RTOs & ISOs Explained

Foreword

Foreword

This professional reference is one of a series Energy Compliance, Inc. publishes for registered entities and the people who run their compliance programs.

I’ve spent more than thirty years on every side of the bulk electric system. I’ve operated control centers as a Reliability Coordinator, Transmission Operator, and Power System Operator. I’ve audited grid facilities and signed off on findings as a senior compliance auditor. I’ve worked enforcement matters from inside the regulator’s process. For the last several years I’ve advised registered entities directly through the firm I founded.

The entities that do reliability well share a common habit. They take the standards seriously without confusing them with reliability itself. They know that a NERC Reliability Standard is a floor, not a ceiling. They know that compliance is something an auditor evaluates, but reliability is something a system either delivers or doesn’t. They prepare for audits by building programs that survive real questions, not binders that look thick.

That’s the perspective these references try to share. Each one focuses on a single topic. A standard family, an operational function, a regulatory framework, or an emerging industry challenge. Each one walks through how the topic actually works.

These references are written for the compliance manager who wants to understand the system, not just memorize requirements. For the legal counsel who has to brief a board honestly. For the senior operator who’s been told that compliance and reliability are the same thing and suspects they aren’t. And for the new compliance hire who got handed a binder and told good luck.

These references aren’t marketing material disguised as content. They’re the result of three decades of doing this work and watching it succeed and fail. I’ve written them in the same voice I use in a control room or in front of a Regional Entity audit team. Direct, evidence-grounded, honest about what the standards do and do not require.

Energy Compliance exists because most of the consulting offered to registered entities today is structured for billable hours rather than for outcomes. Every engagement is led by one senior practitioner. We don’t bring five people to a meeting that needs one. We automate the work that should be automated. We apply senior judgment to the work that requires it. If that approach matches what you’re looking for in a compliance partner, the back of this reference has our contact information.

If not, the reference still belongs to you. Take what’s useful. Apply it well. And remember the only test that ultimately matters: when the system needs to perform, does it?

Rob Smith, Founder, Energy Compliance, Inc.

EC-WP-400 Understanding RTOs and ISOs in the North American Grid

Chapter 1

Origins and Evolution of Regional Transmission Organizations and Independent System Operators

Reliability and Market Reform RTOs/ISOs: A Guide This booklet places RTOs/ISOs in a reliability and regulatory context that is neutral and informative to serve as a reference document on the role of RTOs/ ISOs in ensuring reliable grid operation while having the market operate in an organized wholesale capacity market framework.

The creation of Regional Transmission Organizations (RTOs) and Independent System Operators (ISOs) was a structural response to the fundamental changes occurring in the North American electric industry. Rather than the result of a particular policy or regulatory action, the RTO/ISO model was an evolutionary response to the challenges of ensuring reliability in a changing environment, during a period of market reform, and in the face of the limitations of the traditional utility-based system operating in a highly interconnected grid.

The operation of the bulk power system in North America was historically the responsibility of vertically integrated utilities that possessed resources necessary to perform this function within their respective serving areas. These resources included generation, transmission and in many cases distribution facilities. Coordination of inter utility operating functions across utility boundaries was accomplished by means of power pools, bilateral agreements and regional reliability councils. Over time the original system structure has proved to be inadequate for the new and changing demands being imposed on it. These demands have arisen in conjunction with large system expansion, increased levels of long distance power transmission and delivery, and the introduction of competitive wholesale spot market trading of power across utility systems.

The introduction of open access transmission policies was another major development. The federal policy changed the transmission rates and rules in an effort to deter discriminatory pricing and ensure fair access to transmission lines. Independent system operation was the idea behind ensuring that there was no bias in the operation of the transmission facilities and at the same time ensured that the reliability of the power system was maintained in a multi-utility environment. Independent System Operators (ISOs) took over the transmission operations of the power system. They did not purchase any assets, they just operated the transmission system on a functional basis.

Regional Transmission Organizations (RTOs) are the next step in the evolution of the concept of operational independence. While the concept of operational independence has focused on the independence of a single piece of transmission infrastructure, an RTO broadens the scope of coordination to include transmission planning, congestion

management, and the operation of an organized wholesale market. This is largely a recognition that risks to reliability and market inefficiencies can be regional in nature and larger than the footprint of a single utility. The shift from ISOs to RTOs in several regions is a reflection of this evolving understanding of the scope of system operation necessary to support reliable transmission and efficient wholesale electricity markets.

Reliability was always a major factor in the evolution of the power grid. Because of the interconnections between systems, a simple approach to control and operation was no longer effective during large disturbances. A better coordination of operation and management of mutual constraints, monitoring of large areas of the grid, and synchronization with interconnection reliability conditions became necessary. These were all important arguments in favor of independent system operators, while keeping the operational and control activities close to the real time operation of the grid.

The resulting institutional forms have turned out to differ significantly from one region to another because of differences in the history of the regulatory process, because of differences in design choices embedded in the original visions of deregulation, and because of different stakeholders preferences. While some regions chose to retain the traditional ISO model in a relatively limited role in one local electricity market, others opted for an RTO with considerably broader jurisdiction over both markets and long term planning functions. However, whatever the specifics of the institutions used at the regional level, they all rest upon one underlying element, namely the necessity to have an independent regional level of governance of transmission operations that are economically and technologically interwoven across a large geographical area.

The evolution of RTOs and ISOs in this institutional context illuminates a core ambivalence in power system governance. Centralized authority is required at one level to enforce coordination and performance, but at another level it must be bounded so as not to invade property rights or overstep the limits of state authority and federal jurisdiction. The history of RTOs and ISOs is crucial for understanding how their mandates have been defined, discharged and bounded in today’s regulatory and reliability environment.

