Smart Power: Climate Change, the Smart Grid, and the Future of Electric Utilities / Edition 2 available in Hardcover
- Pub. Date:
- Island Press
A new national policy on climate change is under debate in the United States and is likely to result in a cap on greenhouse gas emissions for utilities. This and other developments will prompt utilities to undergo the largest changes in their history. Smart Power examines the many facets of this unprecedented transformation.
This enlightening book begins with a look back on the deregulatory efforts of the 1990s and their gradual replacement by concerns over climate change, promoting new technologies, and developing stable prices and supplies. In thorough but non-technical terms it explains the revolutionary changes that the Smart Grid is bringing to utility operations. It also examines the options for low-carbon emissions along with the real-world challenges the industry and its regulators must face as the industry retools and finances its new sources and systems.
Throughout the book, Peter Fox-Penner provides insights into the policy choices and regulatory reform needed to face these challenges. He not only weighs the costs and benefits of every option, but presents interviews with informed experts, including economists, utility CEOs, and engineers. He gives a brief history of the development of the current utility business model and examines possible new business models that are focused on energy efficiency.
Smart Power explains every aspect of the coming energy revolution for utilities in lively prose that will captivate even the most techno-phobic readers.
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About the Author
Peter Fox-Penner is a consulting executive and an internationally recognized authority on energy and electric power industry issues. Dr. Fox-Penner is a principal and chairman emeritus of The Brattle Group, a leading international economic consulting firm.
Read an Excerpt
Climate Change, the Smart Grid, and the Future of Electric Utilities
By Peter Fox-Penner
ISLAND PRESSCopyright © 2010 Peter Fox-Penner
All rights reserved.
The First Electric Revolution
IN 1885, Muncie, Indiana, was a typical midwestern city. The rhythms of the city were set by the sun and the canter of horses pulling wagonloads in from the surrounding farms. The largest factory belonged to the Ball brothers, makers of the much beloved canning jars. By night, the city's only light came from smoky, flickering gas lamps. The countryside relied on candles and kerosene.
Over the next four decades, electricity transformed Muncie as it transformed the world. Shopkeepers found that smokeless electric lights were far better for attracting customers and less damaging to their goods. For the first time, mothers could allow their children to read alone at night, free of the fear of accidental but frequent lantern fires. The streets of Muncie were illuminated, and a system of twenty-five fire alarm boxes alerted the fire department much faster than a messenger could be sent by saddle.
Electricity, too, changed the Ball brothers' factory. Before 1900 a team of two glass blowers and three preteen boys worked by hand to make 1,000 jars a day. The electric machines that replaced these workers took eight men to run and—in the same amount of time—produced 42,000 jars. Historian David Nye writes, "In Muncie's foundries men seldom carried heavy loads, because an overhead crane with a powerful electromagnet could carry materials from one end of a plant to the other in less than two minutes. Three men operating it could do the work that previously required thirty-six strong day laborers."
As Muncie and thousands of other cities electrified, one man was smiling. It was not Thomas Edison, J. P. Morgan, or any of the many other electric inventors or financiers of the era. It was Samuel Insull, the son of an English lay preacher, who devised an industry structure and business model that enabled electricity to embark on an unbroken century of growth.
Insull rose from the personal staff of Thomas Edison to become CEO of one of the earliest utility holding companies, Commonwealth Edison. Along the way he mastered beyond all others the technology and economics of power demand and supply, the importance of utility regulation, and the value of different business and financial structures.
Insull's visions of the industry rested on four pillars. First, it was cheaper to serve customers when their power use was aggregated via the largest possible web of interconnections—the system we now call the grid. Insull termed this the massing of consumption. The second pillar was economies of scale in production, or the industry's natural monopoly attributes. Today some of these scale effects have faded, but they were immutable in Insull's days and for decades thereafter.
When one's costs go down as supply goes up, what is the logical sales strategy? Sell more and charge less. Insull and the industry's finest marketing force sang "the gospel of consumption," urging customers to buy ever more power and giving them discounts when they did. This was pillar number three.
