Put the Ratepayer in Charge

There are two basic ways of approaching an unsatisfactory situation. One is to ask how should we tweak the present system to improve it? The other is to ask what would the ideal system look like? There's something to be said in favor of the tweakers in terms of feasibility. But I've always been attracted to the idealist approach. The ideal may or may not be feasible; but, even it is not, it can provide insights into what to do and what not to do. The American power grid is in a manifestly unsatisfactory situation; and it's getting rapidly worse.

Figure 1. Coop Ratepayer Receiving Capital Credit (not Dividend) Check.

A Wicked Hard Problem

Managing the electricity grid has proven to be a wicked hard problem. The traditional American model, the regulated monopoly, sets up perverse incentives in which the utility benefits from expanding its rate base whether or not the capital expenditure benefits the ratepayer. At the same time, the utility can ignore variable costs which it can push on to a ``customer" who has no other option. The regulated monopoly depends on political appointees to control these perverse incentives; but the regulators can't guide the grid to some sort of societal optimum, even if they had the expertise to figure out how to do that. They can only say no; so they can be pushed into a corner where they have to accept what the utility wants to do, or have a shortfall of power. And they can be suborned in any number of ways, direct and indirect, legal and illegal.

Such regulated markets will not resist bad policy, no matter how pernicious. If politicians mandate that only very expensive technology X will be allowed to generate power, the utilities not only will not push back, they will welcome the rule. They will happily spend the extra money, and increase their rate base. The PUC will have to go along, otherwise there will be no electricity.

But attempts at simulating a competitive market have been an ignominious flop. In part this has been the result of market distorting subsidies and mandates. But even if this had not occurred, these efforts were doomed to failure. A truly competitive market (all players are price takers) is inherently cyclic, and depends on price signals to manage these cycles. In markets where capital costs are considerably larger than marginal costs, the spot price spends most of its time below the long run fully built up cost of supplying the product. During these slumps, there is little investment. Eventually, demand catches up with supply, and we have a boom. In markets where demand is highly inelastic, the boom spot prices can be many times the fully built up costs. But if competition is maintained, the very long run average of the spot price will equal the long run fully built up cost, and everything balances out.

In markets where something close to textbook competition has been maintained, such as the tanker market and many commodities markets, the sellers and buyers have ways of protecting themselves from the spot price fluctuations. These means can take the form of forward contracts (leases, term charters, etc) of various length, options, and stockpiling.

But the residential ratepayer has little or no access to such financial instruments. Storing substantial amounts of electricity is prohibitively expensive. At the same time, his demand is highly inelastic. To make things even worse, his demand becomes even more inelastic in periods of very high demand. Reducing power usage during a vicious cold snap is not an option. Thus, when power price spike occurs, it can literally bankrupt low to moderate income ratepayers.

Such price spikes are regarded as unacceptable for good reason. But without such spikes, a truly competitive market is not possible, The resulting compromises generate a bewildering welter of easily gamed regulations which in no way approximates a competitive market.

We need a third way.

The Local Coop

For 30 years I lived in the Florida Keys. My electricity was supplied by the Florida Keys Electric Cooperative (FKEC), of which I was a part owner and a voting member simply by having an account. FKEC has about 30,000 accounts serving 50,000 people in the Upper Keys.. The Coop's average system load is about 66 MW. FKEC buys electricity from an investor owned utility, Florida Power and Light (FPL), under the Rural Electrification Act which required such utilities to sell power to coops like FKEC at their cost. The REA also sets up a program by which the coops can borrow from the Feds.

Thanks to FPL's 1960 era nuclear power plant at Turkey Point, FKEC enjoyed some of the cheapest power in the country. When I left the Keys in 2018, the Coop was paying FPL about 9 cents per kWh, and I was paying the Coop about 12 cents. Every once in a while I would get a small check from the Coop. The Coop is a non-profit, so if it runs a surplus, it distributes it. To protect its non-profit status, this is called a Capital Credit; but every once in a while somebody screws up and calls it a shareholder dividend, which is what it is.

Every three years, the Coop members elect a Board of Trustees. The Coop area is divided into four districts. There are two or three Trustees from each district depending on the district population. Although the job is in theory unpaid, these elections draw at least as much attention as the state and federal elections, complete with active campaigning.¹ Incumbent politicians are banned from running for the Board, as our employees of the Coop and close relatives of employees. Anybody who sells anything to the Coop is also banned.

The directors tend to be prominent members of the community. The President of the Board (elected by the Board) was my optometrist. I would spend most of my appointments with him, arguing for moving the local power lines underground. These lobbying efforts were unsuccessful, despite my making direct payments to the man. The Board holds monthly meetings where all members are invited, as well as an annual meeting which usually attracts an overflow crowd. The Coop members vote on issues raised at the annual meeting, and can also institute Board recall proceedings. They can also vote to change the Bylaws although this takes a super majority.

I believe coops like the FKEC should be the basis by which we regulate the grid. I propose the entire country be divided into coops. The size has to be a balance of local control, technical and managerial efficiency. For large cities this could mean multi-million member coops. In any case, the coops should divided into districts of no more than 10,000 accounts each. Each district gets one Trustee. Only accounts in that district can vote for this Trustee. The above restrictions on Trustees would apply.