End-of-Chapter Summary

Regional Transmission Organizations (RTOs) and Independent System Operators (ISOs) have their roots in the structural challenges posed by interconnection, restructuring of the electricity market and limitations imposed by traditional utility-based operating practices. Their design attempts to balance independent regional control with

defined zones of exclusivity and regulatory authority, a legacy that continues to influence their present day operations and future exercise of control and reliability responsibilities.

Chapter 2

Governance Models and Institutional Structure

The governance models of Regional Transmission Organizations (RTOs) and Independent System Operators (ISOs) define the boundaries of authority and constraint in the North American grid. RTOs and ISOs are specialized institutions that are supposed to be independent of market influence while being responsible to public regulatory bodies, to their customers and to the reliability constraints of the system. This institutional configuration is an attempt to balance independence, transparency and inclusiveness in an environment where market competition for customer prices and supply is intense and where commercial interests of all market players coincide in the objective of reliable supply of electricity. RTOs and ISOs are generally non-profit companies organized as not-for-profit public utility business corporations, governed by a board of directors. Independence of this governance structure from market participants is a fundamental aspect, not an incidental detail. Board members do not engage in other business activities that compete directly in regional markets or are otherwise financially dependent on other market participants in the region they serve. There are two basic reasons for this structural feature: to avoid even the perception of conflict of interest and to confirm that RTO/ISO management and control of the operations of the transmission system and other aspects of energy markets will be directed solely to ensuring reliable energy supplies in a nondiscriminatory fashion. Below the board level, our governance model makes extensive use of stakeholder engagement mechanisms. Committees, working groups and advisory boards enable transmission and generation owners, load serving entities, marketers and other stakeholders to contribute to policy and market rule development. These forums do not involve a delegation of authority, but rather influence the shape of proposals that are taken to our boards for decision, and which are subsequently ratified by regulators. In our experience, key technology and operational decisions are inherently linked to the views of a range of stakeholders in order for them to be technically sound and operationally feasible. Federal regulators have formal roles within the governance framework. Each Regional Transmission Organization (RTO) and Independent System Operator (ISO) is authorized under tariffs and governing rules approved by the Federal Energy Regulatory Commission (FERC). Any revisions to market rules, tariffs and some planning practices must be approved by FERC. Thus there is an additional layer of external regulation, with the potential to significantly limit the discretion of management and give members of the RTO/ISO regulatory leverage to force decisions on governance matters. state interests must also be addressed through the design of the governance mechanism. Although the RTO/ISO will typically have federal regulatory jurisdiction in the wholesale

market and transmission sectors, state commission jurisdiction is retained for matters relating to generation resource decisions and retail rates and transmission approvals. The system can be designed with a recognition of the role of the state commissions and with built-in incentives to help address the interstate problems that cannot be fully resolved through regulation in the federal system. The institutional structure of these agencies also reflects the functional separation between management and operations. The boards set the strategic direction and the market and policy framework for operational activities; and the professional staff implement on a real time basis operational activities, market management, planning, analysis and monitoring. This separation ensures also an important accountability function, as it prevents that those who make the regulation decisions are also those that implement them in practice. The differences between RTOs and ISOs highlight the fact that governance is not a fixed or uniform concept. The voting rights for different stakeholders, the composition of the Board of Directors or the committee and the level of formality exercised when soliciting advisory opinions can differ between RTOs and ISOs. These differences are related to historical and regulatory factors and do not pertain to the reliability goals of the market. Ultimately, although there may be some differences in the manner in which these principles are implemented within an organized market region (e.g., RTO or ISO), the underlying concepts of independence, transparency, and accountability tend to remain the same. Governance models for organizations such as RTOs and ISOs are fundamental to understanding their actions and bounds. The way that RTOs and ISOs make decisions reflects the institutional arrangements that balance competing requirements of reliability and market efficiency. The governance structure of these organizations impacts the exercise of authority, the allocation and attribution of responsibility, and the overall functioning of the electric reliability system.

End-of-Chapter Summary

Board Independence, Stakeholder Advice and Regulatory Oversight Each RTO/ISO has a governance structure designed to ensure the appropriate degree of independence from market participants and accountability to various stakeholders. Board independence, stakeholder advice and regulatory oversight define the parameters of authority and control. Governance structures and processes can significantly influence marketwide decision making, the perception of RTOs/ISOs in the marketplace and their role in ensuring reliability while meeting regulatory requirements.

Chapter 3

Delegated Authority and Regulatory Foundations

The authority of RTOs and ISOs is neither inherent nor absolute, but rather is delegated by means of federal statute, regulation, contract, and tariff. To understand what authority has been delegated and under what limitations RTOs and ISOs have been granted discretion in particular matters requires a careful analysis of what power they have been delegated, and the rules and constraints of the FERC created reliability and market regime in which they operate. The Federal Power Act (FPA) at the federal level provides the basis for assigning responsibility to RTOs and ISOs. Section 205 of the FPA delegates to the FERC authority over wholesale sales of electric energy in interstate commerce and transmission of electric energy in interstate commerce. FERC’s acceptance of an RTO/ISO tariff acts to legitimize the RTO’s or ISO’s role in administering the wholesale market, ensuring compliance with the regulations governing transmission rates and congestion revenues. Acceptance does not cede regulatory authority to the RTO or ISO, but rather delegites to the RTO/ISO a limited degree of implementation authority and gives the Commission’s staff ultimate discretion to review and implement the RTO’s/ISO’s implementation plans under the Commission’s regulatory purview. Tariffs are the method by which the terms of delegated authority are established. They set forth market rules, transmission service conditions, planning responsibilities and the rights and obligations of Market Participants and Transmission Customers within the Region. Once accepted by FERC, the tariffs to which a RTO or ISO is subject bind all market participants and transmission customers within the Region. An RTO or ISO is responsible for enforcing such tariffs in a non discriminatory manner, but is not free to change or interpret them in a manner different from their plain language in the absence of further Commission order or direction. In addition to the above, delegated authority can also be asserted under the terms of commercial contracts with transmission owners. It is common in many transmission systems for the title to the assets to remain with the transmission owner, while the transmission control agreement with the RTO/ISO or ISO, grants control of the operations of the facilities for reliability and market purposes. This level of control is defined in the transmission control agreements and is used to allow for centralized

