A unanimous decision of the United States Supreme Court issued on April 19, 2016 in Hughes v. Talen Energy held that the State of Maryland's program to promote development of in-state electric generation assets is preempted by federal law because it "sets" interstate wholesale rates under FERC's exclusive jurisdiction. The Court, was careful to limit its decision to state contractual arrangements that condition payment of funds on capacity clearing in a FERC jurisdictional auction - reasoning that such arrangements directly interfere with FERC's authority to set wholesale rates.
To address a perceived failure of PJM Interconnection, LLC ("PJM") markets to promote construction of new generation and thus ensure adequate electricity supply to Maryland customers, the State solicited proposals and selected CPV Maryland, LLC ("CPV") to build a new in-state gas-fired generating station. The State also mandated that Maryland load serving entities ("LSE") each enter into a contract with CPV designed to help finance the project. This contract provided that, as long as CPV's capacity offer cleared in the PJM capacity auction, CPV would receive a specified price for its capacity regardless of the price at which the auction cleared the market. If, for example, the market clearing price was less than the contractually guaranteed price, LSEs, would make up the difference to CPV, and would collect the money from Maryland ratepayers. If the market clearing price exceeded the guaranteed price, CPV would make a payment to the LSEs, who would pass those savings on to their ratepayers in the form of lower retail prices. If CPV's resource offer failed to clear (that is, it was not selected in the PJM capacity auction), CPV would not receive a payment from the Maryland LSEs.
The Supreme Court affirmed the Fourth Circuit's judgment that Maryland's arrangement could seriously distort the "price signals" produced by PJM's auction process because it gives CPV the incentive to bid into the PJM auction at the lowest possible price. (Since CPV would only get paid if it were selected, and since LSEs would make up the difference between the clearing price and the guaranteed price, CPV's incentive was to offer its capacity at a low price, ensuring it would be selected.) The Supreme Court agreed with the Fourth Circuit that Maryland's program "sets" a wholesale rate, which is a matter that lies within FERC's exclusive jurisdiction. The Court reasoned that the State's program disregarded the rate set by FERC by adjusting it. Relying on its prior decisions in Mississippi Power & Light and Nantahala, the Supreme Court stated: "States interfere with FERC's authority by disregarding interstate wholesale rates FERC has deemed just and reasonable, even when States exercise their traditional authority over retail rates or, as here, in-state generation."
While affirming FERC's authority over wholesale rates and preempting Maryland's program, the Supreme Court was also careful to preserve the Federal Power Act's reservation to the states of jurisdiction over generation. The Court made clear that not every state program or action encouraging the construction of new generation is preempted, stating that "[s]o long as a State does not condition payment of funds on capacity clearing the auction, the State's program would not suffer from the fatal defect that renders Maryland's program unacceptable." The Court emphasized the limited scope of its holding and specifically distinguished other measures states might employ to encourage construction of new generation, such as tax incentives, land grants, direct subsidies, construction of state-owned generating facilities, and re-regulation of retail electric markets.