Finally, Insull recognized that an industry with declining costs, high capital needs, and intensive political interaction would gain stability and protection from regulation. He wrote:
For my own part, I cannot see how we can expect to obtain from the communities in which we operate, or from the state having control over those communities, certain privileges so far as a monopoly is concerned, and at the same time contend against regulation.
In league with progressives like Robert M. La Follette, Sr., who favored government control over trusts and other critical industries, a system of independent state agencies was established to oversee utilities and their rates.
Insull pursued his vision ceaselessly, acquiring and combining small power systems around the United States. The rest of investor-owned systems followed suit. A scattered collection of small power plants owned by municipal governments and individuals became an industry of huge, centralized utilities, with roughly one-third remaining in its original ownership form. Insull's vision of large supply, massed demand, increased consumption, and regulated rates reigned supreme. And without it, electrification might not have happened.
Insull, perhaps more than any other single person, changed American life. Over the span of the next four decades, nearly every urban home and shop got electric power and lights. Housewives who had spent an entire day doing the wash could now start an electric machine that finished in an hour. Factories saw productivity gains as high as one hundred times pre-electric levels. With a radio at the hearth of nearly every American household, and theaters soon to have electric sound and later air conditioning, came the birth of mass communication and the modern entertainment industry.
Electric power became fundamental to our military strength. Well before World War II began, war planners called for a massive expansion of power production. During the war years the War Production Board closely directed the building of transmission lines and new federal hydroelectric facilities, especially in the Columbia and Tennessee river valleys. Among other customers, the Tennessee Valley Authority (TVA) supplied massive quantities of power to the secret Tennessee laboratory that built Little Boy and Fat Man, the atomic bombs dropped over Hiroshima and Nagasaki in 1945. By that same year, U.S. electricity usage had increased 60% above prewar levels, introducing additional economies of scale that had not been possible during the Great Depression.
In the decades following the war, electrification permeated every facet of the American economy. The maximum rating of a turbine generator has grown by a factor of 1,000 since the power age of America began. The number of personal computers installed worldwide hit the one billion mark in June 2008. Patients in intensive care are wired to as many as a dozen electrical devices. Warfare is increasingly electronic. Video screens are everywhere—even in elevators, where the average viewer watches them for thirty seconds. The average American home used approximately 138 kilowatt-hours a month in 1950; today the number is closer to a thousand (1 kilowatt-hour is ten hours of a 100-watt fluorescent bulb or about half a load of laundry).
In 2003 the National Academy of Engineering convened a jury to recognize the most important technological developments of the century. The Academy looked out across a country with nearly ten thousand power plants, six million miles of power lines, and an inconceivable array of electric devices. The Academy had little trouble choosing electrification as the preeminent engineering achievement of the twentieth century.
But all things must pass, and after a century of dominance, the sun is setting on Insull's creation.
The Second Electric Revolution
Today the electric power industry faces challenges far larger than any in its history. These challenges are motivated by two worldwide policy imperatives. The first imperative is the need to adopt policies reducing the impacts of global climate change. Scientists and policymakers now largely agree that greenhouse gases (GHGs) are growing at a rate that will soon yield dangerously high concentrations in our atmosphere. To reduce the likelihood of severe damage from storms, droughts, disease, and ecosystem shifts, GHG concentrations in the atmosphere must be limited to less than 450 parts per million.
The second policy imperative is the need for greater energy security. Imbalances between the supply and demand for oil, natural gas, and other fuels and key commodities can pose a threat to the economic stability and security of import-reliant countries such as the United States. Oil imports provide more than half of U.S. oil consumption and continue to grow. The U.S. trade deficit, which currently exceeds $1 trillion, is directly related to the cost of importing oil, which contributes an estimated $700 billion a year. As world demand increases, suppliers such as Saudi Arabia, Iran, and Russia will continue to gain even more geopolitical leverage at an alarming rate: in 1980, the United States bought 25% of its oil from the Organization of Petroleum Exporting Countries (OPEC); by 2030 the figure will be 47%.