management of the use of the transmission facilities. In no way, however, does this delegation of control relieve the asset owner of its ongoing responsibilities and duties under the Reliability Standards and statutes. Regulatory Connection to Reliability Organizations The regulatory connection to Reliability Organizations (ROs) further governs the RTO/ISO activities. RTOs and ISOs are registered with NERC in

one or more of the three functional categories of Reliability Coordinator, Transmission Operator or Balancing Authority. Under these functions, RTOs/ISOs are mandated to comply with all NERC and Regional Entity reliability standards. This form of reliability authority is different from market authority and is based upon compliance with established reliability standards. Delegated authority is associated with specific limits of jurisdiction. An RTO or ISO has no delegated authority with respect to generation siting decisions, state decisions regarding resource adequacy, or retail rate design. Its influence with respect to these matters comes through market design and planning processes rather than as an exercise of delegated regulatory authority. These jurisdictional limitations are critical to understanding the present controversy over RTO/ISO functions. The interaction of delegated market authority and reliability obligations poses a number of potential challenges and conflicts. For example, market outcomes could lead to situations that require reliability actions, and the requirements of reliability could interfere with the efficiency of the market. RTOs and ISOs are smack in the middle of this conflict because they act to enforce tariff-based market rules of behavior while at the same time having to implement mandatory reliability standards to ensure real-time reliability. To begin, it is important to recognize that the authority of an RTO or ISO is delegated to it. That being the case, it is important to recognize the scope of that delegation. RTOs and ISOs are coordinate instruments, not regulatory authorities in their own right. Thus, their authority extends only to the degree it has been delegated to them, recognized by the Commission and FERC and supported by appropriate monitoring and enforcement mechanisms, and it remains subject to Commission and FERC review and regulation as needed. An understanding of the role of RTOs and ISOs in supporting reliable grid performance while providing the mechanisms for administering an organized wholesale market is essential to this discussion.

End-of-Chapter Summary

RTOs and ISOs exercise authority that has been delegated to them by federal statute, by FERC-approved tariffs, and through their contracts with the transmission owners of the systems they organize and direct. This authority is used to direct the market operation and the coordination of reliability services, yet it is limited by regulatory requirements, reliability standards and by the geography of the high voltage transmission network The understanding of this foundation is critical to analyzing the role and power of RTOs/ISOs in relation to the broader context of electric reliability.

Chapter 4

Jurisdictional Boundaries and Federal State Interfaces

Regional Transmission Organizations (RTOs) and Independent System Operators (ISOs) exist in a jurisdictional space that is characterized by the interplay of overlapping federal and state authority. Jurisdiction is more than a legal or regulatory concept; it is a structure that determines the interaction among, reliability, market, and public policy. Understanding this jurisdictional space is key to evaluating the opportunities and limitations of RTOs and ISOs. The Commission has jurisdiction over wholesale sales of electricity and over aspects of the operation of the transmission lines that cross state lines. Through these wholesale sales and transmission jurisdictional powers, the Commission has the ability to review and enforce certain aspects of organized wholesale markets, transmission rates that ISOs and RTOs charge others for use of their grids, transmission planning and cost sharing policies, etc. The ISOs and RTOs are staff organs of the Commission, implementing on a day to day basis the market rules, grid operations, etc., mandated by the Commission’s approvals of their proposed tariffs and operating plans. In state jurisdiction fall within the purview of generation resource decisions, retail rate design, and aspects of transmission siting and permitting. Issues on which states have continuing jurisdiction include whether, when, and how generation resources are developed, as well as the manner in which retail customers are served and charged. These decisions have a significant effect on systems conditions and market participation, but are outside the control of RTOs and ISOs. Accordingly, an organized market operates under a policy regime of somewhat greater complexity and nuance, because objectives and circumstances that influence key market decisions differ among the states in which the market operates. Federal and state authority sets boundaries on governance boundaries for RTOs and ISOs, which they have no means of resolving unilaterally. Designs for a market at the federal level will inevitably interact with designs at the state level with resulting consequences for price, participation and operating performance. Market designs within RTOs and ISOs areas reflect design choices made by stakeholders in collaboration with regulatory

bodies within the general framework set by federal and state authorities. One place to look is at transmission planning. Typically RTOs/ISOs perform the regional reliability planning studies and propose the cost allocation methods as part of the federal reliability policies and procedures. Yet in the end the decision to build new transmission facilities always ends up in some state siting and permitting proceeding. The lack of uniformity between federal and state jurisdiction results in potentially high

voltage regional reliability/economic needs determined through the planning studies being completely altered because of required procedural steps or other regulatory actions contained in the varied state siting/permitting proceeding for transmission infrastructure, a completely foreign activity for grid managers at the RTO/ISO level. Jurisdictional boundaries may also play a role in reliability accountability. The reliability standards apply in the same way throughout the bulk electric system, regardless of the market structure, and the compliance obligations remain the same for all registered entities that have the functional responsibility, regardless of whether it falls within federal or state jurisdiction. RTOs and ISOs, as registered entities, will have compliance obligations for reliability functions assigned to them, while assets owners and operators will still have the accountability for their assigned reliability functions. The functional responsibility does not depend on the federal or state jurisdiction boundaries. Because markets are being supervised by the federal government, policy made by individual states will be enforced and reliability will continue to be regulated based on generally accepted standards. The three will have to be implemented in a manner of cooperation rather than conflict. The RTOs and ISOs will serve as the principal technical forum that provides market monitors with the information and analyses they need to perform their tasks and facilitates their work by coordinating the collection and exchange of data within agreed upon parameters. They will not impose solutions if their members cannot agree. Jurisdictional boundaries are not fixed. Developments in policy, participation in markets and changes to the resource mix are all factors that can erode the relationship between the Federal and the States. In the meantime, RTOs and ISOs have to carry on with the day-to-day business of regulation and coordination within the existing jurisdictional boundaries. Understanding these boundaries is crucial to realising the extent to which the Federal Commission can influence market activity, and the extent to which the RTOs/ISOs are constrained in their ability to manage markets.

