finance
focus on demand response
to ensure adequate capacity
Dan Watkiss,
Bracewell & Giuliani
D
emand response already accounts for
many
thousands
of megawatts of capacity but that contribution is poised to burgeon if properly encouraged.
The confluence of higher electricity prices throughout much of the nation, concerns over the adequacy of
installed and accessible generating capacity to provide reliable service in a
number of regions, and a directive in
the recently enacted Energy Policy Act
of 2005 (EPAct 2005) should open the
door to a new era of demand responsiveness, supported by real-time or interval metering technology.
demand must be part of the solution
ne of the vexatious issues
confronting the power industry is ensuring that reliable
service is backed by adequate generating capacity. Recent debate on this issue has focused on setting capacity
prices high enough to ensure that existing generation is maintained and
new capacity is brought on-line to replace retired units and satisfy growing
demand. Whether this should be accomplished by setting prices in relation to an administratively determined
demand curve, as in New York and
proposed for PJM and New England,
or instead be determined through energy market forces, as in MISO, is a
debate that should play out thoughtfully, grounded in experimentation.
Supply considerations alone,
however, must not drive the industry’s
efforts to ensure adequate and reliable
power supplies. Demand—in particular, the price elasticity of demand
— must also be part of the solution.
This should be obvious. Reserve requirements seek to meet coincident peak
demand within acceptable loss-of-load
parameters, particularly in load pockets
with limited import capability. Within
the historical industry model, this could
be achieved through regulatory fiats requiring vertically integrated utilities to
carry an installed reserve goal (e.g., 115
percent of peak demand) in exchange
for a cost-based capacity payment. But
in competitive wholesale markets with
decontrolled pricing this approach produces an unsatisfactory dynamic. Although scarcity in such a market should
produce very high marginal prices that
induce new investment, politics ordinarily intervene to cap prices below
levels required to maintain and invest
in marginal units. At the same time,
the target reserve percentage produces
a vertical demand curve that
falls to zero once the
required reserve percentage
is achieved.
The solution to this unsatisfactory
state of affairs, of course, will require
determining what capacity is available where and pricing it adequately
to maintain existing units and induce
new entry. But it should also include
enabling consumers, both large and
not so large, to change their power
demands in response to transparent
prices or dispatch instructions. The
economics of demand response are
self-evident. According to California
Energy Commission projections, it
O
Load reduction agreements could credit large consumers for reduced levels of consumption that reduce a utility’s capacity obligation.
Reprinted with revisions to format, from the March/April 2006 edition of ELECTRIC LIGHT & POWER
Copyright 2006 by PennWell Corporation
costs $600 per kilowatt to build new
peaking capacity while demand response costs only $100 per kilowatt
or less, a cost that drops as the cost of
smart meters continues to plummet
and demand response programs become better coordinated and achieve
greater scale.
Notwithstanding the already significant contribution that demand response makes, too often this side of the
equation has not received the attention
it deserves in ongoing deliberations on
how to ensure adequate capacity. Given sufficient participation, supported
by real-time or interval consumption
meters, demand responsiveness could
shave peaks considerably, lessening
the need for capacity reserves. That
could ultimately obviate (in whole or
in part) the need for capacity markets
separate from energy markets.
it’s policy now
ongress recognized the potential contribution of demand
response supported by realtime or interval metering in amendments that EPAct 2005 makes to section 111 of the Public Utility
C
Time-of-Use Pricing where prices
are set seasonally for future time
periods
Critical-Peak Pricing where timeof-use pricing is supplemented
with customer discounts for reducing consumption during certain periods of peak demand
Real-Time Pricing where prices
can change as frequently as hourly in relation to production or
purchase-power costs
Load reduction agreements that
credit large consumers for reduced
levels of consumption that reduce
a utility’s capacity obligation.
For states and nonregulated
utilities adopting it, this standard would further require the
electric utility to provide to each
of its customers that requests a
time-based pricing scheme, a
time-based meter capable of enabling the utility to offer and the
customer to receive service at timedifferentiated prices.
“...demand response will be the most economical solution to capacity shortages in
many regions, particularly fast-growing
coastal regions where supply-side solutions,
technologically or politically, are infeasible.”
Regulatory Policies Act of 1978. As
amended, section 111 announces that
it is the policy of the United States to
encourage states to provide reliable
and affordable demand response services. It goes on to direct each state
regulator, with respect to the retail
electric service providers that it regulates, and each nonregulated electric
utility to consider and determine
whether to implement a standard that
would require some form of timebased rate schedule implementation
by April 8, 2007, such as:
The amendment envisions a
process where each state and nonregulated utility would begin by Oct.
8, 2006, and conclude within one year,
its consideration of adopting the timebased pricing and metering standard.
Combining this consideration with
present or future investigations into
how to ensure capacity adequacy
would be propitious and would likely
result in more efficient solutions to
problems of capacity adequacy than
would consideration of capacity supply issues in isolation.
DR must receive more attention this
time around
he history of PURPA standards, however, is not particularly encouraging. Other standards from this same section of
PURPA that pre-date EPAct 2005, including the use of “time-of-day” rates,
generally did not receive from the
states or nonregulated utilities the attention that they deserved and were
poorly implemented, if at all.
But there are reasons to hope
that the time-based pricing and metering standard of EPAct 2005 will
receive more thoughtful consideration
than did these earlier PURPA standards. The industry and its regulators
are already focused on the capacity
adequacy issue and demand response
will be the most economical solution to capacity shortages in many
regions, particularly fast-growing
coastal regions where supply-side solutions, technologically or politically,
are infeasible.
In the new amendment, the secretary of energy is charged with providing technical assistance to states
and regional organizations in implementing the time-based pricing and
metering standard to address capacity
adequacy as well as other issues such
as transmission and distribution constraints. Unfortunately, but predictably, the administration’s proposed
budget provides no funding for this
technical assistance. Utilities and regulators should demand that Congress
appropriate sufficient funding for the
secretary to provide the technical assistance needed to induce states and
nonregulated utilities to adopt the
demand response programs that will
be made possible through time-based
pricing and metering.
T
Dan Watkiss is a partner with
Bracewell & Giuliani in
Washington, D.C. Focusing on
litigation and arbitration, his
clients include utilities, banks and
other lenders and energy project
developers. You can contact Dan at
Dan.Watkiss@bracewellgiuliani.com.