This blog was written by John D. Wilson, former Deputy Director for Regulatory Policy at the Southern Alliance for Clean Energy.

Guest Blog | October 21, 2011 | Energy Efficiency, Energy Policy

For over a decade, states have been coasting along with policies that affect the market for key energy resources: small renewable energy generators and companies that practice cogeneration (also known as energy recycling, or combined heat and power). As advocates for consumer-friendly energy efficiency, we’ve learned that these same policies affect energy efficiency, particularly what kinds of programs are viewed as cost-effective or beneficial to the utility system.

What we have seen is that state policies in these areas are wildly divergent, almost impossible to understand, and quite possibly unreasonably biased against alternatives to utility-generated power. Where regulated monopoly utilities are the market, independent energy developers often have only one potential customer. The limited opportunities available to independent entrepreneurs or even the public-interest minded government agency leave us dependent on whatever power plant technology is preferred by the local utility, and customers may be paying more for electricity than they need to.

A recent regulatory decision related to California’s renewable energy strategy has opened up opportunities as well as questions in an area of utility regulatory law that is widely mis-perceived as established and unambigous law.

Today we are pleased to release, Reviving PURPA’s Purpose: The Limits of Existing State Avoided Cost Rulemaking Methodologies in Supporting Alternative Energy Development and a Proposed Path for Reform, by attorney and federal energy policy expert Carolyn Elefant. We were pleased to have the partnership of Recycled Energy Development in making this report possible.

As Ms. Elefant writes on her blog, “Once an innovative driver of renewables in the US, today PURPA often receives far less mention than its cooler green incentive cousins like the feed-in tariff, Section 1603 ITC cash grants or renewable energy credits (RECs).” It is time to take another look at the once-innovative PURPA and refresh its rusty gears.

What is “PURPA’s purpose?”

The Public Utility Regulatory Policies Act (PURPA) was enacted in 1978 under President Carter in response to the energy crisis. One of its key goals was to shake up the electric power market by creating an opportunity for small renewable energy generators and cogeneration facilities. Ms. Elefant’s report delves into some of the rules and contracts created over the past three decades in response to PURPA.

For many readers of this blog, the words “PURPA” and “avoided cost” may not mean much. I’m not going to attempt to offer a full explanation here, just a highly simplified set of concepts.

Federal law requires that across the country, there needs to be either a competitive energy market or that utilities have to be willing to buy power from small energy producers in what’s often called a “must take” arrangement. Across the Southeast, most utilities are not in a competitive energy market so they have to buy electricity from anyone who wants to sell it. The law that sets up the many rules that govern these transactions is known as PURPA, and the agency that wrote the rules on how PURPA is applied is the Federal Energy Regulatory Commission.

Even though FERC rules basically guarantee sellers of electricity are guaranteed a market, they aren’t guaranteed a very good deal. FERC rules designate state utility regulatory commissions as the primary authorities to approve price that utilities have to offer to these small energy producers. The rules require these authorities to use a standard known as “avoided cost” when setting the price, or rate, for power. Under the “avoided cost standard,” the utility is required to offer to the small power producer a price that is about equal to the cost savings the utility has from not generating the electricity itself or buying it from another generator.

Turning that concept into reality is not so simple. That’s why we contracted with Ms. Elefant to conduct a survey of state policies on avoided costs. We wanted to know what was being done, were states being fair and consistent, and what should be done about it.

And the bottom line is that there is no rhyme or reason to the way that states are setting the “avoided cost” rates under PURPA. Ms. Elefant thinks FERC should look more deeply into how states are dealing with this issue and reconsider its highly permissive approach to this issue.

So, are monopoly utilities offering fair rates?

Ms. Elefant’s report wasn’t able to answer that. What she found is that states have used widely divergent methods for calculating these rates – there are six different categories of methods, and within each category the methods can be only superficially similar. The unanswered question is whether all these different methods are simply different paths to roughly the same result, or are they so different that they lead to unfair discrimination in some cases.

Using her findings, we tried to dig into the data and compare states. That proved basically impossible to do in an fair, evenhanded way. The rates are (correctly) based on local costs and other locally-relevant data. So comparing the resulting rates from one state to another means considering both the differences in how the rates are calculated as well as the differences in local circumstances.

What FERC could do (and we could not) is to order utilities to provide the data necessary to calculate avoided costs using more than one (even all) of the methods in use today. See how they compare to one another and what that might mean for the fairness of state-approved calculations.

What else matters besides rates?

Most of the report focuses on rates, but Ms. Elefant also discusses several state considerations which are critical to understanding whether the rates are set in a reasonable way.

• Resource sufficiency vs. resource deficiency: In plain English, does the utility have enough power, or does it need more?
• Dispatchability / minimum availability: How much should a utility pay for power that it doesn’t control?
• Line loss and avoided transmission costs: Should utilities consider the power as generated, or as delivered?
• Externalities and environmental costs: What about air pollution, water resources and global climate change?
• Long-term contracts vs varying rates: There’s a tradeoff between certainty and optimal rates.
• REC availability: Renewable energy credits are a relatively new factor affecting the economics of power.
• Resource differentiation: Are all electrons created equal?

Unfortunately, getting a clear picture of state policies in each of these areas and why they have done so is not possible with publicly-available documentation. Ms. Elefant notes that in states such as Florida, “utilities are vested with broad latitude in determining the data inputs for avoided cost calculations.” And not only is there wide variation among states, she notes that methods often “vary within a single jurisdiction.”

We initiated this project, in part, because, regardless of which state we happened to be working in, state regulators and utility “experts” said that avoided cost rates couldn’t be questioned, because they were done according to FERC rules. Well, FERC rules don’t actually mandate these methods. States have chosen very different methods for reasons that may be pure and noble, or may reflect the self-interests of highly influential utility “experts.” And when someone tells me that a method for calculating an electricity rate is unquestionable, well, it just makes me even more certain that it needs questioning!

Because of these entrenched, “Byzantine” practices, entrepreneurs who want to offer innovative, high-value energy resources to customers face a daunting challenge. In states without a competitive market, the terms on which those resources can be sold are complex, inconsistent and often inaccessible without considerable effort and expense.

What should FERC do?

Ms. Elefant makes several recommendations to FERC to help sort out some of the thorny challenges she identified.

• FERC should develop a model for measuring the impact of each state’s methods for calculating avoided cost rates. Is the method fair? FERC should develop a systematic test to determine whether it seems reasonable.
• FERC should consider the impact of the use of “avoided cost” rates as a tool for measuring the benefits of energy efficiency and customer-owned self-generation, such as rooftop solar panels. When the “avoided cost” concept was established under PURPA, there was no consideration of its impacts on decisions to invest (or not invest) in energy efficiency.
• FERC should examine how resource-specific renewable energy rates could be established in the different circumstances that arise across the country.
• FERC should also review the variety of methods used to account for environmental costs in avoided cost rates.

Ms. Elefant recommends that these issues should be investigated through either convening technical conferences, or by issuing a formal Notice of Inquiry. As Ms. Elefant notes, “FERC’s leadership is needed … [and it] should use its decision in California Utilities Commission as a starting point to reaffirm states’ ability to set resource-specific QF rates and consider other factors such as avoided environmental costs.”