It is a bedrock principle of natural gas pipeline regulation that pipelines can only sell up to the transportation capacity of their systems on a firm basis. In return, shippers who want such firm service pay "recourse rate" reservation charges which enable the pipeline to recover all of its costs to provide service, plus make a profit. If a pipeline cannot provide firm service, due to a force majeure event, for example, it is required to reimburse its firm shippers by issuing reservation charge credits for each day service is interrupted after a safe harbor period of up to 10 days has elapsed.
With the Federal Energy Regulatory Commission's (FERC) blessing, however, the number of pipelines limiting their obligation to pay reservation charge credits for firm service interruptions has increased considerably, even as these pipelines sell more firm service on their systems. Over the last decade, FERC has allowed pipelines to modify their tariffs to eliminate reservation charge credit payments for firm services priced at negotiated or discounted rates. FERC reasons that if a shipper values the receipt of these credits, it can renegotiate its contract and pay the higher recourse rate and thus regain the right to receive reservation charge credits if its firm service is interrupted in the future.
FERC's misguided policy approach creates a powerful incentive for pipelines to enter into more negotiated or discounted rate contracts in order to insulate themselves from paying reservation charge credits when firm service is interrupted. After all, if a pipeline can position itself to pay fewer dollars in reservation charge credits as a direct result of a practice endorsed by the FERC, why would it not?
And as the number of negotiated and discounted rate contracts on pipelines increases, so too does the use of pipeline capacity, resulting in less slack in an aging pipeline grid that faces growing environmental and safety challenges, making replacement and expansion of needed pipeline infrastructure exceedingly difficult and time-consuming. The net effect is a policy that increases the likelihood of future service disruptions on pipelines and makes firm service even less reliable for shippers and their customers.
In any case, reservation charge credits are a poor substitute for performance. Firm shippers are paying for a service they expect will function whenever it is called upon, and these credits alone do not make shippers economically whole when they lose a market or supply source due to a service interruption.
Another bedrock principle of FERC's open access regime for gas pipeline transportation is that "firm is firm." In other words, if there is an interruption or reduction in firm service, all affected firm shippers must be treated equally, without regard to the rates they pay. But this principle breaks down when, as here, there are powerful economic incentives for pipelines to offer firm shippers negotiated or discounted rates in return for forfeiting their future rights to reservation charge credits.
Unfortunately, shippers who require and pay for firm service are being left in the lurch. By encouraging pipelines to avoid paying reservation charge credits to shippers willing to assume such economic risk, FERC's policy adversely impacts shippers who are willing to pay for and expect to receive reliable firm service. This end result is inconsistent with FERC's broader open access objectives. Why should firm shippers paying a pipeline's recourse rate be forced to suffer a dilution of their firm service rights purely to increase pipeline profits?
The current scenario is untenable and risks further degrading firm service reliability. To address this problem, we believe FERC should jettison its current policy of curtailing all firm service on a pro rata basis without regard to rates. Instead, FERC should consider allowing economic signals to control the capacity allocation process more fully. It could, for instance, require interstate pipelines to allocate all available capacity to recourse rate shippers before they allocate capacity to negotiated or discounted rate customers. Or FERC could eliminate economic signals entirely by denying pipelines the right to enter into negotiated or discounted rate agreements for firm service. Either approach would be a major step toward restoring the reliability of firm service for recourse rate shippers and thus would be preferable to the current regulatory scheme.