End-of-Chapter Summary

Regional Transmission Organizations/Independent System Operators (RTOs/ISOs) conduct their business within a layered jurisdictional model that includes: (1) Federal regulations of wholesale markets and transmission, (2) State regulations of resources and retail service, and (3) Reliability regulation based on established standards. This jurisdictional structure significantly affects how markets are organized, how reliability tasks are assigned, and how various policy goals intersect. The jurisdictional boundaries in which RTOs/ISOs operate are central to any assessment of their role in the North American electric system.

Chapter 5

Functional Responsibilities in Operations, Markets, and Planning

WHO HAS WHAT RESPONSIBILITIES IN THE REGIONAL REALM The responsibilities assigned to a Regional Transmission Organization (RTO) or an Independent System Operator (ISO) indicate how the delegated authority is being exercised. RTOs/ISOs are responsible for the real-time operation of the transmission system, wholesale market services and regional transmission planning. These individual responsibilities contribute to the overall reliability mission and are addressed through different regulatory and market rules. In real-time, RTOs and ISOs ensure reliable and secure transmission of electricity to consumers through effective management of their regional bulk electric systems. These entities are operating in registered functional roles as Reliability Coordinator, Balancing Authority or Transmission Operator. Activities carried out in the real-time operations include: monitoring the state of the power system, management of transmission constraints and restoration and preservation of power system stability following occurrence of disturbances. These activities are carried out in accordance with mandatory reliability standards, irrespective of market circumstances when reliability conditions necessitate independent real-time operational activity. Real-time operational authority denotes the precedence given to operational activities in real-time to ensure adequate reliability and security of the high voltage power system. Wholesale market administration is a separate but related function. Under FERC approved tariffs, Regional Transmission Organizations (RTOs) and Independent System Operators (ISOs) administer energy, ancillary service, and capacity markets. Market processes establish prices that are intended to be reflective of system conditions and resource availability and provide market participants with pricing signals. The market process is an economic mechanism to ensure that the needed resources are secured to maintain reliability, and it operates under a set of rules that are fundamentally different from the real-time operating practices that ensure reliability. Achieving an optimal balance between markets and operations in real time requires a clear understanding of appropriate functional separation within a utility or

system. Market outcomes should influence operational decisions and operational constraints should reflect the necessary conditions for market clearing; but the functions should not be reduced to the subordination of one to the other. An effective system of market and operational management within an RTO or ISO is critical in order to prevent efficiency considerations from undermining reliability and reliability measures from being transformed into unnecessary market distortions to assure real time

security. Transmission planning is the third core grid function responsibility. An RTO/ISO would look at resources within a region to determine needs, causes of congestion, and in certain cases public policy concerns. A transmission planning study reviews the grid for future needs and possible solutions to possible future issues in extended time periods. Planning authority again typically includes analysis and coordination, and not project build and execution, to again define a clear separation of function between regional need determination and local project implementation. RTOs and ISOs perform a wide range of operational functions on a second-by-second basis, utilizing massive amounts of real-time operational and market data to provide situational awareness, assess potential conditions, and enforce market rules. While transparency of information is a hallmark of organized markets, the availability and use of data is restricted by confidentiality rules and by market monitoring and enforcement to protect competitive information and infrastructure security. All of these data management, coordination and monitoring activities are in support of their operational functions. It is important to note that functional responsibility does not equate to exclusive control. Asset owners, operators and market participants retain a significant degree of responsibility for each of the functional areas listed above. RTOs and ISOs are responsible for coordination and administration of the grid in real-time, and participants are responsible for compliance with the dispatch, Market Rules and reliability requirements. This shared responsibility framework reflects the RTO/ISO role as a coordinator as opposed to a direct owner or regulator. The functions identified above describe in general terms the roles and responsibilities of RTOs and ISOs, and how these organizations ensure reliability of the transmission grid while managing the complexities of real-time energy markets. The ability to perform these functions successfully depends on a variety of factors including technology and procedural robustness, well-defined functional interfaces, business practices and processes, and adherence to the overall reliability and regulatory frameworks.

End-of-Chapter Summary

RTOs and ISOs have different functional responsibilities in real-time operations, wholesale market management, and regional transmission planning. These functions operate under different governance structures and must be carefully managed to achieve balanced outcomes in terms of reliability and market efficiency. Understanding the scope and boundaries of these functions is important to assessing the role of RTOs and ISOs in the North American power system.

Chapter 6

Market Monitoring and Oversight Functions

Market monitoring and oversight is a function that is performed in an oftentimes obscurant way by Regional Transmission Organizations and Independent System Operators. These functions have to do with ensuring the proper functioning of the wholesale market and ensuring market integrity and reliability. This includes ensuring the wholesale market price formation process has not been distorted by unusual trading activity, market design vulnerabilities, or outcomes that undermine customer and market confidence. While related to the market administration function, monitoring activities represent a fundamentally different set of activities than the day-to-day management of the wholesale market and have to be treated and overseen separately. Regulatory Tone and Market Observer (RTOs/ISOs) conduct ongoing surveillance of market activity within their jurisdiction. The purpose of this surveillance is to monitor for the development of patterns of behavior that could indicate that market power is being used, market rules are being violated or that the market design is not functioning properly. RTOs/ISOs monitor a wide variety of market activity including bids, offers, schedules, prices and system conditions to ensure that the behavior occurring within the market is consistent with the provisions of the tariff and generally accepted market rules. The purpose of the surveillance is preventative and diagnostic in nature, rather than punitive. Within the institutional setup of organized market governance, a salient aspect is the separation of market operations from market monitoring. Thus, market monitoring units are located separately from market clearing and operational dispatch. This separation is seen as serving two functions: to minimize potential interference between tasks and to increase the credibility of monitoring results. By securing independence of the monitoring task from operational tasks in the market, credibility of monitoring results can be enhanced, which reduces scope for interpretation. A market monitoring authority does not necessarily mean an enforcement power. In general, RTOs and ISOs do not have the power to enforce penalties and sanctions for market misconduct. Rather, they serve an informative role by monitoring market activity and bringing potential issues to the attention of the relevant regulatory authority, which can be the FERC. This is a distinction between the administrative

