Before Commissioners: Joseph T. Kelliher, Chairman; Nora Mead Brownell, and Suedeen G. Kelly; Natural Gas Pipeline Negotiated Rate Policies and Practices; Order on Rehearing and Clarification, 4362-4364 [E6-941]

Agencies

• DEPARTMENT OF ENERGY
• Federal Energy Regulatory Commission

[Federal Register Volume 71, Number 17 (Thursday, January 26, 2006)]
[Notices]
[Pages 4362-4364]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: E6-941]


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DEPARTMENT OF ENERGY

Federal Energy Regulatory Commission

[Docket No. PL02-6-001]


Before Commissioners: Joseph T. Kelliher, Chairman; Nora Mead 
Brownell, and Suedeen G. Kelly; Natural Gas Pipeline Negotiated Rate 
Policies and Practices; Order on Rehearing and Clarification

Issued January 19, 2006.
    1. Several parties \1\ request rehearing and or clarification of 
the Commission's July 9, 2003 Order in the captioned docket.\2\ In that 
order, the Commission modified its negotiated rate policies so that 
pipelines would no longer be permitted to enter into negotiated rate 
agreements that utilize basis differentials as a transportation pricing 
mechanism.
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    \1\ Parties requesting rehearing or clarification are: Illinois 
Municipal Gas Agency; Natural Gas Pipeline Company of America and 
Kinder Morgan Interstate Gas Transmission, LLC; CenterPoint Energy 
Gas Transmission Company; Northern Natural Gas Company; MidAmerican 
Energy Company; BP America Production Company and BP Energy Company; 
American Public Gas Association; Williston Basin Interstate Pipeline 
Company; ANR Pipeline Company and Tennessee Gas Pipeline Company; 
American Gas Association; and Interstate Natural Gas Association of 
America.
    \2\ Natural Gas Pipeline Negotiated Rates Policies and 
Practices, 104 FERC ] 61,134 (2003)(July 2003 Order).
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Background

    2. In 1996, the Commission permitted pipelines the opportunity to 
use negotiated rates as an alternative to cost-of-service 
ratemaking.\3\ Under the negotiated rate program, the pipeline and a 
shipper may negotiate rates that vary from a pipeline's otherwise 
applicable cost-of-service tariff rate. However, a cost-based recourse 
rate must be maintained by the pipeline for customers that prefer 
traditional cost-of-service rates and to mitigate market power if the 
pipeline unilaterally demands excess prices or withholds service. The 
Commission determined that the availability of the recourse rate would 
prevent pipelines from exercising market power by assuring that the 
customer always has the option of purchasing capacity at the just and 
reasonable tariff rate if the pipeline unilaterally demands excessive 
prices.\4\

[[Page 4363]]

