The Energy Policy Act of 2005 ("EPAct 2005") established a national policy to encourage reliable and affordable demand response services. Demand response refers to the ability of retail electric customers to reduce or shift their load when demand for electricity is highest in order to lower electricity prices and avert blackouts or energy shortages. Typical demand response participants include large industrial and commercial customers (for example, a factory might shift its production to the evening when electricity demand is lower, or a large retail chain might agree to set its cooling system one degree higher to reduce its load on an August afternoon), but several markets have created opportunities for aggregated small retail customers as well.
Demand response providers have long participated in the wholesale market, bidding in demand response resources to offset the need for additional energy generation, but the compensation for such providers has varied from one regional energy market to the next. To encourage greater demand response participation in wholesale markets, the Federal Energy Regulatory Commission ("FERC") issued Order No. 745 in 2011, amending its regulations to require compensation for demand response resources participating in FERC-regulated wholesale power markets at the locational marginal price ("LMP"). LMP is the benchmark of compensation used for wholesale generation resources. In other words, a demand response participant would get paid the same amount not to use electricity at peak times that an electric generator would get paid for providing electricity to the wholesale energy market at that time.
The Electric Power Supply Association ("EPSA"), a trade group representing wholesale electricity generators, as well as several other parties, challenged Order No. 745 in the U.S. Court of Appeals for the District of Columbia ("D.C. Circuit"). In March 2014, the D.C. Circuit struck down Order No. 745, holding that FERC lacked jurisdiction under the Federal Power Act to regulate demand response. That court reasoned that because demand response providers are retail market participants, the Federal Power Act bars the federal government from regulating them, and instead reserves such regulation to the States. The D.C. Circuit also concluded that the decision to set compensation at the LMP was arbitrary and capricious.
The U.S. Supreme Court granted certiorari and sought to resolve two issues: (1) does FERC have authority under the Federal Power Act to regulate payment for demand response in wholesale electricity markets (the jurisdictional question), and (2) did the Court of Appeals err in determining that it was arbitrary and capricious for FERC to require wholesale energy markets to provide direct compensation to demand response resources at the LMP (the merits question)?
A copy of Order No. 745 can be found here.