market functions and the regulatory enforcement authority. Market Monitoring is an activity that is supervised by a number of entities other than the regulatory Commission. Other market players, as well as state regulatory bodies, are also interested in having an insight into the developments in the electricity market through the Market Monitoring Reports which present an analysis of the activities in

the market, the ways the prices are formed and the trends in the structure of the market. The market monitoring reports are submitted publicly or confidentially, depending on the nature of the data. The reports on market monitoring contribute to enhancing the overall accountability of the activities carried out in the energy sector, allowing external observation of the functioning of the market and the activities of companies. This aspect is closely linked to market monitoring as some market dynamics or market design elements may pose reliability risks, particularly under stressed system conditions. The intelligence gathered through market monitoring tools may trigger actions to be undertaken by operational or planning activities in order to address the reliability risks at hand. In this context, the separation between market integrity and reliability does not preclude the two from being considered as interdependent regulatory goals. The scope and level of detail of market monitoring differs from one region to another, depending on the design of the market, the level of regulatory experience and the characteristics of the transmission system. However, the underlying principle of market monitoring is the same, whether it is to achieve a fair, transparent and efficient market outcome within a framework of reliable and compliant operations of the transmission system. In depth Market Monitoring and Oversight explains the role of Regional Transmission Organisations (RTOs) and Independent System Operators (ISOs) as market managers as well as their governance role as Market stewards versus active market players or market regulators. Market Monitoring and Oversight in organised markets enhances market participants’ confidence through imposing a higher level of accountability, through early risk detection, and hence through informing relevant enforcement actions or policy decisions. Achieving this purpose does not amount to being an enforcement body.

End-of-Chapter Summary

Market monitoring and oversight is the function undertaken by RTOs and ISOs to help ensure that the wholesale market is conducted in a manner that is fair, efficient and secure. Market monitoring and oversight involves the use of independent analysis and

market review and reporting, to detect and address instances of market abuse and structural problems, as well as to ascertain the effects on reliability of market outcomes. As a commodity market monitoring and oversight does not involve enforcement activities. It also requires that the organization involved has sufficient autonomy, transparency and interaction with the relevant regulatory agency.

Chapter 7

Coordination with Reliability Organizations and Adjacent Regions

For the North American bulk power system to function properly, coordination must occur across areas that extend well beyond the boundaries of Regional Transmission Organization (RTO) and Independent System Operator (ISO) Footprints. RTOs and ISOs operate within a reliability framework defined by the North American Electric Reliability Corporation (NERC) and its Regional Entities, while also carrying out the coordination necessary to accommodate their physical connections to areas outside of their footprint. RTOs and ISOs are registered with NERC in one or more functional roles in the reliability structure. The RTO or ISO roles may be one or more of the following: Reliability Coordinator (RC); Transmission Operator (TO); Balancing Authority (BA) and/or a combination of roles based on regional agreement. Regardless of the structure of the organization, all RTOs/ISOs operating in RTO/ISO regions will be required to comply with applicable reliability standards and submit to compliance monitoring. RTO/ISO reliability responsibilities are based on the functional roles assigned and not based on the organizational structure of the RTO/ISO. Therefore, the RTO/ISO is held accountable for the reliability of its assigned responsibilities within a defined scope of reliability responsibility. Coordination with Regional Entities is one of the formal elements of the reliability relationship established by the reliability standard. Regional Entities perform monitoring, oversight and enforcement activities related to reliability standard compliance. RTOs and ISOs operate as registered entities providing information, reporting to, and taking actions necessary to correct any violations related to their facilities in connection with the activities and procedures conducted by Regional Entities pursuant to the reliability standard and in accordance with their compliance procedures. RTOs and ISOs have coordination relationships with each other in order to deal with non-compliance situations. Power does not recognize regional boundaries and conditions in one area can have direct impacts on other areas. These relationships involve the exchange of information, synchronization and real time operation during high system conditions and risk reduction planning assessments.

Seams coordination is a major challenge in the market. The differing designs of markets, their scheduling processes, congestion handling methods and reserve requirements can lead to inefficiencies at interconnection points. Coordination processes, joint boards and bilateral/multilateral agreements are used by RTOs and ISOs to manage these challenges. While these measures do not eliminate seams challenges, they form part of a broader set of practices that seek to mitigate interregional bottlenecks

while respecting differing governance frameworks and institutional arrangements. Region-wide reliability studies illustrate the need for coordination. Our seasonal reliability reports, long-term planning studies and after action analyses all make use of data and participation from RTOs, ISOs and non-market regions. Data from the RTOs and ISOs provides regional perspectives and operational insights which are invaluable in providing a region-wide view of potential risks and system trends. The coordination function is also required for emergency conditions. RTOs and ISOs will need to synchronize operational actions, coordinate the disclosure of system conditions, and support restoration activities across regions during wide-area disruptions. These activities are governed by reliability standards and operating agreements that dictate system security requirements over market considerations. Coordination is necessary to describe the fundamental characteristic of RTO and ISO functions. Since their market management authority is regional in scope, they must coordinate with each other in a large number of situations in order to achieve reliability of supply. Therefore, RTOs and ISOs are part of a larger interconnection-wide system, rather than being independent market operators for each separate region. Their region’s reliability performance must be coordinated with that of other RTOs, ISOs, and reliability organizations in the interconnection.

