Electric Power Rate Reforms Needed for Smart Grid to Create Value

Michael Giberson

In a white paper released yesterday, the Association of Home Appliance Manufacturers (AHAM) identified three requirements necessary for the smart grid to create value for residential customers:

1. Pricing must provide incentives to manage energy use more efficiently and enable
   consumers to save money.
2. Communication Standards must be open, flexible, secure, and limited in number.
3. Consumer Choice & Privacy must be respected; the consumer is the decision
   maker.

The smart grid comes in both industrial-sized and consumer-sized packages.  Electric utilities can use sophisticated electronics for communication and computation to improve control and reduce their costs of operation.  This utility-side smart grid can and will proceed without consumer rate reform, but these incremental changes in ways of doing business will bring relatively modest benefits.

The consumer-oriented smart grid is where the revolutionary action will be, as consumers gain better control over their electric power use.  That better control will allow consumers to more completely reveal where and when electric power has more value, and the electric power industry will become more efficient at delivering power where and when it is most wanted.

Obviously, it will take consumer buy-in to get the revolutionary ball rolling.  As the AHAD white paper notes, only a small number of customers will adopt smart appliances because of the environmental benefits that come from better control over power use.  Most consumers will require economic incentives to participate.

However, it isn’t the case that each retail customer need to face real-time rates all of the time.  Rather, each customer just needs a contract with a retail supplier that divides up the price and quantity risks in a mutually agreeable fashion.  Those contracts could be real time rates, or fixed-term time-of-use rates, or critical peak pricing rates, or whatever.  Real-time rates have nice theoretical properties, it is true, but most of the potential benefits can be achieved with relatively few consumers on real-time rates.

AHAD writes:

With the proper tariffs in place to incentivize actions, the consumer can reduce costs and manage energy without significant behavior changes. Truly dynamic pricing combined with Smart Appliances will not require large changes in consumer behavior to realize a reduction in peak load. Unfortunately, tariffs that would encourage widespread adoption of these practices are currently not in place.

AHAD recommends the development of model tariffs and rate structures, presumably with the goal of adoption for use in state regulatory proceedings.  I predict this effort will happen, and over time model smart grid tariffs will gain adoption by many state regulatory commission.

Also, I predict the consumers in the competitive retail portions of the Texas power market will have “smart grid compatible” contract offers available from at least three separate companies within three months after (a) the customer has a smart meter and (b) ERCOT has rolled out its new wholesale settlement system for the customer’s distribution utility footprint.  The Texas retail power market will get better and better as the state becomes the leader in end-to-end smart grid integration.

Texas power rates are already dropping due to low natural gas prices, wind power pressure on prices, and temporarily moderated demand due to economic conditions.  While I’m in a predicting mood, I may as well predict that when the economy rebounds and natural gas prices are next over $8/mmbtu for a sustained period, we’ll see a much different Texas power market: more resilient, more efficient, and offering reasonably-priced power relative to neighboring states.