Until very recently, common wisdom held that the price of renewable energy would fall as legislative procurement mandates ensured its long-term demand. The resulting growth in supply and sales would spur investment in the field, create economies of scale, and accelerate progress down the technology learning curve.
Something unexpected, however, happened along the way. Though more than half of U.S. states have adopted renewable portfolio standards (RPS) that require utilities to meet specific generation targets, and investment in green projects and technology development has increased significantly, recent data suggest that the price of green electricity has risen and will continue to spiral upward. What happened?
The curse of the visible hand
The economic Achilles heel of current state RPS programs is that they carve out a portion of the larger energy market and unbalance it by imposing legislatively determined demand. In the pre-RPS era, utilities aligned their resource planning with demand forecasts largely irrespective of generating technology. Procurement decisions were based primarily on need, price, and “fit” (dispatchability and “black start” capability). As a result, coal, gas-fired, nuclear, hydro, and renewable energy plants competed against each other for a piece of the utility demand pie. The overall market benefited from the increased competition, which—to some extent—also provided a hedge against raising fuel costs. For instance, if biomass prices rose, utilities could procure more gas-fired generation.
In stark contrast, the RPS regime mandates specific renewable procurement targets, generally a percentage of a utility’s overall load. Legislatively imposed capacity targets—and penalties for failing to meet them—often obligate market participants to subordinate their own (and their customers’) economic interests to the desires of states. Utilities must purchase RPS-compliant power even if its price cannot otherwise be justified. The economic consequences for utilities seeking to be RPS-compliant include higher costs for facility sites, fuel, and generating equipment.
Moreover, although in theory there is competition among different renewable technologies, external forces (such as siting and transmission constraints) effectively limit the availability of resources that can meet a utility’s needs—as well as the benefits that competition can provide consumers. Legislative directives that artificially increase demand will also increase prices when supply cannot keep pace. The net result is a skewed market in which power produced from renewable resources commands a price premium just for being “green,” irrespective of the benefits of the project that generated it.
Upward price pressure on RPS-compliant power is further sustained by fast-approaching RPS compliance deadlines. In California, for example, utilities are currently scrambling to procure significant amounts of renewable resources in order to meet the state’s 20% target by 2010. In such a market, rising prices should be no surprise: Prices rise when demand exceeds supply, regardless of the reasons for the imbalance.
In economic theory, competition enables markets to respond with an “invisible hand.” When the movements of a market are precipitated by government fiat, they are subject to a visible and very heavy hand.
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