Regulation, Renewable Energy, and Energy Efficiency

An important set of environmental issues facing energy sector regulators involves renewable energy (RE) and energy efficiency (EE).  Public policy determines the extent to which renewables are to be incorporated into a developing (or developed) country’s generation mix. Energy sector regulators implement that policy—thus affecting the pace and pattern of RE investments and connections to the grid. New regulatory RE objectives specified in legislation are likely to require the agency to balance fundamental goals of affordability, cost recovery (for sustainable utility operations), and fairness (since implicit cross-subsidies may be required to meet new policy mandates).

Energy regulators often have authority to carry out a number of functions that have implications for the financial feasibility of renewable energy projects.   Such functions include issuing licenses, setting performance standards, monitoring the performance of regulated firms, determining the price level and structure of tariffs,  establishing uniform systems of accounts, arbitrating stakeholder disputes, performing management audits, developing agency human resources (expertise), reporting sector and commission activities to government authorities, and coordinating decisions with other government agencies.  Thus, regulators make a wide range of decisions that affect the financial outcomes associated with RE investments. In addition, the sector regulator is in a position to give advice to the government regarding the full implications of focusing on climate change or energy security. The energy sector regulator is the natural advocate for efficiency and cost-containment throughout the process of designing and implementing RE policies.  Since policies are not self-implementing, energy sector regulators become a key facilitator (or blocker) of renewables in developing nations.

While market failures might justify government playing a role in RE and EE, there is also the possibility of government failure, as when energy efficiency initiatives are the result of special interest lobbying that benefit one set of stakeholders but results in cost burdens being met other stakeholders, raising questions of fairness.  In addition, the benefits might not exceed the costs of particular programs; this possibility raises the question of efficiency.

There are two broad sets of instruments for reducing emissions or promoting RE; setting prices or quantities.  The basic issue involves how to deal with the uncertainty regarding compliance costs for reducing emissions (or for reducing kWh consumption).  When a price is set, as in the form of a tax on emissions, utilities will reduce emissions up to the point where the additional costs of compliance equals the tax.  The utility would not spend money on reducing emissions when it is less expensive to pay the tax.  However, the outcome is not known in advance, since policy-makers are not sure about the cost of compliance.  On the other hand, quantity controls (limiting emissions by mandating targets) are generally handled via tradable permits or quotas that establish the targets without knowing the marginal cost of meeting the target.  Utilities are issued a permit allowing them to emit a particular quantity.  The target can be met by reducing their own emissions or from buying “permits” or certificates from utilities that find it relatively inexpensive to meet their targets. Such utilities reduce emissions more than required, and so they have permits they can sell.  Thus, the quantity targets are met, but policy-makers do not know the marginal cost of meeting the targets in advance.    Tools for achieving RE targets include Feed-in Tariffs, Net-metering, Renewable Portfolio Standards, purchase power agreements, and central procurement via energy auctions—to list a few.  More are identified in the References and the FAQs associated with RE/EE.

RE represents a supply-side intervention, and EE represents demand-side management.  In general, the regulator will have a less direct role in EE than in RE initiatives, since the latter primarily involve adjustments by customers.  However, EE basically promotes energy conservation—which means that programs impact utility costs (directly through program costs and changes in production patterns) and revenues.  There are a number of tools available to regulators for promoting demand-side initiatives in support of conservation and EE, including utility-based information/education programs, improvements in load patterns, reductions in line losses, improvements in metering, and extensive utility energy audits—promoting conservation.   Regulators would focus on utility-based EE initiatives, to ensure that outlays are prudent and cost-effective.  Other agencies might focus on building codes, appliance standards, and subsidies for EE activities.  In countries where there are energy shortages (and rationing), EE increases system reliability—improving the quality of service experienced by customers. Thus, the role of regulators primarily involves providing technical input into the development of EE policies initiated by other agencies or via legislated tax programs.  However, EE and conservation programs incentivized by the utility must be approved and monitored by the regulator to ensure that the programs are well-designed and that they meet the objectives of the enabling legislation.


FAQs on Renewable Energy and Energy Efficiency

Isabel Bjork, Catherine Connors, Thomas Welch, Deborah Shaw, William Hewitt (2011). Encouraging Renewable Energy Development: A Handbook for International Energy Regulators, prepared by Pierce Atwood LLP for NARUC, with USAID funding.  January, pp.  vii-138.

International Confederation of Utility Regulators (2010), A Description of Current Regulatory Practices for the Promotion of Energy Efficiency, (June 21), 1-180.