Other Rate Issues / New Utility Rate Mechanisms

Transcription

1 NRRI Training for the Oklahoma Corporation Commission March 14-16, 2017 Topic 6 Other Rate Issues / New Utility Rate Mechanisms Ken Costello Principal Researcher National Regulatory Research Institute kcoste@nrri.org

2 Six Takeaways Ratemaking can address many of the challenges facing the electric utility industry; as some observers have remarked, Set the prices right and good things will happen Ratemaking is tougher than choosing a car or a health care plan; changing rate design, for example, would benefit some customers but hurt others, and the information presented to commissions is fraught with uncertainty Ratemaking has become harder over time because of expanded public policy objectives and more stakeholders in the regulatory process Regulators do adapt to a changed environment, although cautiously, when the public interest would otherwise suffer Ratemaking comes down to the relative importance that regulators and stakeholders place on different objectives Reaching agreement on rate issues (i.e., a political equilibrium) requires a balancing of interests, where each stakeholder has to give up its preferred choice for the public good; parties in many states have not yet reached agreement on certain ratemaking issues 2

3 U.S. Electric Utilities Face Challenging Times Ahead Costly new environmental regulations Aging infrastructure Grid modernization Increased emphasis on public-policy goals (e.g., clean energy) Changing fuel and generation economics Transitioning to a high penetration renewable-energy future Integration of new technologies (e.g., smart grid, DG, EVs) Cyber and physical security demands Public demands for improved superstorm response (e.g., resiliency) More active and demanding customers (e.g., desire for real-time information and pricing, and value-added services) New technologies behind the meter Reduced or flat load growth Is the threat of a death spiral real? What are the implications for regulators (e.g., ratemaking) and utility operations (e.g., the utility business model)? 3

4 What Constitutes Good Pricing Cost-based (marginal cost preferably) Price discrimination under certain conditions (e.g., additional sales when price marginal cost ) Fairness (vague and subjective but important in the history of utility pricing) Financially viable prudent utility Economically efficient (e.g., efficient competition, reasonable operating costs) Incentives for innovation (e.g., expected returns commensurate with risk) Incentives for advancing public policy objectives (e.g., energy efficiency) Public acceptability Rate stability 4

5 Why Pricing Is Important Covers revenue requirements, cost allocation and rate design, each of which affects the welfare of individual stakeholders and the public at large Helps to achieve important regulatory/social objectives, which prominently include the financial viability of utilities, the efficient use of electricity and the deployment of socially-desirable new technologies Affects the economics of DG and other emerging technologies, both on the benefits and costs side Affects existing utility customers who remain as full-requirements utility customers Faulty pricing can lead to problems like undue price discrimination, inequity, uneconomic bypass, financially stressed utilities Additional costs from faulty pricing in a more competitive electric industry 5

6 Current Concerns with Ratemaking Harm to utilities from lower sales given the current rate design of recovering most fixed costs through volumetric charges Inappropriate rates and rate design for DG and fullrequirements customers Pricing of surplus power (e.g., the net metering rate) is not cost-based like with CHP Cost-shifting to fullrequirements customers Non-robust utility incentives for innovation Deficient utility compensation to DG customers for the value they contribute to the utility grid Deficient DG customer compensation to the utility for standby and other grid services Uniform prices across all time periods Overall, impediments to meeting traditional and new regulatory objectives (e.g., fair and reasonable rates) Lag in using advanced meters for more intelligent pricing 6

7 Reasons for New Rate Mechanisms Questioning of the tenets and underlying assumptions of traditional ratemaking Much of the push comes from stakeholders (e.g., utilities, environmentalists, consumer advocates) with diverse interests Incidentally, throughout the history of public utility regulation, stakeholders have petitioned commissions to revisit old rate mechanisms and consider new ones (e.g., late 1960s and early 1970s) Added regulatory objectives over the past several decades, including the advancement of energy efficiency and renewable energy, and utility service affordability New market and operating conditions (e.g., rising average costs, slowdown of demand growth) Large capital expenditures, some of which is non-revenue producing The challenge for commissions is to evaluate whether new rate mechanisms are in the public interest 7

