Renewable portfolio standards – the high cost of insuring against high costs

, December 2012

 

State-level renewable portfolio standards (RPS) are a critical part of the U.S. renewable energy policy landscape. 29 states and Washington DC have enacted mandatory RPS policies. Taken together, they require that nearly 10% of U.S. electricity comes from RPS-eligible renewable energy sources by 2020.

But state policy makers have expressed concern about the potential cost of these policies. Over 20 states have included some form of cost limit in their policy. These cost limits are intended to protect electricity consumers from unacceptably high costs, and mitigating this risk can help increase political and public support for the policy. But depending on how they are designed and implemented, these cost limits can have unintended effects: They can increase the cost of deploying renewable energy, make RPS policies more complicated and less certain, and sometimes do not even limit costs as intended.

States have taken a wide range of approaches to limiting costs. Common approaches include:

  • Alternative compliance payments – ACPs let electricity suppliers meet their renewable energy requirements by making a payments rather than purchasing renewable energy credits or contracting with renewable energy projects. These payments are often used to fund complementary clean energy or energy efficiency programs. The ACP level is usually set by a regulator, and in practice, creates a maximum price for renewable energy credits.
  • Rate impact caps – Some states put a limit on how much renewable energy policy can increase electricity rates. These mechanisms vary significantly from state to state in terms of which renewable energy costs are included, how they are calculated, and the time period that they apply to.
  • Per-customer cost caps – A handful of states place a limit on the dollar amount any particular customer’s bill can increase because of the RPS.
  • Contract price caps – A couple of states have applied limits on the price that a renewable energy generator can contract to sell power to a utility.
  • Funding limits – Several states have created limits to the amount of funding that can be used to cover the costs of renewable energy.

CPI has looked at these cost limits, how they work, and the challenges associated with designing and implementing them effectively. Our research identified some key issues that are relevant to a wide range of states with RPS policies:

  1.  Cost limits that are set arbitrarily don’t always limit costs, but they do make RPS policies more complicated and uncertain. Some states set cost limits without consideration of how much the policy is expected to cost. For example, a number of state RPS policies limit rate impacts to 1 or 2%, but these numbers are not always based on an objective assessment of how much achieving the renewable energy target is going to cost. Other states have based their cost caps on existing sources of funding, having little to do with the overall renewable energy goal. In practice, we’ve seen that when the renewable energy target and cost limit are in conflict, it usually means that something has to give: regulators either find workarounds to deploy more renewable energy in spite of the cost cap, or the cost cap ends up reducing the amount of renewable energy that can get deployed. When the cost cap is not related to the expected cost of achieving a target, it ends up making policy more complicated, more uncertain, and potentially less effective.
  2. Some cost limits are very complicated and not well-defined, leading to protracted legal battles, or occasionally, mechanisms that fail to limit costs. Cost limits often get included in RPS legislation, but in very generic terms. In implementation of these rules, state utility regulators don’t always specify which costs get counted in the cost cap, how these costs are calculated, and the time period over which the cap applies. A number of state RPS regulators have been bogged down by lengthy, expensive litigation with utilities, simply arguing over how to interpret and calculate a cost cap. And in general, simpler mechanisms that are clearly defined may be more likely to stick, because market participants and regulators have less opportunity to shift the rules around.
  3. Cost caps interact with the rest of the RPS policy – sometimes increasing the cost of deploying renewable energy. In some cases, a cost cap can have unintended consequences for the rest of the policy. For instance, public price benchmarks and price limits for renewable energy contracts have ended up becoming “price targets” for renewable energy developers – when a project developer knows utilities are required to buy renewable power, project developers will sometimes bid a price they think the regulators will accept, rather than a price based on their actual costs. This effect works both ways, however: Some projects may end up costing more than they should, while others end up failing because the price they bid was too low to support financing.

Policy makers and regulators face a range of conflicting pressures. They want to create a clean, reliable electricity system, but protect ratepayers from unacceptably high costs. There is certainly a role for insurance against excessive costs, a “release valve” for the policy if the costs turn out to be much higher than expected. But the devil is in the details. In practice, these cost limits have faced some issues that may make the underlying RPS policies less effective at deploying low-cost renewable power. From the experience of these states, it’s clear that careful design and implementation of these cost limits can make a big difference to their effectiveness.

You can read more about cost limits in RPS policies in this this CPI paper, which is focused on options for California.

 

2 Responses

  1. David Farnsworth says:

    An additional means of lowering RPS costs is to require greater investment in cost-effective energy efficiency. Assuming the RPS is set as a percentage of the energy that a company provides (e.g., 2% if X MWhs), then, to the degree that the company lowers the number of MWhs in its portfolio, through greater efficiency investment, then the company will need to provide less in the way of renewable energy to meet the RPS requirement.

  2. Brendan Pierpont says:

    Thanks for the comment, David! Your suggestion is a very good one – since most RPS policies are expressed in percentage terms, more energy efficiency will absolutely lower the amount of new renewable energy that needs to get built, and could definitely help utilities and regulators stay under their cost caps while meeting RPS targets. I’d be very interested to hear of examples where state regulators or utilities are explicitly using energy efficiency activities to manage RPS costs.

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