End-of-Chapter Summary

The Regional Transmission Organizations (RTOs) and Independent System Operators (ISOs) operate within the RTO/ISO reliability framework of an interconnection governed by rules set by the National Electric Reliability Organization (NERC) and enforced by the Regional Entities. Coordination among the RTOs/ISOs and regions involves formal rules for compliance, operational synchronism with adjacent regions, and participation in region-wide and interconnection-wide reliability assessments. These functions serve to mitigate the reliability risks that arise from operating an electric system in a physically interconnected manner.

Chapter 8

Limits of Authority and Common Misconceptions

One of the biggest barriers to developing a more accurate understanding of wholesale power market operations is the common failure to recognize the scope and limitations of the roles of Regional Transmission Organizations (RTOs) and Independent System Operators (ISOs). Despite the fact that RTOs and ISOs operate the organized wholesale markets and regional systems on a daily basis, there is a pervasive tendency to attribute to them, or to believe that they possess, powers and responsibilities that they do not in fact have. Correcting these misunderstandings is important for ensuring that accountability is correctly assigned, that sounder policy discussions are conducted, and that an accurate picture of the operations of a reliable system is developed. One of the biggest misconceptions in the energy industry is that RTOs and ISOs are regulators. While RTOs and ISOs carry out many regulatory type functions, they do not have any of the power of a real regulator. They simply carry out their designated roles and responsibilities under the approved tariff and operating rules, as defined by FERC and in the bylaws and operating agreements. No policymaking is allowed and no resource development is forced on anyone, nor are market rules changed without proper governmental authorization. That regulatory power remains with the Federal and State agencies, and the RTOs/ISOs are only the administrative and operational arms to carry out their directions. Capacity market design and resource adequacy are two areas where there is frequent confusion regarding the role of RTOs and ISOs. RTOs and ISOs administer capacity markets and produce resource adequacy studies, but they are not responsible for the investment choices made by utilities and market participants, nor for the location of new power plants. These choices are determined by state energy policies, utility resource planning processes, and the market pricing and operational rules provided by the RTO/ISO. Regional transmission organization (RTO) and independent system operator (ISO) operational authority is also often over-stated. While RTOs and ISOs issue dispatch orders and coordinate the use of transmission resources, the vast majority of transmission assets are not operated or owned by the RTO/ISO. The owners and operators of these assets are responsible for the operation, maintenance and reliability of their assets, in accordance with applicable reliability standards. The RTO/ISO’s operational authority is therefore based on coordination and direction through rules and market mechanisms to which participants agree to comply. Also misleading are descriptions of market outcomes, such as assertions about price formation processes in organized markets. Prices that are set in these markets are a consequence of the ordering determined by a market clearing process that integrates (i) the price bids and/or offers of market participants with (ii)

other conditions that are prevailing in the market at the time, such as supply and demand levels. None of these activities are managed by RTOs/ISOs on a discretionary basis in a manner that secures a specific price or outcome for any market participant. Rather, the structures and rules that determine these processes are set out through a process of market design deliberation involving government or other regulatory entities and numerous stakeholders. There is also some misunderstanding regarding who is responsible for events on the grid that occur on a reliability basis. While RTOs and ISOs may be responsible for much of the operational response to disturbances on the grid, they do not act alone in these circumstances. In addition to RTOs and ISOs, there are numerous other entities on the grid whose functional roles require them to behave in certain ways to ensure system reliability. The reliability investigations and enforcement procedures conducted by FERC set individual performance standards for each registered entity. An RTO or ISO is not a monolithic entity unto itself and should not be held singularly accountable for events occurring on grids that it controls. These misconceptions stem from the prominence of RTOs and ISOs in market and operational discourse. Because they serve as the central authority for coordination in their respective markets, RTOs and ISOs receive the most scrutiny and criticism. Misunderstanding the role of coordination versus control has the potential to perpetuate misleading assertions and policy reforms that are not grounded in the real authorities and limitations at play. Understanding the scope and limitations of RTO and ISO authority is critical to making fair comparisons of RTOs and ISOs and to evaluating proposed changes to market and reliability rules. Ensuring that each entity understands and respects the boundaries within which others operate is a critical element of ensuring that all resources operate reliably in synchronization.

End-of-Chapter Summary

Reliability Transmission Organizations (RTOs) and Independent System Operators (ISOs) are often presumed to have authority and exercise responsibility in excess of their assigned roles. They are not designed to be the regulator, the resource owner or the policy maker. Rather, they are designed to coordinate functions within strictly defined limits and scopes of authority, as delegated by others. Achieving an accurate determination of responsibility and the full impacts of responsibility in an organized market region requires an understanding of these boundaries and assumptions.