For countries dependent on imported oil, electric transportation constitutes an important new pathway toward greater energy security. Because U.S. electricity is made from many types of fuel, most of them from domestic sources, every auto propelled by electric power reduces the demand for imported oil. The development of lower-carbon transportation options could provide as much as $120 billion in consumer benefits by 2030. With electric transport products about to take off, the power industry must prepare for a role it has never played before: bolstering our energy security by supplying power to an electrified transport fleet.
Climate change in particular poses an extraordinary challenge for the business of delivering electricity. Most policies under discussion call for U.S. greenhouse gas reductions of 80% by 2050—well within the lifespan of many power plants operating today. The latest science suggests even steeper cuts may be necessary. To achieve this objective, the industry will have to make massive changes in its fuel sources and generating plants at a wholly unprecedented pace. A system of nearly one million megawatts, operating mainly on fossil fuels, will require a trillion-dollar retooling in the span of the next several decades. In this massive reconstruction, the challenge is not simply one of swapping out old plants for new ones. Every change must be checked for its impact on reliability and integrated into the continuous reliability management of the entire region. In some cases, new transmission capacity will be needed, introducing a number of new questions and challenges.
The size and cost of the carbon reductions needed for a sound climate policy make greater energy efficiency an essential part of a sound climate policy. Energy efficiency is universally viewed as the best and cheapest means of reducing carbon emissions. But the power industry was designed to make and sell as much power as possible as cheaply as possible. Repurposing the industry to both sell and save electricity raises extremely difficult financial, regulatory, and managerial questions.
As the industry shifts its supply sources, builds transmission, and increases its energy efficiency efforts, the technologies at the core of its operations will shift dramatically. Over the next thirty years, the industry will adopt the so-called Smart Grid, and the architecture of the system will shift from one based exclusively on large sources and central control to one with many more smaller sources and decentralized intelligence. The Smart Grid will mark a total transformation of the industry's operating model—the first major architectural change since alternating current became the dominant system after the Chicago World's Fair in 1893.
As the industry adjusts to these technology and paradigm shifts, its viability requires that we change its financial and regulatory footings. Technology, economics, and environmental considerations have rendered the foundations of Insull's business model obsolete. Thanks to the Smart Grid, the massing of consumption will give way to individual control. The industry's scale effects have changed dramatically, though not entirely. Far from the gospel of consumption, we now sing the praises of greater energy productivity and sustainability. Regulation, Insull's fourth pillar, remains in a form that no longer serves our objectives.
The new electric power industry will have to be designed with three objectives in mind—creating a decentralized control paradigm, retooling the system for low-carbon supplies, and finding a business model that promotes much more efficiency. These imperatives together will define the future of power. A system and a business model that each took more than a century to evolve must be extensively retooled in the span of a few decades. Many of the technologies and institutions needed for the job are still being designed or tested. It is like rebuilding our entire airplane fleet, along with our runways and air traffic control system, while the planes are all up in the air filled with passengers.
This book explores the future of the power sector in three parts. Part 1 begins by looking at how the industry interacts with its customers, including the overall level of sales and how the shift in the industry's operations enabled by the so-called Smart Grid could revolutionize it. These new grid technologies will transform electric pricing and create enormous regulatory challenges, all with little or no growth in overall power sales. We examine these issues in the next five chapters.
In the second part of the book, Chapters 7 to 9, we turn to the supply side of the industry and the need to decarbonize our power sources. We'll consider the costs of, and tradeoffs between, large-scale power sources such as coal plants and small-scale power sources close to customers. As one might imagine, the transmission system plays a pivotal role in this discussion.
Part 3 turns to the question of how utilities can structure themselves to respond to all of these challenges and remain viable investor-owned firms. This is an especially difficult question, as the industry must finance hundreds of billions of dollars of investment and retool its operating paradigm without much of an increase in power sales for many years to come. The book concludes by showing how both the industry's current business model and its regulatory structure must undergo a radical redesign to pursue a new economic mission: to sell least-cost energy services, not larger amounts of kilowatt-hours.