8 Rate Mechanism Positive Negative General Comments Traditional ROR ratemaking Emphasis on due process Focus on utility prudence Simple for public to understand Perception of fairness Avoidance of undue price discrimination Rate stability Strong utility incentive for cost management between rate cases Long-standing core ratemaking paradigm Pricing rigidity Disincentives for promoting certain social goals, such as utility-initiated energy efficiency Excessive regulatory lag under high inflation and stagnant sales growth Inefficient average-cost pricing Mismatch of utility costs and rate structure Weak long-term utility incentive for cost management Weak utility incentive for innovations (assuming rigid profit controls) Frequent rate cases in a dynamic environment Incentive for excessive capital investments ( A-J effect ) Strongest justification under stable market and utility operating conditions Problems arise in a dynamic environment Throughout its history, traditional ROR ratemaking has endured attacks from different stakeholders Although undergoing changes around the edges, traditional ROR ratemaking still dominates state utility ratemaking Most other countries reject U.S.-style traditional ROR ratemaking 8

9 New Rate Mechanisms: Grouping by Objective Reduce utility financial risk Reduce regulatory lag Objective Reduce the frequency of rate cases Eliminate utility disincentive for energy efficiency by reducing the risk of revenue erosion New Rate Mechanism Cost trackers, infrastructure surcharges, riders Future test years, CWIP, multiyear rate plans, cost trackers, formula rates, infrastructure surcharges Formula rates, multiyear rate plans, future test years Revenue decoupling, straight fixed-variable rates, lost revenue adjustment Make utility service more affordable to all customers Promote renewable energy Prevent uneconomic bypass and ease the ability of the utility to compete in certain markets Inverted rates, discounted rates, percentage-of-income mechanisms, lump-sum rebates Net metering rates, feed-in tariffs, green pricing Flexible rates, special contracts Optimize energy usage over different times Lessen the rigidity of regulation Avoid rate shock Promote specific activities Time-of-use rates, critical peak pricing, real-time rates, seasonal rates, demand charges Price caps, flexible rates Infrastructure surcharges, CWIP, phase-in Special incentives for energy efficiency, pipeline capacity release, off-system sales, distributed generation 9

10 Challenges for Regulators Multiple regulatory objectives Balancing act (more stakeholders than before) Conflicting objectives and inevitable tradeoffs Objectives difficult or impossible to quantify, and impossible to identify empirically the contribution of individual objectives to the public interest No consensus on the definition of the public interest Uncertainty of outcomes Dealing with cost socialization and subsidies Encourage DG/DER but don t give away the store Fairness to non-dg customers Difficulty of interpreting diverse information Prevention of a death spiral condition 10

11 Different Rate Mechanisms for Promoting Energy Efficiency Timely cost recovery for the utility Cost-recovery rider or tracker System benefits charge Proper pricing signals to consumers An inverted and non-declining rate structure Real-time or dynamic pricing Critical peak pricing Long-run marginal cost pricing 11

12 Different Rate Mechanisms for Promoting Energy Efficiency - continued Earnings stabilization for the utility Revenue decoupling rider Lost revenue adjustment mechanism Straight fixed-variable rate design Earnings sharing mechanism (e.g., formula rate plan) Performance incentive for the utility Shared savings incentive Performance target incentive Rate-of-return adder 12

13 Possible Conflicts between Regulatory Objectives Achieving utility financial stability Minimizing short-term rates Having strong incentives for holding down costs Moderating the burden on nonparticipating customers Minimizing customer-funded subsidies 13

14 Evaluation of Individual Rate Mechanisms Within the context of regulatory objectives (e.g., realtime prices can make customer bills highly volatile) Expected outcomes based on economics and real-world experiences (e.g., revenue decoupling removing disincentives for utility-initiated energy efficiency) It is not clear whether a particular rate mechanism is in the public interest All rate mechanisms have mixed outcomes from the perspective of the public interest Regulators must use judgment to assess their overall effect 14

15 New Ratemaking Proposals under Review Demand charges Demand response pricing Performance-based rates (e.g., energy efficiency) Surcharges for new investments Minimum bill SFV/modified SFV Flexible pricing Prices for unbundled and new value-added services Revenue decoupling Value of solar tariffs Net metering Utility affordability rates Multiyear rate plans PURPA-type pricing for surplus power from rooftop solar customers Time-varying rates 15

