthusiasm for a wholesale expansion has been tempered. He acknowledges the "rising chorus of complaints" about how costly they are to operate. Indeed, the price tag associated with running major RTO systems is well into the hundreds of millions of dollars and critics are asking if the benefits they provide outweigh the expenses.

The Northwest is skeptical about the viability of RTOs in its region. Key state regulators there are espousing a hybrid version of those that exist elsewhere in the country -- one that would preserve local control and avoid falling under the jurisdiction of FERC.

Critics also question whether there can ever truly be a free market in electricity trading. They argue that the transmission system is simply too constrained, which provides opportunities for market manipulation. When supplies are short, producers can exert too much influence and drive up prices -- like they did in California in 2000-2001. They reason that the jury is still out as to whether electricity is truly a tradable commodity, or a natural monopoly.

"There are a lot of things about vertical integration and the old structure that are inefficient," says David Raskin, a lawyer with Steptoe & Johnson in Washington, D.C. who has worked on the development of RTOs in the southeast and northwest. "But many people are now questioning whether today's RTOs are more problematic than the system that they are replacing," he adds, noting that the issues range from high costs to excessive interference.

But RTO enthusiasts counter that the general business model is functioning. While they are a work in progress, such systems are enhancing reliability and mitigating market abuses.

"We do not want to make RTOs so complex that using them becomes burdensome," says Stephen Greenleaf, director of executive operations for CAISO in Folsom, Calif. "A lot of people may take comfort in the old way of doing things but that, too, remains challenging."

In contrast to the vertically-integrated models, RTOs seek to create price transparency and the ability to wheel power across swaths of America. More generators can then bid their power into the system and the resulting competition puts downward pressure on prices. The organizations have plenty of blemishes but the ultimate objective is to polish operations and to create new investment for much needed infrastructure.

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