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Thank you for allowing me to testify at the March 7, 1991 hearing on Title X of the National Energy Security Act of 1991 (S.341) before the Committee on Energy and Natural Resources. Attached are answers to the follow-up questions of your March 11, 1991 letter.

Again, I enjoyed appearing before your Committee and hope that my testimony will be of value to the Committee during its deliberations. Please do not hesitate to contact me or Sonat's Washington office if you have additional questions.

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cc: Mr. Donald Santa

April 4, 1991

ANSWERS OF RONALD L, KUEHN, JR.

TO POST-HEARING QUESTIONS BEFORE THE SENATE COMMITTEE ON ENERGY AND NATURAL RESOURCES

MARCH 7, 1991

1. Post-hearing Questions of Senator J. Bennett Johnston

Questions

In your testimony, you express considerable skepticism over the value for the interstate natural gas pipeline industry of the optional procedures for pipeline construction contained in S.341 (SECS. 10001 and 10002).

1.

Could these options be modified to address your concerns?
Please suggest how this might be done. Please include
suggested substitute language if to do so would be helpful.

2.

Assuming that your concerns could be addressed, are there any
circumstances where the availability of these optional
procedures would be beneficial to an interstate pipeline?

Answers

The optional procedures of S.341 include construction under section 311 of the Natural Gas Policy Act (NGPA) and an "optional certificate" procedure which would result in a certificate being issued under section 7 of the Natural Gas Act (NGA) after completion of construction. These options are in addition to the traditional section 7 certificate procedure which requires that the Federal Energy Regulatory Commission (Commission) find the proposed facilities to be in the public convenience and necessity.

As a general matter, I fear that the options would create bad policy and, therefore, must be modified. I am concerned that elimination of the Commission's responsibility to ensure that facilities are "in the public convenience and necessity" (by defining satisfaction of that condition to be anything a pipeline does at its own risk (optional procedure) or by allowing construction of large interstate non-jurisdictional facilities (section 311), will result in additional costs with unknown rate consequences. After all, the gas transmission business is a capital intensive one excess capacity means either high unit costs or financially weak

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companies. For example, incremental analysis may produce a perfectly viable case for a new pipeline to serve large industrial customers presently served by a local distribution company (LDC) via an existing pipeline. An alternative means of serving these customers would create excess capacity and a lower load factor operation on the LDC and the existing pipeline. Since the LDC and pipeline would still serve the existing residential and commercial (R&C) requirements after the new pipeline takes away the industrial customers, R&C rates would go up. The industrial customers may have lower costs, but at the expense of homeowners. This is the type of public interest injury that section 7 was designed to avoid.

The modifications to section 311 proposed by S.341 can be modified to avoid this problem and I suggest the appropriate modification below. The optional certificate procedures cannot be satisfactorily modified and therefore, I would recommend that it should be dropped.

Finally, I, for one, do not think that the traditional certification process necessarily prevents pipelines from pursuing new markets. In fact, the industry has put a lot of new pipe in the ground since its peak delivery of 22 trillion cubic feet in 1972. I believe that the goal of this legislation should be to streamline the approval process, not to sow the seeds of another round of "transition" and its associated costs. The following are some more specific comments on the optional procedures.

Sec. 10001 Optional Certificate Procedure

The optional certificate procedure proposed in S.341 allows a pipeline to build transportation facilities without a certificate. Upon commencement of transportation services through the facilities built under this option, a certificate of public convenience and necessity under section 7 of the NGA shall be issued to the natural gas company. The natural gas company is required to accept the certificate, which may contain conditions the FERC finds are required by the public convenience and necessity. The rates are further subject to section 5 review, and the cost of the facilities can not be rolled in for 10 years. Federal eminent domain is not available under this procedure.

Some of the problems a pipeline would have with this are obvious:

1.

The pipeline would be forced to accept unknown conditions.

2.

The rate is market based (value of service) originally but can be
subsequently lowered based on just and reasonable (cost based)
standards.

Other reasons are less obvious:

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1.

The rate is required to be incremental based on the new
facility. New services on existing pipelines, however, will use
both old facilities and the new facilities. The new customer
will, therefore, be charged two rates and the legislation does
nothing to modify FERC treatment of rates for that portion of
the new service which is performed through old facilities. For
existing pipelines, therefore, the total transaction will never be
market driven or market priced.

2.

Incremental rate making (charging separate rates for service
through old and new facilities) virtually always produces higher
rates than rolled in rate making (charging one rate for service
through both old and new facilities).

Any time different classes of competitors are created, unintended dislocations can occur. Totally new pipelines may have competitive advantages over old pipelines under this legislation. This would create unequal classes of competitors.

In my written testimony I state that this optional certificate proposal will not offer a meaningful solution to the regulatory delay problem which this legislation is intended to solve. The reason, as described above, is that this does not create a market based alternative. The only thing it creates is delayed regulation and, therefore, regulatory second guessing. I do not believe that it will be at all useful, at least to existing pipelines. The only solution to this regulatory risk is to make the options truly deregulated and, because of the need to use the whole pipeline, the only way to do this is to completely deregulate pipelines; that is, repeal the Natural Gas Act in its entirety.

As suggested, my comments do not apply as forcefully to an incremental pipeline (built solely to connect a new supply to a market). An incremental pipeline would be fully subject to the risks of retroactive regulatory review (second guessing) and, therefore, this proposal may not even be attractive for that construction. If such optional certificate construction procedures are attractive, however, new pipelines will be favored over existing pipelines and the use of these new pipelines may cause significant damage to existing pipelines and their customers. Most new pipe is put in the ground to attach new supplies to existing pipelines in order to serve existing markets or to improve load factor on existing facilities by attaching new markets to existing pipelines. If new pipelines preempt this function, existing pipelines and their residential customers would face higher costs and shortages.

Finally, I am very concerned that the mere existence of this option would have a negative effect on the Commission's timeliness in processing traditional certificates. In my written testimony I noted that in the past the Commission has forced construction under alternate procedures by either refusing to process traditional section 7 applications or by inordinate delay in doing so. These proposals could result in a "Mexican Standoff" with pipelines refusing to use the options and FERC delaying or denying traditional section 7(c)

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certificates to encourage use of the options. This obviously would produce the exact opposite result from that intended by the bill. As further evidence, the Commission has had an optional expedited mechanism in place since the issuance of Order 500 in 1985, and has not established reasonable or reliable procedures for pipelines to utilize.

Sec. 10002 Amendments to Section 311 of the NGPA

The amendments to section 311 of the NGPA would specifically allow construction of any size and type pipeline under section 311 and to authorize any interstate pipeline to transport "on behalf of any person (emphasis added to denote proposed change from existing laws). In addition, the bill provides that section 311 transportation shall not be unjust, unreasonable, unduly discriminatory or preferential (within the meaning of the NGA).

Sonat does not view section 311 authorization as an attractive alternative for most major construction even with the changes of S.341. It does not provide federal eminent domain and carries significant rate uncertainties, namely that its rate treatment in a future rate case is an unknown. Sonat believes, however, that the changes of S.341 may prove helpful in some instances and, therefore, supports these changes with one major exception.

The modification allowing transportation "on behalf of any person" is an invitation to bypass LDCs and existing pipelines for important industrial loads. Sonat believes that this could prove very harmful to residential and commercial customers in the form of higher rates which could lead to further load loss. Rather than create a divisive issue, and serious potential harm, Sonat suggests the use of the American Gas Association position which would require traditional section 7 procedures to be used for situations where the construction would create a bypass of existing pipelines or LDC's.

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