16 The Case of Multiyear Rate Plans A MRP is a mechanism for setting a utility s rates or revenue requirements for longer than a single 12-month period It specifies rates beyond the rate effective year of a rate case by applying a formula or index, or detailed forecasts for allowable rate changes over the duration of the plan (via attrition allowance) Instead of a utility filing a new general rate case when conditions change, for example, a MRP may forecast what these conditions are and adjust rates within the confines of a single rate case 16

17 Core and Add-On Features of MRPs Core Structure Starting base rate or revenue Changes in base rates or revenue outside the rate effective year Duration of a MRP (e.g., 3 years) Add-Ons Off-ramps Cap or floor ( collar ) on annual rate increases Earnings test True-ups/deferrals Stay-out period Refunds to customers Efficiency carryover 17

18 Issues for Regulators Articulating a rationale Length of the multiyear period Base period revenues and costs Allowed costs in base rates Focus on rate changes or revenue changes Need for off-ramps Conditions for earnings adjustments Post-test year cost calculations by forecasting or indexing, or a hybrid (i.e., attrition allowance) Conditions for recovery of capital costs Capital costs included in an MRP Inclusion of a stretch factor 18

19 Rate Mechanism Positive Negative General Comments Straight fixedvariable rate Matching of different utility costs and rate structure Good price signals for customers Enhanced utility-earnings stability More uniform utility bills across seasons Positive hedging effect on utility customers Removal of utility disincentives for energy efficiency Mitigation of inequities caused by intra-class subsidies Consistent with the pricing of many other goods and services Adverse effect on low-usage customers, some of whom may be low-income households Weaker incentive for priceinduced energy efficiency Questionable public acceptability SFV is less popular than revenue decoupling in removing utility disincentives for energy efficiency For electricity, a three-part tariff with a demand charge may be more rational Generally, SFV faces intense opposition by different groups, namely, small consumers, solar, low-income, environmentalists Although not endorsing a SFV rate design, over the past several years many commissions have allowed an increase in the customer charge SFV can have an equity problem by causing some customers to see dramatically higher bills Strong opposition to SFV has triggered interest by utilities in demand charges for residential customers 19

20 Rate Mechanism Positive Negative General Comments Demand charge (e.g., charge for utility s readiness to serve on demand) Alignment with an ideal rate design: volumetric charge based on variable cost, customer charge based on customer-specific fixed costs (billing, metering) and a demand charge based on system-wide fixed costs Incentive for customers to lower their KW demand and better manage their electricity bill Equity advanced in terms of who should pay for utility s embedded capacity costs (at least from a retrospective perspective) Reduced cross-subsidies currently provided to low load-factor customers Lack of customer information to manage demand Perception as a utility scheme to guarantee recovery of its fixed costs Reduction in incentive for energy efficiency (with the lowering of the commodity charge) Barrier to rooftop solar PV Effects will vary widely because of diversity of residential customers, with some customers potentially being much worse off Lack of capability for customers to manage their monthly demand The three major criticisms seem to be: (1) some customers could see much higher bills, (2) a reduction in the marginal price signal diminishes the incentive for energy efficiency, and (3) the difficulty for customers to know when and how they can manage their KW demand to lower their bills Need to address the regulatory objectives of gradualism and public acceptability (pilots, optional) Education, education, education Number of design challenges Essential for customers to have the enabling technology Improved economics for energy storage Improved load factors Similar concerns in acceptability as for time-variant rates Scarcity of real-word empirical evidence on outcomes 20

21 Rate Mechanism Positive Negative General Comments Revenue decoupling rider Enhanced utility earnings stability Reduced frequency of general rate cases Mitigation of utility disincentive for energy efficiency initiatives Fairness to utility in recovering prudent fixed costs Lessened controversy over sales calculations in a general rate case Skeptical public Second-best approach to addressing utility disincentives for energy efficiency Cost-shifting to all customers Weakened incentive for sales growth per customer when warranted by market and utility operating conditions Most popular in the natural gas sector but increasing in number for electric utilities Most commissions prefer revenue decoupling riders over its closest rivals, SFV rate design and lost revenue adjustment mechanisms Revenue decoupling seems to not seriously violate any core regulatory principles and is compatible with the balancing act aspect of public utility regulation Empirical evidence have shown typically small annual rate adjustments, with many decoupling plans adjusting rates downward as well as upward 21