Chapter 9

RTOs and ISOs Within the Reliability Framework

RTOs/ISOs occupy a unique position in the North American reliability framework. Their position is defined less by matters of ownership or regulatory control and more by issues of coordination, governance, and functional accountability in the context of a large, inter-connected system with enforceable reliability standards that apply to all parties equally. Seeing RTOs/ISOs as anything other than a part of this reliability regime overlooks the systemic context in which they operate. Reliability in the Bulk Power System is comprised of functional responsibilities assigned to Reliability Entities. These are defined by the NERC Reliability Standards and are enforced through a regulatory framework based on those standards. RTOs and ISOs serve as Reliability Entities for particular functional responsibilities, such as reliability coordination, transmission operation, and balancing authority functions, among others. Their reliability responsibilities are a direct result of their Reliability Entity registrations, not because of their role in the wholesale market or their size and influence in the industry. There is a critical distinction to be made here. Reliability accountability is functional and result-oriented and applies equally to market and non-market entities. RTOs and ISOs are accountable for the functions they have been assigned, as are transmission owners, generator owners, distribution providers, and other entities. The grid reliability standards do not transfer the accountabilities to RTOs/ISOs; rather they depend on the successful performance of many functions across multiple organizations. The interaction between market management and reliability supervision indicates the two modes in which RTOs/ ISOs work. Market management rules are designed to implement the principles for purchasing required reserve resources and reflecting the constraints of the power system in order to realize reliable power supply under the market framework. However, the power system and its operation cannot be solely reliant on the market, and therefore, the reliability standards must specify the minimum requirements for the basic functions of power system operation in all cases. RTOs/ISOs must always balance the two modes of work and provide for power system reliability by taking control of the system in emergency cases where market management cannot meet the required principle of power system reliability. Reliability events offer another opportunity to illustrate the role of RTOs and ISOs. In these situations, their responsibility for coordinating the response to a disturbance positions them at the hub of a whirlwind of activity involving both operational communication and restoration planning. Again, however, the post-event analysis is focused on the performance of all relevant elements and criteria as defined by applicable standards for the particular roles involved. Hence, RTOs and ISOs can be regarded as more as agents

facilitating the mutual activity of others, rather than being reliability providers in their own right. This framework also restricts the potential for change to real-time operating (RTO) and independent system operator (ISO) market rules. As resources are transformed, load increases or new public policies are implemented, each RTO and ISO will have the flexibility to modify rules in their markets and grids. However, they can only do so within the parameters established by the existing reliability standards and the regulations that enforce them. Viewing RTOs and ISOs in the context of reliability as a governing framework gives us a bit of balance as the energy industry continues to evolve and change. This continuity of accountability bridges the changes going on around us in the market. Regardless of changes in market design, the underlying requirements for reliability – its underlying definition and associated functions, rules and meters – remain the same, and the RTOs and ISOs remain important but defined and bounded players in this context. This view point is one of the many that appear throughout this document. It highlights one of the key themes of this publication, namely the role of RTOs and ISOs in today’s generation and transmission system operation environment, within the boundaries of governance, regulatory requirements, regulatory jurisdiction and standards, and how their success is linked to adherence to the general reliability rules rather than through the exercise of new regulatory powers or central government control.

End-of-Chapter Summary

The Regional Transmission Organizations (RTOs) and Independent System Operators (ISOs) operate their business activities within a reliability standards-based reliability planning model that assigns responsibilities based on functional roles rather than on the relative importance of the organizations involved. These reliability planning responsibilities are distinct and well-defined from their market operations responsibilities. Understanding this helps clarify the RTO/ISO role as a coordinated group of functionally defined elements that facilitate reliable transmission operation within the larger context of an interconnection-wide reliability system.

Chapter 10

Strategic Implications for Reliability and Market Governance

The roles of Regional Transmission Organizations and Independent System Operators are significant in nature and therefore must involve more than just operational and market management activities on a day-to-day basis. Given the dynamic nature of the electric system, the alignment of reliability goals, market rules, and governance implications is critical. RTOs and ISOs are at the critical intersection of these important issues. As such, they are not simply managers or dispute resolvers, but rather representatives of the underlying competition vs. central planning, regional vs. national, and market based vs. cost-of-service issues that emerge in the evolving electric system. System Complexity The increased system complexity presents the operator with a strategic issue. The increased penetration of variable generation, long transmission lines to meet remote demand, and high concentration of load pose significant challenges to the management of the system. Many of the stress points in the system are first observed by the RTO/ISO through real time operational and market information. Their analyses and actions are the first step in determining how the operational risks presented by these changing system conditions are dealt with, within the framework of current regulatory policies. The RTO/ ISO actions and recommendations are in response to the issues that have been identified within the parameters of the rules and policies under which the grid is operated. The identification of these policy issues is an external influence to the RTO/ISO operational and market management decisions. Market design evolution is yet another dimension of strategy. Since markets have to be organised over time in response to changing circumstances of the resources and systems they trade, market design evolution is an issue that has to be addressed in organised markets. RTOs and ISOs in many cases provide proposed changes to market rules and policies and these have to be approved by Regulatory Commissions and other interested stakeholders. In this respect RTOs and ISOs act as a type of filter between the necessary market design changes required to meet changing resource and system conditions and the politics associated with having to change design components and the rules that govern them. As such, effective governance of wholesale markets that enable these type of necessary changes to occur in a timely fashion while at the same time continuing to provide high levels of reliability and accountability is essential. State public policies interact with federally organized markets in a manner that impacts significantly the choices of utilities and others. These interactions can result in price, supply and demand conditions that violate the conventional wisdom of economists, engineers and utilities. Again, the RTOs/ ISOs do not make policy; they reflect the conditions and rules imposed on price and supply responses to

state public policies and federal market conditions that can be contrary to conventional wisdom. They are an accounting and analytical device, not a regulatory tool. Reliability governance itself is subject to strategic pressure because of the increased interdependence of system risks. Wide-area events (such as WAC and WUE) and new risks (such as those presented by sources other than weather) make more demands on the processes and definitions of the governing framework. The RTOs and ISOs, through their participation in regional risk and vulnerability studies (including grid reliability assessments, post incident analyses, and planning studies) help facilitate learning at the interconnection level while at the same time making no change to the underlying standards-based governance framework. A recurrent strategic issue we face is expectations management. As our capabilities come to the fore more frequently in public forums and at the policy table, we are increasingly treated as ready-made solutions to what are often far broader problems that RTOs and ISOs cannot fully resolve or even control. Sometimes this is driven by those externally advocating a particular policy or course of action in relation to climate change – but at other times it also arises from within our own ranks, and there can be a strong imperative to advocate in support of policy agendas or to seek to address pressing social issues for which we do not have the capability or mandate to deliver. Managing expectations and ensuring that external interest groups and stakeholders have appropriately bounded views of the role that RTOs and ISOs can play – and are aware of their limits and boundaries in terms of their governance structures and mandates – is thus as much a strategic issue for us as it is a straightforward operational matter of procedure and practice. The strategic importance of RTOs and ISOs is more in their role as coordinating bodies in a system with diffuse authority. They enable large-scale trading and system operations while within certain defined boundaries. Their performance will be less to do with the extent of their authority, and more to do with the manner in which they carry out their tasks, the quality of their corporate governance, and their adherence to the reliability rules of the Bulk Electric System. The implications for these strategic issues highlight the major finding of this work. RTOs/ISOs represent a necessary institution in the operating rules of a modern grid. They are not regulators, owners of transmission assets, or policymakers. Instead, RTOs/ISOs are administrative, coordinative, and informational institutions that operate within the rules of a decentralized system where individual actions are governed by clearly bounded individual authority and mutual responsibility in order to enable efficient and reliable operation of the grid.

