Energy Reliability Calls for Regulation

 

On February 2, 2011, scattered households across Texas saw their lights go off, for anywhere from 20 minutes to eight hours. A cold snap had knocked some power plants offline, at the same time that more people were cranking up heaters. To avoid a statewide blackout, officials called for temporary outages, or rolling brownouts.

To electric customers, the brownouts were an inconvenience. To David Spence, they’re a sign that electricity reliability may be suffering after 20 years of deregulation. What electric suppliers need, he says in a new paper with Emily Hammond of George Washington University Law School, is some reregulation.

“We hear a lot of criticism of regulation as being more likely to gum up the works and distort efficient markets,” says Spence, professor of Business, Government and Society at McCombs. “But we’re starting to realize that markets alone are not giving us what we want. Regulation is needed to help supplement the markets’ allocations of benefits and costs.”

Catch-22: Cost vs. Reliability

In the 24 states that have deregulated their electricity markets, providers have brought down prices while bringing up the supply of green energy, says Spence. But they’ve struggled with a third need: reliability. Those Texas brownouts in 2011, followed by other electricity emergencies in 2014 and 2015, suggest the grid may be stretched too thin.

The problem, he explains, is that markets reward the lowest-cost suppliers of electricity. These days, those sources also tend to be the greenest: wind, solar, and natural gas. They produce electricity for between 3 and 8 cents per kilowatt/hour.

But those sources are also the least reliable. They quit producing when the wind dies down or darkness falls. Even a natural gas plant stops running when a pipeline breaks. By contrast, coal and nuclear plants store fuel onsite and can operate day and night. But such plants can also be more expensive: from 6 to 13 cents per kilowatt/hour.

That sets up an economic Catch-22. Grids need those baseload power plants to help ensure that electricity is always available, but when market prices are low, they’re not profitable to run. Investors have no incentive to build new ones, and reserve margins decline. Over the next decade, the Electric Reliability Council of Texas forecasts its cushion will drop from 25 percent to 16 percent of its peak demand. A thinner margin means a higher chance of brownouts or blackouts when plants unexpectedly break down.

“Unless there’s some way to compensate plant owners other than the sale of power, we could be moving toward more serious reliability problems,” Spence says.

Nixing Nuclear

The dilemma is especially acute for nuclear energy. Besides providing dependable power, it combats climate change by being carbon-free. But it’s priced out of the market by construction costs because it’s held to higher safety standards than other technologies. At the same time, the general public views nuclear plants as especially risky, says Spence, because while accidents are rare, they’re dramatic — from Three Mile Island to Fukushima.

The result: Of 100 U.S. reactors still operating, the last one broke ground in 1977, and only four new ones are under construction. “This technology has few pollution outputs and is very reliable, yet it’s dying because it’s costly,” he says. “How do you keep these plants open if the markets don’t make them profitable?”

He notes that the states of Illinois and New York are discussing ways to offer additional compensation to existing nuclear plants to coax them into remaining online.

From Deregulation to Re-regulation

Getting a more dependable power mix, Spence suggests, will take some additional regulation. In a perfect world, the U.S. Congress would tackle the task. “In the current climate of congressional gridlock, however, these kinds of federal legislative modifications to the regulatory contract seem more than unlikely — they seem fantastical,” he says.

In the meantime, Spence suggests limited rules that regulators at various levels could impose on their own, within the confines of existing law:

  • Put a price on reliability. The Federal Energy Regulatory Commission, which oversees interstate electricity sales, has the authority to tack on a reliability surcharge to sales of power from less reliable sources, making their prices less competitive. It’s a similar concept to adding environmental surcharges to power from high-polluting sources, say Spence and Hammond. The extra costs would ultimately be passed to customers.
  • The Nuclear Regulatory Commission could streamline the licensing process for newer and smaller reactors. “NuScale Power has a modular reactor design that’s built at a factory and deployed onsite,” Spence says. “It has a lot of passive safety features built in that are designed to address some of the attributes that make people nervous.”
  • Many state utility commissions have a say in what plants get built, either by licensing them or approving utilities’ long-range plans. When comparing proposals, regulators could add points for plants that make the overall grid more reliable and promote fuel diversity in the generation mix.
  • At a regional level, some organizations of providers that own transmission lines are paying utilities ahead of time to build new generation. In return for capacity payments, utilities guarantee a certain amount of power a few years in the future, even if not all the power is ultimately used.

A market that better values both reliability and environmental performance makes more sense, says Spence. Even in an age of deregulation, regulators have a pivotal role to play in shaping the market by mediating society’s conflicting demands of high reliability, low cost, and low environmental impact.

“There are many differences between the way electricity markets work and textbook markets work,” says Spence. “We should not be shy about tweaking the markets through regulations if they’re not providing the balance we want.”

The Regulatory Contract in the Marketplace is published in the Vanderbilt University Law Review.

 

 

Faculty in this Article

David Spence

Professor, Business, Government & Society

Professor Spence's research and teaching focus on business-government relations with emphasis on energy and environmental regulation. He received his...

David Spence teaches in the Texas Executive Education program, featuring open enrollment, custom and certificate classes for executives and organization teams.

About The Author

Steve Brooks

In a quarter-century as a journalist, Steve Brooks has won two Neal awards for excellence in trade reporting and a Press Club of New Orleans award...

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