The Utility Conundrum: Has California Cracked the Catch-22 for Utilities?


How do you force a company that earns money by selling power to reduce its sales? This conflict of interests is what the state of California faced in the 1970s and the result was the formation of the California Public Utilities Corporation (CPUC) an agency that oversees the publicly owned utilities in the state and regulates the amount those utilities can charge. A major goal for the CPUC? Disincentivize the utilities from increasing sales.

Energy use across the United States has grown steadily both on a per capita basis and in total for the last 30 years. California is one of the few states that has been able to control its per-capita energy use over the last few decades. In fact, the per capita utility use curve in California has been almost completely flat since the late ‘70s which many find amazing considering the overwhelming increase in technology in our lives. The way California has done so is as startling as it is strange: beauracratic wisdom.

What’s more, a California utility, PG&E was named “The Greenest Public Utility in the United States” in 2009 by Newsweek magazine. How did PG&E win the award and what is California doing that every other state is not?

In the 1970s, the people in charge in California decided to institute an energy efficiency standard and implemented stricter guidelines for appliances. Equally important, the CPUC was put in charge of regulating California’s utilities but unlike most state regulatory agencies that simply determine a maximum rate increase from year to year, the CPUC set limitations on energy sold and actually incentivizes the utilities based on the amount of energy it saves. This incentive structure completely changes the way the utility is run and instead of constantly trying to increase rates and revenue like every other company, California’s public utilities actually seek to curb energy use through community education and a very important tool they call decoupling.

Decoupling?

Decoupling is the term used to describe how the utilities incentivize their user base to use less energy. For residential customers, they use a tiered rate system where everyone is charged a baseline rate for a limited amount of energy. As energy use exceeds the first tier, a higher rate is charged for the second tier. The residential rates in PG&E territory are around $0.11 per kilowatt hour (kW) in the baseline tier but after the customer exhausts her allotment of baseline energy, she begins using energy in tier two which costs closer to $0.13. After tier 2, the cost of energy jumps substantially over $0.26 for tier 3, over $0.38 for tier 4 and over $0.44 for tier 5. The result of this tiered system is that those who have the highest energy bills are typically the people who live in large homes and use energy with abandon.

I recently worked with some clients meeting that exact criteria. They are a married couple in a 3,200 square foot house located in a relatively temperate climate and could not understand why they had an average utility bill of over $700 per month. A walk through their house revealed multiple causes. In addition to over fifty canned lights throughout the house, many of which were routinely left on, the client had a Koi Pond out back that had a fountain with a 500 watt motor running continuously. Additionally, the pool motor ran for 8 hours every night and the couple illuminated their walkway and entire back yard from sunset until sunrise with over 80 lights! Other culprits that pushed this couple into the highest utility bracket included heated toilet seats, numerous flat panel televisions, an outdoor jacuzzi and an indoor sauna. Through some common sense approaches, behavior modification and energy efficiency measures, the client’s bill was reduced by more than half.

Peak demand, peak rate.

PG&E’s commercial clients also learned to amend their behavior based on what is best for the utility company and, in turn, the environment. For instance, when electricity is at its peak demand, in the summertime during the day, the price to customers is highest (peak rate) when electricity is at its lowest demand, at night, its cost to customers is the lowest (off peak). This is because the utility has the ability to create a given amount of energy at any time but once the demand for energy exceeds a certain level, more energy must be generated either by powering up standby stations which equates to high cost power, or the energy is imported from other states or regions at a higher rate. Either way, to meet peak demand, the utility has to purchase higher cost and many times dirtier energy such as that derived from coal and these costs are passed along to the users of the energy. The idea is that by charging higher prices, users will adapt their use so that a more consistent amount of energy will be needed at all times rather than radically varying amounts of energy which makes planning difficult and drives costs upward for everyone.

A major benefit to come from decoupled rates is that those who have the highest bills are those who save the most from energy efficiency measures and solar electric panels or solar hot water heaters. In residential, these are the people who can reduce their utility bills significantly by installing solar and are also typically wealthy to begin with so can afford the high upfront costs of solar. Its no wonder why California leads the US by an enormous margin in solar installations. An additional benefit is that solar provides electricity during peak time which is when the utility needs it most. However, rate decoupling is not the only reason for California’s relatively large installed solar base. The state has also adopted aggressive renewable energy standards whereby 33% of the energy in the state is mandated to come from renewable sources by the year 2020. This is a goal that could never be met unless the utility and the customers have the same incentives; use less energy per person through energy efficiency measures, install a large base of solar, wind and other renewable sources and ensure that new construction is built to very high standards.

Net-zero energy buildings.

California has had some of the highest standards for new construction over the last few decades as the regulations in Title 24 give the codes by which all contractors are supposed to adhere. Similar to contractors elsewhere, cutting corners equals less expenses and thus although the code requires very good buildings, the reality is that many structures are completed at less than optimal levels. This is leading to further regulation and stricter code compliance measures. For the state to meet its very aggressive goals of making every new home built by 2020 and every commercial structure built by 2030 net-zero energy, contractors are going to be held to more scrutiny and higher standards. To reach these goals, the costs of new construction will increase but the operating costs over the life of the structure should decrease substantially. In a state where many commercial and residential structures are owned by those who only care about the cost of building the structure and do not care about long term operating expenses, landlords of future buildings will no longer have the luxury of passing inefficient structures and costs on to their tenants. While many in the real estate industry hate the idea of anything that adds to costs which slows development, those taking a long-term view realize that the cost of construction is borne once but the environmental impact of poor construction lingers on for generations as does the higher operational costs for the tenants. High quality construction equates to happier tenants which leads to higher resale values.

