Pricing carbon in federally regulated electricity markets could be more efficient at driving down emissions than clean energy subsidies and mandates in the states that belong to them. But that doesn’t mean that states leery of federal intervention in their carbon-reduction goals think it can replace what they’re already doing. 

That’s a key point emerging from Wednesday’s carbon pricing conference held by the Federal Energy Regulatory Commission, which regulates the independent system operators (ISOs) and regional transmission organizations (RTOs) that manage transmission networks delivering electricity to about two-thirds of the country. 

The all-day conference, held at the request of power generators, industry groups and clean-energy advocates, yielded broad consensus that pricing carbon is a cost-effective way to drive down emissions while fostering grid reliability. But it also underscored tensions between FERC and those states that say its actions have undermined their clean-energy mandates and incentives.

Rulings from FERC’s Republican majority have imposed restrictions on how state-subsidized energy resources can participate in wholesale capacity markets — most notably, FERC’s minimum offer price rule order for mid-Atlantic grid operator PJM, but also rulings denying capacity market changes sought by New York state grid operator NYISO

FERC’s justification has been that state subsidies undermine pricing for other resources needed for grid reliability. The same point was made by ISOs and RTOs struggling to balance state goals with competitive market designs. 

“Today, most of these balancing resources are unsponsored by the states and are wholly reliant on pricing in the competitive markets,” said Gordon van Welie, CEO of ISO New England. “Out-of-market actions can cause price suppression, which may lead to the retirement of those balancing resources when they are still needed to ensure reliability.” 

ISO-NE has been criticized by U.S. senators representing New England states for its moves to mitigate these imbalances, which have disadvantaged renewable energy resources in its capacity market, clean-energy advocates say. 

But pricing carbon in markets could neatly avoid this problem by aligning market incentives with state policies, van Welie said. “ISO New England has long advocated for carbon pricing as a solution that allows markets to efficiently price emissions without harming price formation.” 

Real-world carbon pricing proposals in the spotlight 

While ISO-NE supports carbon pricing in principle and PJM is studying its potential, there are major challenges for ISOs covering multiple states with different policy objectives to negotiate a commonly acceptable market design. 

As a single-state grid operator, NYISO’s carbon-pricing proposal is the most advanced effort yet to bring this concept to reality, although it’s still awaiting the core piece of data that will enable it: a social cost of carbon calculation from New York state regulators that will set the price. 

To align its market operations with New York’s aggressive goals to decarbonize its energy sector by 2040, “reflecting a social cost of carbon dioxide emissions, set through a state or regional initiative, is essential,” NYISO CEO Rich Dewey said.

Wednesday’s conference saw broad agreement that FERC has legal authority to consider ISO and RTO carbon-pricing plans and to approve them if they meet its mandate to ensure “just and reasonable” rates. 

But experts disagreed on whether FERC can act unilaterally to order ISOs and RTOs to create something approaching a national carbon-pricing regime. Ari Peskoe, director of the Electricity Law Initiative at Harvard University, argued that FERC has that authority under the Federal Power Act. Other participants argued that such a move might be open to legal challenge “absent a congressional mandate to do so,” FERC Chairman Neil Chatterjee said in a Thursday press conference.  

And because FERC lacks authority over environmental regulations, carbon-pricing proposals would need to clearly center on fostering more cost-effective markets, he said. “FERC is not in the driver’s seat when it comes to environmental policy.” 

Chatterjee declined to comment on NYISO’s carbon-pricing proposal as a matter yet to be taken up by FERC, but said that any carbon-pricing plan before it would undergo a “fact-specific analysis” to determine “whether such a proposal is just and reasonable.” 

Chatterjee did affirm the validity of market designs that incorporate carbon cap-and-trade policies such as the Regional Greenhouse Gas Initiative including 10 Northeastern states, or California grid operator CAISO’s incorporation of carbon prices from the state’s cap-and-trade program into its multi-state Electricity Imbalance Market. “I think there’s a well-understood mechanism for reflecting the costs that generators face to comply with these programs in their energy market offers.” 

Looming state-federal conflicts 

Chatterjee was less supportive of proposals from New Jersey, Maryland and Illinois, states with clean-energy mandates, to consider departing PJM’s capacity market to avoid the expected negative effects of FERC’s minimum offer price rule decision. So far none have taken that step, which could expose them to increased costs and complications in securing resources needed for grid reliability. 

“I know that the governor of Illinois and other states have recognized that there are consequences to removing themselves from FERC jurisdictional markets,” he said. 

But Exelon CEO Chris Crane noted Wednesday that the economic struggles of its Illinois nuclear fleet — now the subject of a tense standoff with Governor JB Pritzker and Illinois lawmakers over what policies will allow the state to pursue its clean-energy and carbon-reduction goals — are a “direct result of failing to have a meaningful carbon price in the wholesale power market.” 

Crane also highlighted that state-by-state policies run the risk of enabling “leakage,” or increasing use of cheaper carbon-emitting resources outside their borders, since wholesale markets are “explicitly designed to shift generation from the higher-priced state to the lower-priced state.” 

What’s more, the country’s existing cap-and-trade programs “in every case are coupled with clean energy credit programs” of the kind that have been treated as market-distorting in FERC’s PJM and NYISO decisions, he said. 

Sue Tierney, senior adviser for the Analysis Group and a former Massachusetts utility commissioner and U.S. Energy Department assistant secretary for policy, noted in her Wednesday statement that how FERC decides on NYISO’s carbon-pricing proposal may serve as a key test for states weighing their alternatives.

“If FERC believes it cannot approve a tariff with a carbon-pricing mechanism in it, on the one hand, and that it must take steps, on the other, to inhibit states with organized RTOs from exercising their resource preferences, then it will create an entirely untenable position for the 20 states and District of Columbia served by ISO-NE, NYISO and PJM,” she said. If that were to happen, “[i]t would not surprise me to see many states exit from organized RTO capacity markets if they feel that remaining in them will prevent them from meeting their own statutory mandates.”