While we might hope that an industry this important will always find a way to keep the lights on, the same could be said of a global financial sector that collapsed in mid-2008 with astonishing speed and momentous repercussions. Even within the power industry, a much smaller set of challenges ignited the California electricity crisis of 2000, bringing on rolling blackouts, bankruptcies, and billions of dollars in increased electricity costs. Getting it as right as we can is important—for our climate, our economy, and our safety and national security.CHAPTER 2
Deregulation, Past and Prologue
IN 1990, the future of the power industry could be summarized in a single word: deregulation. The majority of policymakers and academic experts largely agreed that the power generators should follow in the footsteps of airlines, telephone companies, natural gas suppliers, and trucking firms and use markets rather than regulators to set prices. A new breed of energy companies, led most visibly by Enron, had made a very profitable transition from regulated to deregulated natural gas companies. They were intent on replicating their success in the much larger electric industry.
Twenty years later the issues that absorb the industry—and that are the main subjects of this book—are climate change, energy efficiency, and the impacts of the Smart Grid. Whatever happened to deregulation? And what does this say about the future, when the industry grapples with enormous, unpredictable change?
As we are about to see, deregulation was oversold by its proponents and implemented abysmally by federal and state policymakers. Poor execution led to a crisis of epic proportion in California and a dismal track record in many other parts of the United States. While many of the problems with power markets have been fixed with much stronger oversight and better market designs, power markets still face thorny problems and a fair number of unhappy customers.
Of the twenty-three states that deregulated retail rates, at least eight have either suspended or scaled it back. Most of the remainder are reinstituting some form of governmental planning or oversight process. In a nationwide survey conducted in 2007, a majority of state regulators could not identify a successfully deregulated state, and about a third admitted they had serious plans to re-regulate their own. Even in England, where retail power deregulation has been most successful, the government is cautiously moving back toward greater utility oversight.
Most importantly, however, the nature and urgency of the problems facing the industry are not seen as problems that can be solved by less control over electric rates. Had the legacy of deregulation been different, policymakers might look to even greater scope for market forces. As we shall see, competition will unquestionably play a big role in the future power industry—but it will be in a form very different from Enron's vision of an electron market free-for-all.
The Industry's Tangled Structure
The economic and regulatory structure of the American power industry is a contraption only a lawyer could love. From the engineering standpoint, there are three vertical stages of production—generation, transmission, and distribution. Generators make the power in power plants, high-voltage lines transmit the power to substations in your neighborhood, and the small wires and equipment on the poles leading to your home or office are the distribution system. Electrons are created in the generator and flow through the grid into your appliances and lights. When a single company owns the entire system—from the generator to your meter—and sells you the power made in its generators, it is said to be vertically integrated.
Excerpted from Smart Power by Peter Fox-Penner. Copyright © 2010 Peter Fox-Penner. Excerpted by permission of ISLAND PRESS.
All rights reserved. No part of this excerpt may be reproduced or reprinted without permission in writing from the publisher.
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Table of Contents
Chapter 1. The First Electric Revolution
Chapter 2. Deregulation, Past and Prologue
PART I. The Smart Grid and Electricity Sales
Chapter 3. The New Paradigm
Chapter 4. Smart Electric Pricing
Chapter 5. The Regulatory Mountain
Chapter 6. The (Highly Uncertain) Future of Sales
PART II. Supply Side Challenges
Chapter 7. The Aluminum Sky
Chapter 8. The Great Power Shift
Chapter 9. Billion Dollar Bets
PART III. Business Models for the New Utility Industry
Chapter 10. Energy Efficiency: The Buck Stops Where?
Chapter 11. Two and a Half Business Models
Chapter 12. The Smart Integrator
Chapter 13. The Energy Services Utility
Technical Appendix A
Technical Appendix B
Technical Appendix C