In order to implement a negotiated rate transaction, a pipeline must 
file either the negotiated rate agreement itself or a tariff sheet 
describing the agreement, since, unlike a discount, a negotiated rate 
is a material deviation from the pipeline's tariff.\5\ Until the 
issuance of the modification of the policy statement, the Commission 
permitted pipelines to use price indices in pricing their negotiated 
rate transactions.\6\ However, on July 9, 2003, the Commission issued a 
policy statement, revising its negotiated rate policies so that the use 
of gas basis differentials would no longer be permitted.\7\
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    \3\ The Commission's negotiated rate policies were originally 
established in Alternatives to Traditional Cost-of-Service 
Ratemaking for Natural Gas Pipelines, Regulation of Negotiated 
Transportation Services, 74 FERC ] 61,076, order on clarification, 
74 FERC ] 61,194, order on reh'g, 75 FERC ] 61,024 (1996).
    \4\ Alternatives to Traditional Cost-of-Service Ratemaking for 
Natural Gas Pipelines, 74 FERC ] 61,076 at 61,238-242, order on 
clarification, 74 FERC ] 61,194, order on reh'g, 75 FERC ] 61,024 
(1996).
    \5\ NorAm Gas Transmission Co., 75 FERC ] 61,091 at 61,309, 
order on reh'g, 77 FERC ] 61,011 at 61,037 (1996).
    \6\ Before the modification of the Commission's negotiated rate 
policies, pipelines were permitted to negotiate pricing mechanisms 
for transportation based upon the difference between gas commodity 
price indices at different points (referred to here as the ``basis 
differential''). These gas commodity price indices, when used as a 
negotiated pricing mechanism, usually reflect gas prices at 
different points such as at gas basins or certain receipt and 
delivery points and citygates. The pricing mechanism is based upon 
the difference between the gas price indices at the two points. The 
foundation for this pricing mechanism is that the difference in 
price between two points, as shown by the respective price indices, 
reflects the value of transportation between the two points.
    \7\ In its July 9, 2003 Order, the Commission also clarified its 
filing requirements for negotiated rates, particularly where the 
negotiated agreement contained material deviations from the form of 
service agreement. July 2003 Order, 104 FERC at P 31-34.
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    3. In its modification of the original negotiated rate policy 
statement, the Commission stated that it was concerned that the use of 
basis differentials could provide pipelines with an incentive to 
withhold capacity in an attempt to manipulate the gas commodity market 
to widen the differences between the relevant price indices. The 
Commission explained that the manner in which it regulated 
transportation rates would ordinarily minimize any incentive for a 
pipeline to withhold capacity. That was because even if a pipeline 
created scarcity, it could not charge rates above the maximum just and 
reasonable rate based upon the pipeline's cost of service. Therefore, 
if a pipeline withheld capacity, its revenues would not increase.\8\ 
However, because the negotiated rate policy permits a pipeline to 
charge a rate above the maximum cost of service rate, a pipeline 
charging negotiated rates tied to basis differentials could increase 
its revenues by withholding capacity in order to increase the relevant 
basis differentials.\9\ The Commission concluded that pricing 
mechanisms that invest pipelines with an incentive to use market power 
to manipulate the commodity price of gas would hinder the Commission's 
attempt to maintain and improve the competitive natural gas market. 
Therefore, the Commission prohibited the use of natural gas indices in 
pricing negotiated rate transactions.\10\
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    \8\ Id. at P 17-18.
    \9\ Id. at P 19-20.
    \10\ Id. at P 23-24.
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    4. In reaching this determination, the Commission recognized that 
these basis differential pricing mechanisms are useful in permitting 
parties to the negotiated agreement to engage in various hedging 
programs and gas supply cost-management programs, but the Commission 
found that such flexibility could not justify the increased risk of 
market manipulation faced by market participants. The Commission 
determined that this limitation of flexibility was offset by the fact 
that negotiated rates may still be based upon a virtually unlimited 
number of indices or other mechanisms that have no relationship with 
the commodity price of gas, and are, therefore, not as subject to 
manipulation through the withholding of pipeline capacity.
    5. Subsequent to its modification of the negotiated rate policy 
statement, the Commission modified its selective discounting policies 
which had prohibited the use of formulas in discounted rates. On remand 
from the court in Northern Natural Gas Company, the Commission 
determined that it would permit the use of formulas, including those 
tied to basis differentials in discounted rate transactions.\11\ In 
reaching this determination, the Commission stated that its concerns 
about the use of basis differentials in negotiated rates were not 
present to the same degree in the context of discounted rates. The 
Commission reasoned that because discounted rates, unlike negotiated 
rates, were capped by the pipeline's maximum cost-of-service rate, use 
of pricing differentials in discounted rates did not present the 
pipeline with an incentive to withhold capacity in order to achieve 
higher revenues. Given this fact, the Commission found that the 
benefits of allowing the use of basis differentials to price 
transportation service in discounted rate agreements outweighed any 
potential harm.
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    \11\ Northern Natural Gas Co., 105 FERC ] 61,299 (2003).
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Discussion

