Power without passion
Energy revenue decoupling has done great things for efficiency efforts in the US, but it has some major downsides for consumers.
Download PDFWhile the debate over rising electricity prices gets increasingly heated in Australia, in the US the focus has turned to a policy approach known as decoupling – a mechanism that, quite literally, seeks to ‘decouple’ a utility’s revenue from the volume of electricity or natural gas that it sells.
Usually applied through state or federal legislation and overseen by industry regulators, decoupling aims to allow a utility to keep making money even if – through the implementation of energy efficiency measures – it is selling less electrons (so called ‘negawatts’). On the flip side, it also stops the utilities being rewarded if sales increase.
This might sound uncontentious enough, but the snow storms that struck northern United States earlier this month exposed some of the downsides to decoupling – and why it is not always so popular with consumers.
Writing in The Baltimore Sun on February 2, Professor Timothy Brennan expressed his frustration with decoupling and the role it played in the very slow restoration of power across Maryland following damage to transmission lines and substations in the wake of the storms.
Brennan – professor of public policy and economics and senior fellow at the University of Maryland, where he specialises in the subject of energy efficiency and electricity pricing – says of decoupling that "utilities like it because it guarantees their profits; environmentalists like it because it defuses utility opposition to energy-efficiency programs and legislatures like it because they can avoid raising taxes by shifting the burden to electricity regulators”.
Specifically, he notes that while decoupling incentivises electricity utilities to promote energy efficiency because they will be compensated for foregone electricity sales, they have less incentive to restore power quickly after a storm because they did not produce energy during the period the lines were out. The problem with that being that “if we make utilities indifferent to how much electricity they distribute, can we expect them to try as hard to restore power as they would if their revenues depended on how much electricity we use?”.
Helpfully, however, he also suggests there may be some solutions to this problem. “Ideally”, he writes, “paying for the distribution of electricity should be independent of use because the cost of the distribution system is largely independent of how much electricity we use. Those costs, however, depend on how many customers a utility has. For now, we might consider reducing each customer’s electricity bill based on the time his or her power is out, to provide incentives to restore power that decoupling takes away.”
Equally, he firmly advocates that the responsibility for energy policy lies with the legislature and that it is they who must sort it out. But he’s not holding his breath.
The American Council for an Energy-Efficient Economy published a useful report in late January entitled ‘Carrots for Utilities: Providing Financial Returns for Utility Investments in Energy Efficiency,’ which picks up on some of Brennan's concerns and articulates some of its own solutions.
Specifically, the report examines the efforts of those US states that have used financial incentives for encouraging ‘investor-owned utilities’ (or, ironically enough, ‘IOU’) to provide effective energy efficiency programs for their customers through the use of shareholder incentive mechanisms.
The report explains that the reason for research being undertaken on shareholder incentive mechanisms, in particular, is that policy approaches such as decoupling and lost revenue recovery can leave an IOU opposed or indifferent to energy efficiency as an option when it comes to allocating its scarce resources.
In particular, it noted that “while [a utility] no longer will lose revenues from improved customer energy efficiency, it will also not earn a positive return on utility expenditures for helping their customers become more energy efficient.”
Three general categories of shareholder incentive mechanisms were identified by the report as having been used in 18 different US states to address this issue and adequately incentivise utilities to pursue customer energy efficiency.
1. Shared benefits – which allow utilities to earn some portion of the benefits of an energy efficiency program;
2. Performance Targets – which seek to incentivise utilities for meeting energy savings goals (and other agreed targets);
3. Rate of Return – which permit utilities to earn a rate of return based on efficiency spending or level of savings.
Notably, the authors of the report felt that the policies appeared to be working and the ‘lessons learnt’ were potentially informative. In particular, they noted that there was “repeated emphasis” on the need for a broader framework of “policies supporting and encouraging efficiency” and that shareholder incentives in the context of such a framework (ie. legislation or state efficiency standard) “can reduce controversy, help parties to reach consensus, solidify regulatory authority, and provide regulatory certainty”. By contrast, “fractured treatment of efficiency makes it difficult to adjust mechanisms appropriately.”
There is broad consensus that energy efficiency is among the cheapest and easiest to implement of all carbon-abatement measures and a concluding look at another US experience illustrates what it can achieve.
Data published during 2010 by Pacific Gas and Electric Company (PG&E), one of the largest combination natural gas and electric utilities in the United States, based in San Francisco, noted that since the mid-1970’s California’s energy efficiency programs have resulted in that state avoiding having to build 24 large power plants.
Obviously this is a lengthy time-frame and clearly not all of this avoided construction can be attributed to decoupling. But the US experience with energy efficiency generally, and decoupling in particular, is extremely useful and offers an encouraging template for what could be achieved here in Australia.
Alex Wilkins is an investment analyst at Arkx Investment Management