Getting Electricity Right: Three key regulatory challenges

We face a perfect storm when it comes to Global Warming and energy issues. There are solution paths that can help us navigate these dangerous seas, yet often the technology seems to be the least of our challenges. On October 30th, the Brookings Institution Hamilton Project had a forum entitled:  A Climate of Change: Economic Approaches to Reforming Energy and Protecting the Environment.   The event was rich, in a number of ways, with the first session focused on comparing strengths and weaknesses of Cap and Trade (or, well, Cap, Auction, Trade) and a Carbon Tax.  In shorthand:

  • Cap, Auction, Trade provides some certainty as to carbon reduction levels but less certainty over revenues.
  • Carbon Tax provides more certainty over tax revenue with less certainty in terms of degree of carbon reductions.

Now, personally, a CAT (the CAT’s meow, one could say) might be the right prinicipal path, with some lower direct carbon fee for some revenue certainty.  But, this is besides the point of this post.

Perhaps the most interesting part of the morning were the comments by Kathleen McGinty,  Pennsylvania’s Secretary of Environmental Protection and Chair of the White House Council on Environmental Quality and head of the White House Office on Environmental Policy under President Bill Clinton. (See this 2005 Grist interview with her.) McGinty spoke to three “realities of the wholesale and retail electricity markets” and what that mean “in terms of actually seeing cleaner power” generation.  She highlighted these three to point out that a a price on carbon is a necessary, but not sufficient, means to change toward cleaner power generation.   These three regulatory, procedural, policy changes require changing or the move to clean power will be significantly handicapped. And, yet, these occur under the radar scope for nearly all citizens and, probably, most political leaders.

What are the three items that McGinty discussed?

LMP: Locational marginal price: 

wholesale pricing construct pursuant to which every electron is priced at the cost of the most expensive electron. You walk into your closet. You have 10 suits. Nine of them you bought at Sears. One is an Armani. In electricity markets, every one of the suits has the Armani price.

 What is the real problem with this?  It means that “cheap”, existing production (such as coal plants) have a huge profit margin since they are pricing their sales not related to costs but according to that last, highest cost electron.  Thus, it is very difficult to cause a coal plant to ‘feel the pain’ and become unprofitable via a carbon fee since there is so much profit space to work within.

RPM: Reliability Pricing Mechanism

Okay, have to be honest here, I consider myself reasonable knowledgeable about energy issues. I’ve read up on electricity issues, have been to FERC briefings, and, well, this one was news to me … and it is a doozy.

The RPM “is a new add-on on every rate payer’s bill put in place a year and a half ago.”  This was an add-on to provide funding for building new power generation plants to replace the 50+ year old plants.  “The idea was put an additional charge on everyone’s bill so the market would say there is money in power generation and have an incentive to build new plants.”

Great idea. Except, as McGinty pointed out, “the details matter, and the detail that was either forgotten or, more accurately, was opposed was that while the new price is now imposed, there was no requirement that the check received actually go to building something new to address the reliability problem.”

Get that?  They forgot to put in any requirement for actually spending the money on developing new generation capability. From PennFuture,

“RPM does neither insures reliability nor even the construction of 1 new megawatt of capacity. … Under the RPM scheme, owners of existing generation would receive the RPM capacity payment whether or not they build new generation.  … this avalanche of cash does not guarantee enough supply will exist as there is no obligation to build in return for taking the capacity cash. The only thing guaranteed is the payment of additional billions by consumers to existing owners of generation who have rarely had better or more profitable days.”

According to McGinty, the numbers aren’t small. $1.5 billion in Pennsylvania in 2006. In other words, $4 billion in additional cost, cost that is simply a “windfall … a check that goes to that current fleet of power plants. So, again, that carbon price is going to have to be sufficient not only to make Mother Nature whole but to take account of these enormous incumbent advantages.”

By the $4 billion.  Hmmm … With wind running at about $1500-2000 per kilowatt nameplate capacity, installed, that $4 billion could have provided 2 gigawatts (2 million kilowatts) of wind capacity, with backup generation/storage capacity, for the ratepayers in Pennsylvania that would have protected them from future fuel costs and reduced their carbon footprints. Instead, the money went where?

LTK: Long-Term Contracts

LTKs are long-term contracts for buying power, 10, 20, or even more year contracts to provide guaranteed financing for new power generation. Since wind and solar and other renewables frequently are front-ended in cost (high construction cost, no fuel to pay for), this sort of guaranteed revenue flow can be critical for reasonably priced financing.  The “problem and challenge” is that

public utility commissions “look askance at long-term contracts … and the rest of the system is lined up against the LTKs also.  The current owners of power plants don’t necessarily want to see something newer or cleaner built that they have to compete against, and the wholesalers-retailers don’t either because for them if you’ve got a long-term contract, contacts and customers are locked in and their ability to compete and pull those customers away is diminished.”

Bottom line

There are serious incumbent challenges out there. The solution is not simply “the marketplace” with some form of carbon price enabling the mythic market to solve everything. We require a well-regulated market place and Kathleen McGinty did an eloquent job pointing to three ways in which the market, even in face of some form of carbon pollution fee, is structure to inhibit a move toward cleaner power generation.



One response to “Getting Electricity Right: Three key regulatory challenges

  1. Pingback: Energy Cool: Spend a week WIRECing « Energy Smart

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