    6. A number of parties have filed requests for rehearing of the 
revised policy statement, objecting not only to the revised policy 
concerning the use of pricing differentials in negotiated rates but 
also to other aspects of the revised policy statement. The revised 
policy statement is not a final action of the Commission but an 
expression of policy intent. As the U.S. Court of Appeals for the 
District of Columbia Circuit has held, a statement of policy ``is not 
finally determinative of the issues or rights to which it is 
addressed''; rather, it only ``announces the agency's tentative 
intentions for the future.'' \12\ Therefore, the parties are not 
aggrieved by the revised policy statement, and rehearing does not 
lie.\13\ The Commission accordingly dismisses the requests for 
rehearing.
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    \12\ Pacific Gas & Electric Co. v. FPC, 506 F.2d 33, 38 (D.C. 
Cir. 1974).
    \13\ See Alternatives to Traditional Cost-of-Service Ratemaking 
for Natural Gas Pipelines, 75 FERC ] 61,024 at 61,076, citing, 
American Gas Association v. FERC, 888 F.2d 136 (1989); Interstate 
Natural Gas Pipeline Rate Design, 47 FERC ] 61,295 (1985), order on 
reh'g, 48 FERC ] 61,122 at 61,442 (1989).
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    7. Nevertheless, the Commission has further considered the basis 
differential issue, and has determined to modify its negotiated rate 
policy to again permit the use of gas commodity basis differentials in 
negotiated rate transactions without regard to the existence of a 
revenue cap. The Commission finds that a generic policy against the use 
of gas basis differentials in negotiated rate transactions is overly 
restrictive, given the benefits such pricing mechanisms yield and the 
fact that there are other less restrictive means to ensure that the 
pipelines do not utilize market power to influence the gas commodity 
market.
    8. The Commission has long recognized that the ``commodity and 
transportation markets are closely interdependent in the natural gas 
business with changes in one market affecting the other.'' \14\ 
Further, the Commission itself has stated that the market conditions it 
has fostered create a ``market-driven value for transportation * * * 
the implicit value of transportation between two such points is the 
spot price of gas at the delivery point minus the spot price of gas at 
the receipt point.'' \15\ Thus, the

[[Page 4364]]