Not every state has the same natural resources as California but California has shown that with the proper incentives, utilities will act in an environmentally responsible manner which benefits current and future customers. So who were those bureaucrats who were so wise back in the 1970s? Who cares? The point is that bureaucratic wisdom is possible and the hope is that other states begin making generational decisions rather than short term decisions meant to secure a win in the next election. Is your state progressive or a laggard? Click here to see recent data from the US Energy Information Administration to see the worst energy hogs across the US.



Have any Question or Comment?

6 comments on “The Utility Conundrum: Has California Cracked the Catch-22 for Utilities?

This is inspiring to hear, and I hope some of the lessons can be applied nationally. California does have a natural advantage in comparison to most other states, though, because of the mild climate– so less energy is necessary for heating or cooling.

Bilsko

This is a good post to introduce readers to some of the mechanisms in place that work to mitigate the upward sloping energy demand curve, but its worth being a bit more careful to distinguish the definition of “decoupling” with the mechanisms that the utility uses, so as not to confuse readers.

Decoupling does not describe how utilities motivate their rate base to use less energy. Decoupling describes the mechanism whereby the state’s public utility commission breaks the link between revenues and energy delivered – the link is ‘decoupled’. Its one way to address what’s typically called the “throughput bias” – a distribution utility’s revenues are no longer driven by how many electrons they shove through the wires.

The important (and somewhat subtle) shift that takes place is that the PUC guarantees revenues and not rates. So its rates that float, while revenue is fixed, not the other way around. The tiered mechanism that you describe above

is one of a handful of different ways of implementing a decouple rate program. The utility can also maintain its existing rate structure and look to an end-of-the-year true up (increased charges if they fall short of their determined revenues, or money back to rate payers if they exceed revenue goals)

Decoupling has had a mixed track record – states like California have done pretty well, while Maine had an awful experience a decade or so ago with decoupling and so other states have treaded pretty cautiously when deciding whether or not to follow California’s lead.

As an aside, its worth noting that decoupling doesn’t only apply to electrons, there are a number of gas utilities that have decoupled rates as well.

Decoupling is starting to get renewed attention with all of the AMI/smart meter talk, but the discussion has been going on at least as long as energy efficiency measures have been around.

nytbayarea

A review of CA energy policies, why they seem to work and what’s next. http://bit.ly/6Eng5J ^FB

This comment was originally posted on Twitter

Michelle

RE: rates for offpeak lower – I am a residential PG&E customer, and I don’t think that applies to me. I think this is for commercial.

Also – I still don’t understand how the tier system reduces the conflict of interest – PG&E makes more money as you use more electricity. I understand what Blisko comments that the CPUC caps the revenue – I just got a big chunk of money back on my last bill – I guess they exceeded revenue goals.

Can someone suggest some more in depth articles on this topic?

Thanks,

Michelle

Jared

@Bilsko, thank you for helping to clarify this challenging topic.

@Michelle, I appreciate your comment. The link in the article leads directly to the rates for PG&E. Most likely your rate is not any one of the tiered amounts (unless your energy use is only within tier 1) but rather, an average calculated on the tier 1 rate x your tier 1 usage + the tier two rate times your tier 2 usage, etc.

The conflict of interest is gone because the revenue a utility is allowed to earn is capped thus they need to find the most efficient ways of earning the allowed amount of revenue each year. If revenue is not capped, the utility obviously benefits by selling more energy and has no reason to try to reduce the amount of energy sold. By making a tiered system, the utility is able to charge the largest users of energy the highest rates, thereby making the utility more profitable while also giving the users the incentive to reduce energy use. Yes, the utility has the same amount of revenue and higher profits but those profits are then rolled into other programs that are expected to benefit the user base.

A few examples of how PG&E uses its profits or rather, minimizes profits through increased expenses should further illustrate the point. PG&E provides incentives for solar panel installations (40% of the solar installed in the US is in PG&E territory), smart meters (13,000 are getting installed daily in PG&E territory) and education (hundreds of classes on solar, energy efficiency and other utility related topics are taught throughout PG&E territory each semester free of charge and open to anyone).

By utilizing a tiered rate structure which creates higher profits then reinvesting profits in educating the public and creating the infrastructure for cleaner energy, PG&E has basically made the worst polluters pay to make the grid more clean. Now that I think about it, this seems very close to what many are trying to accomplish with carbon cap and trade; make the biggest polluters pay more so that others will pollute less…

philip treanor

PG&E together with the other 2 very large Utilities in the state were able to steal $29 Billion back when electricity was Deregulated. The utilities wrote up a set of rules and our Governor Wilson signed on to the program without understanding anything about the Deregulation. He ever went so far as to state that the incoming governor could change anything that was wrong consequently the public got shafted.

California Governor Gray Davis was an nincompoop and he allowed Enron to steal another bunch of money from the citizens of the State.

Enron folded and PG&E went into bankruptcy. Some Enron officials went to jail and PG&E (the thieves) declared themselves large monetary bonuses as they did not like working for a corporation that had been in bankruptcy.

Then came Schwarzenegger – he spoke funny so the people went along with him – he also did nothing to overcome the high cost of Electricity in the State.

Now PG&E demand the citizens install their Smart Meters which appear not to work very well. To keep cost of installation down PG&E awarded the installation contract to a company from a New England State.

Do you really think we should take PG&E’s, CPUC. CEC, ARB & State of California word that this is good for the public.

Hark well fools, You are about to be …. again.

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