End-of-Chapter Summary

RTOs and ISOs embody a set of complex relationships among the electric system’s reliability, market and governance functions. Their activities embody the structural tensions and coordination challenges within a highly complex and dynamic system. To achieve reliability requires particular mixes of institutional rule boundaries, forms of adaptive governance, and functional relationships between the market operations and the grid reliability standards.

Glossary

Glossary

Balance Control Area (BCA) - The balance control area (BCA) performs three important functions: BA (Balancing Authority) load forecasting (i.e., BA resource planning) ahead of time, operates the BCA real time balance of load, interchange and generation, and supports the movement of Interconnection frequency on a real-time basis. The other functions of a BCA are BA supply/demand assessments, documentation of resource plans, and resource plan revisions.

Bulk Electric System (BES) - Except where modified in the exceptions below, the definition of BES includes only Transmission Elements operated at voltages of 100 kV or higher, and Real Power and Reactive Power resources connected at 100 kV or higher. Facilities used for local distribution of electric energy are not included.

Reliability Coordinator (RC) The entity that has the ultimate responsibility for ensuring reliable operation of the Bulk Electric System, who has the best view of the Bulk Electric System conditions, and who has the tools, procedures and practices in place to prevent or mitigate violations of System Operating Limit or Interconnection Reliability Operating Limit.

Transmission Operator (TOP) The transmission operator that has reliability responsibility for its transmission system, and that may be the operator or the facility operator who operates or directs the operation of its transmission facilities.

Balancing Authority Area (BA) - The generation, transmission, and load facilities within the metered BAA boundaries. The Balance Area functions are performed by the Balancing Authority to maintain load resource balance.

This glossary provides selected definitions from the NERC Glossary of Terms. Please note that thisGLOSSARY DOES NOT CHANGE OR REPLACE THE OFFICIAL NERC GLOSSARY OF TERMS.

About the Author

About the Author

Rob Smith is a senior electric industry professional with over thirty years of experience across every major function of the North American Bulk Electric System. His work spans reliability coordination, transmission operations, regulatory compliance, and cybersecurity reliability.

Rob has worked directly in real-time grid operations as a Reliability Coordinator, Transmission Operator, and Power System Operator within RTO/ISO and utility control center environments. He has also held senior regulatory and oversight roles, including senior compliance auditor and subject matter expert for NERC Reliability Standards. In those roles he audited grid facilities for compliance with applicable standards, evaluated the adequacy of mitigation actions, supported the development of violation notifications and settlements as part of FERC-directed enforcement actions, and participated in risk based oversight of utility mitigation activities.

Rob founded Energy Compliance, Inc. to bring senior, regulator-side compliance authority to registered entities directly, without the layered staffing, billable-hour overhead, and generalist advice typical of larger consulting firms. Every Energy Compliance engagement is led by Rob personally.

About Energy Compliance, Inc.

About Energy Compliance, Inc.

Energy Compliance, Inc. is an independent consulting and advisory firm focused exclusively on electric reliability, cybersecurity reliability, and regulatory compliance for organizations connected to the North American Bulk Electric System.

Our work supports registered entities, including Generator Owners and Operators, Transmission Owners and Operators, Reliability Coordinators, Balancing Authorities, and Distribution Providers. We work across NERC Reliability Standards, FERC orders, RTO/ISO market participation rules, Regional Entity oversight, and state regulatory frameworks.

We do this work differently than larger consulting firms. Engagements are led by a single senior practitioner with regulator-side experience. We don’t staff for billable hours. We staff for outcomes. Our deliverables are written to be operationally executable and audit-defensible, not to manufacture activity. Where automation can replace manual work, we build the automation. Where senior judgment is required, the senior is in the room.

Energy Compliance is not affiliated with, sponsored by, or endorsed by the North American Electric Reliability Corporation, the Federal Energy Regulatory Commission, or any Regional Entity.

Services Provided

Our services are written to be clearly defensible. Operationally executable in real time. Audit-defensible at compliance review. Every deliverable is structured for the auditor’s question, not the consultant’s binder.

Energy Compliance services include, but are not limited to:

• NERC reliability and compliance advisory support
• Reliability governance and program assessments
• Registration and applicability analysis
• Operational and engineering reliability alignment
• Compliance program design and improvement
• Audit and enforcement support (non-advocacy)
• Mitigation planning and Self-Report development
• Training and executive briefings on reliability frameworks
• Regulator-perspective program reviews

Each engagement is scoped to the entity’s role, function, and bulk system impact.

ENERGY COMPLIANCE PROFESSIONAL REFERENCE

Rigorous Compliance. Defensible Programs. Energy Compliance, Inc. partners with registered entities on the institutional and technical questions that define strong reliability and cybersecurity programs, from classification through audit through enforcement response.

N ERC CO MP LIANC E S ENIO R ADV ISO RY Program support, interpretation, and audit Direct engagement on complex reliability preparation. questions.

I ND USTRY ENGAGEMENT AUD IT D EFENSE Standards development and working-group Notice of Penalty response and settlement participation. posture.

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