use of basis differentials to price transportation services enables the 
pipeline to negotiate market sensitive transportation rates, consistent 
with the Commission's goal of encouraging competition in the 
transportation capacity market. Such market sensitive rates provide 
greater efficiency in the production and distribution of gas across the 
pipeline grid. For example, such rates minimize the distorting effect 
of transportation costs on producer decisions concerning exploration 
and production. They also help the pipeline to more accurately assess 
when new construction is needed, because a high basis differential 
indicates a need for more capacity between the points.\16\
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    \14\ Order No. 637 at 31,258.
    \15\ Id. at 33,436. In this vein, the Commission also added 
that, ``The implicit price for transportation represents the most 
any shipper purchasing delivered gas at a downstream market would 
pay to move gas from the lower priced market to the higher priced 
market. For instance, the implicit value of transportation between 
the Henry Hub and the Chicago city gate was $.07 in September 1999 
(the difference between the $2.67 price for gas in Chicago and the 
$2.60 price at Henry Hub).'' Id. at 31,271. The difference between 
the downstream delivered gas price and the market price at upstream 
market centers in the production area shows the market value of 
transportation service between those two points. As the Commission 
observed in Order No. 637, ``gas commodity markets now determine the 
economic value of pipeline transportation services in many parts of 
the country. Thus, even as FERC has sought to isolate pipeline 
services from commodity sales, it is within the commodity markets 
that one can see revealed the true price for gas transportation.'' 
Order No. 637 at 31,274 (quoting M. Barcella, How Commodity Markets 
Drive Gas Pipeline Values, Public Utilities Fortnightly, February 1, 
1998 at 24-25).
    \16\ See Policy for Selective Discounting by Natural Gas 
Pipelines, 111 FERC ] 61,309 at P 32-37 (2005).
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    9. In implementing its policy against the use of gas basis 
differentials, the Commission recognized that the use of basis 
differential pricing mechanisms yielded significant benefits, but 
stated that such increased flexibility could not justify the increased 
risk that the pipelines may utilize their market power over 
transportation service to manipulate the commodity market to increase 
basis differentials.\17\
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    \17\ July 2003 Order, 104 FERC at P 23.
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    10. However, in the Commission's view, the ability of pipelines to 
manipulate the gas commodity market is tempered by several factors. 
First, part 284 of the Commission's regulations and its policies 
provide that pipelines must sell capacity to maximum rate bidders.\18\ 
Therefore, pipelines may not hoard desired capacity in an attempt to 
widen basis differential without violating the Commission's existing 
regulations. Second, pipelines must file all negotiated rate agreements 
with the Commission for approval. Those filing negotiated rate 
contracts are noticed for comments giving all interested parties an 
opportunity to raise whatever concerns they have with the agreement. 
Moreover, the Commission has access to information regarding available 
pipeline capacity and daily gas basis differentials. This allows it to 
monitor the transactions to determine if the pipeline is withholding 
capacity in order to increase the gas commodity basis differential. 
Moreover, subsequent to the modification of the negotiated rate policy 
statement, Congress enacted new legislation designed to prohibit 
manipulation of the gas transportation markets. Concurrently with the 
issuance of this order, the Commission is approving a final rule in 
Docket No. RM06-3-000 implementing new section 4A of the Natural Gas 
Act.\19\
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    \18\ See Tennessee Gas Pipeline Co., 91 FERC ] 61,053 (2000), 
order on reh'g, 94 FERC ] 61,097 (2001), aff'd, Process Gas 
Consumers Group v. FERC, 292 F.3d 831 (D.C. Cir. 2002). Moreover, in 
Order No. 637-A, the Commission reaffirmed its position that the 
recourse rate effectively mitigates pipeline market power by stating 
that ``[T]he requirement that a pipeline sell its capacity at the 
regulated maximum rate prevents tacit collusion between the pipeline 
and the shipper to withhold capacity to raise price above the 
ceiling * * *'' Id. at 31,564.
    \19\ Section 315 of the Energy Policy Act of 2005 added the 
following provision to the Natural Gas Act:
    Prohibition on Market Manipulation
    SEC. 4A. It shall be unlawful for any entity, directly or 
indirectly, to use or employ, in connection with the purchase or 
sale of natural gas or the purchase or sale of transportation 
services subject to the jurisdiction of the Commission, any 
manipulative or deceptive device or contrivance (as those terms are 
used in section 10(b) of the Securities Exchange Act of 1934 (15 
U.S.C. 78j(b))) in contravention of such rules and regulations as 
the Commission may prescribe as necessary in the public interest or 
for the protection of natural gas ratepayers. Nothing in this 
section shall be construed to create a private right of action.
    Energy Policy Act of 2005, Pub. L. No. 109-58, Sec.  315, 119 
Stat. 594, (2005).
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    11. Given these facts and the benefits of the use of basis 
differential pricing mechanisms, the Commission finds that it is not 
necessary to ban the use of such mechanisms in order to mitigate the 
potential for manipulation of the market for either transportation or 
gas sales. Rather, the Commission will permit the use of gas commodity 
basis differentials and will continue to investigate, on a case by case 
basis, allegations of market manipulation or attempted market 
manipulation by pipelines. In this manner, the flexibility benefits of 
this pricing mechanism may be retained while the Commission maintains 
the integrity of the marketplace.
    The Commission orders:
    (A) The requests for rehearing of the Commission's July 9, 2003 
Order are dismissed as discussed in the body of this order.
    (B) The Commission's July 9, 2003 Order is clarified as discussed 
in the body of this order.

    By the Commission.
Magalie R. Salas,
Secretary.
[FR Doc. E6-941 Filed 1-25-06; 8:45 am]
BILLING CODE 6717-01-P