22 Rate Mechanism Positive Negative General Comments Time-variant pricing (e.g., RTP, critical peak, TOU) Economically efficient Downward pressure on wholesale power prices Improved utility load factor Need for less utility capacity additions over time Avoidance of subsidies to high peak-use utility customers Promotion of demand-side actions to allocate utility costs Improved economics for EV, storage and some DG Aggravation of high utility bills during peak periods Skeptical public resistant to new pricing scheme Potentially large adverse effect on non price-responsive customers Majority of customers could be worse off Revenue instability for utilities Likely revenue declines for utilities when voluntary Strong economic rationale for them but uncommonly applied, especially for residential customers Several obstacles to timevariant pricing from three perspectives: (1) regulatory, (2) utilities, and (3) consumers Question of opt-in or opt-out option Preference for demand response pricing Regulatory concern about some consumers being worse off e.g., losers would include consumers not shifting their load to lower-cost periods Smart meters should expand the use of time-variant pricing A hallmark of utility regulation, however, is average cost pricing and resistance to unstable prices 22

23 Ten-Step Approach for Evaluating a New Rate Structure 1. Does the current rate structure have shortcomings that need to be addressed? 2. What explains the current interest in a new rate structure for residential customers? 3. How would a new rate structure differ from the current rate structure for residential customers? 4. How would a new rate structure advance regulatory objectives? 5. What are the different rate structures that regulators can consider? 6. How well would they work to overcome the problems with current rate structures and advance regulatory objectives? 7. What are some of the criticisms raised against new rate structures? 8. Is there evidence that new rate structures will benefit residential customers? 9. How do regulators weigh the positive and negative aspects of each rate structure to arrive at a decision? 10. What are the best ways to implement a new rate structure for residential customers? 23

24 Appendix 24

25 What Is Ratemaking and Its Goals? Ratemaking (or pricing)is a 3-step process: determining revenue requirements, cost allocation, and rate design Four primary goals of ratemaking High economic efficiency Sound utility financial condition Equity or fairness Advancement of social objectives (e.g., energy efficiency, affordability, promotion of clean energy) 25

26 Historical Evolution of Utility Ratemaking Legal underpinnings Evolution of utility rate mechanisms over the past several decades Objective of state utility commissions to achieve a balancing act Commission adaptability to a changed market and political environment Constant challenges for state utility commissions to advance the public interest Changing perspective of just and reasonable rates and no definite criteria except for boundary conditions (e.g., no confiscation of investors property, no undue price discrimination) 26

27 Features of Traditional Ratemaking Objective of giving utilities sufficient returns on prudent capital costs Rates based on cost of service Average-cost pricing Predominant venue for utility cost recovery is a general rate case Fixed base rates between rate cases No utility entitlement to the authorized rate of return Robust incentives for cost reductions between rate cases Rates attempt to balance the interests of different stakeholders Outside-of-rate-case cost recovery only under restrictive conditions (e.g., large cost item, hard-to-predict costs, costs largely outside the control of a utility) 27

28 The Balancing Act: The Underlying Principle of Ratemaking Symmetry of consumer and investor interests Consumers want fair and reasonable prices Investors want to earn a return commensurate with risk Other stakeholders want to advance their agenda (e.g., energy efficiency, renewable energy, affordable utility service) Balancing can involve regulatory objectives rather than stakeholder interests, although both tend to overlap Commissions balance the interests of different stakeholders, given their legal mandates and the political environment, so as to advance the public interest Commissions implicitly identify the objectives of ratemaking, weigh those objectives, and make the inevitable tradeoffs The public interest reflects the composite indicator of the public well-being by combining the individual effects of an action The challenge for commissions is to identify the public interest amid the diverse information received from different quarters 28

29 Traditional and New Regulatory Objectives Affordable utility service Energy efficiency Power diversity that includes renewable energy Fostering of innovation/new technologies Reliable service Safe service Price predictability Fairness Price stability Revenue stability Timely cost recovery Economic efficiency Clean environment Level playing field in competitive markets Infrequent general rate cases 29