The local coops:

1). Distribute electricity within the coop area.

2. Buy power from whomever. Produce power if they choose. FKEC has three old 6 MW diesel generators. These are left overs from the days before we had a line to the mainland; and the Coop provided all the Upper Keys power directly. Since oil fueled electricity costs close to 20 cents/kWh for the fuel alone, their main purpose now is backup power in case the transmission line to the mainland goes down, as happened in hurricane Andrew.² However, the annual peak in demand is 4th of July week. The Keys are packed and the A/C are on full blast. So the Coop fires up the old diesels to handle the peak.

Providing backup capacity in the form of Open Cycle peaker turbines is surprisingly affordable. Table 1. shows that a 20,000 person Coop could have 10 days of 1000 watts per person capacity for about $100 per person per year.

Table 1 also shows that about 90% of the cost is the plant. The stored fuel and its tank represent only 10%. From a strictly backup point of view, it does not pay to go to the much more efficient Combined Cycle Gas Turbine (CCGT) despite the fact you need less fuel on hand for the same amount of backup. However, if this backup capability is expected to be used fairly frequently, shifting a portion of the capacity to Combined Cycle will make sense. The difference in diesel fuel cost is about 10 cents per kWh. For the two plants shown, the break even is somewhere around 4000 full power hours over the life of the plants.³ If cheap gas is available, the plant can be expected to be used more often, which will flip things further in the combined cycle's favor.

The point is that even combined cycle local backup is affordable. This will create a far more resilient grid. If an EMP or a terrorist takes out a portion of the main grid, the local backup will be invaluable, as it was in the Keys after Andrew. $100 per head per year seems like a reasonable amount to pay for such resilience.

3. Enter into contracts with other coops. More below.

A Coop is Not a Muni

There is an important difference between a public utility and a coop, if public means owned by a government, such as a municipal utility. The problem is ratepayer control is so indirect that it is almost non-existent. The utility is answerable to the government (town (Key West), state (Ontario), or country (France)). So you are going thru a possibly corrupt entity, that has all sorts of responsibilities in addition to electricity provision, and people whose main motivation is getting reelected.

Especially at the municipal level there a strong temptation to load other costs on to the utility, given its monopoly power. Special interest groups find it much easier to influence grid related decisions when the utility is controlled by politicians rather than the ratepayer. Whenever a town gets into a budget bind, there is always the temptation to sell the muni to private investors, and we are back in the original dilemma.

Lower Keys power is provided by a muni; Upper Keys by a coop. If you had a gripe with the power in the Upper Keys, you went to your FKEC commissioner. If you had a gripe in the Lower Keys, you went to the Key West City Hall. I believe that's a big difference.

Coop Consortia

Local coops like FKEC with an average load of 77 MW are much smaller than the optimal scale for technologies such as hydro or nuclear. But there is nothing to stop groups of coops from forming consortia to combine their buying power. The consortia can contract with merchant suppliers on either a long term or short term basis as they see fit. An individual coop could opt not to participate in any specific contract. Or a group could can build and operate their own plant(s). These consortia can also jointly invest in transmission in their areas.

The structure I envision would be amorphous in the sense that it would be project based, much like a group of vendors can band together to bid a big contract. A group of coops could band together to build a power plant or contract with someone else to build that plant. But if a group contracted with several sources, they would need to set up a unit for dispatching from these sources. In any event, each coop would be responsible for its share of the payment under whatever contracts it enters into, be it with a group of coops, or direct with an outside vendor.

Green House Gases and Other Pollution

A local coop will undervalue the social cost of any pollutant generated by the power that it produces or purchases, especially if the cost of that pollutant extends beyond the coop's boundaries. But there is an easy solution. Impose a fee on any such pollutant. If that fee is set at the social cost of each pollutant, we will move toward an optimal balance of cost and pollution. Even if the fee is set incorrectly, we will end up with an efficient grid, a grid for which it is impossible to have both less cost and less pollution.

Green houses gases are just another pollutant, and should be handled in the same manner. However, for this to work, it is essential that there be no subsidies or mandates for any source of electricity. In particular, a ban on fossil fuel is anathema. The coop system depends on the fact that dependable local peaking and backup is available and affordable. Only fossil fuel can provide that essential service.

Takeaway

A coop based grid recognizes that the local distribution of electricity is a natural monopoly. But if that monopoly is owned by the customers of the monopoly, they will have no motive to over-charge themselves, and they will be the losers if that monopoly is inefficient.

1. In fact, the members have approved a set of fees and expenses such that the Trustees gross about $30K per year.

2. After Andrew the power in south Florida was down for up to 8 weeks. But the Upper Keys had some power the next day. After another day or two, to conserve fuel the Coop limited service to essential facilities such as hospitals.

3. This depends on the demand profile. If it's a lot of starts and stops, the combined cycle will not be able to achieve all its superior efficiency due to the lag in bringing the steam side on line. On the other hand, a CO2 tax will shift the optimum toward more CCGT.