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XIII. Pricing Energy Services

(originally published February 19, 2008)

The events of December when the US Congress dropped an extension of the existing tax credits for renewable energy from the 2007 energy bill have highlighted the need for the renewable energy industry to take a different tack in the area of policy support and marketing strategy. The importance of support for renewable energy is key, as tax breaks have stimulated investment in wind, solar, and geothermal energy in the years that they have been in force, yet there is a dramatic fall-off in new project starts when the tax credits have elapsed in 2000, 2002, and 2004. The current tax credits may be revived but their spotty, on-again, off-again history points to a fundamental problem of a lack of consistent, dependable support for renewable energy in the US. The tax credits were fairly easy to cut because they are a relatively indirect subsidy, though the oil and gas industry with a much stronger lobby also have benefited from indirect (and direct) subsidies. The more indirect the subsidy, the more difficult it is to build public support for re-instating that subsidy and the more dependent on the informal power of lobbying. In the instance of the 2007 energy bill, the oil and gas companies won one more round, even though these large energy conglomerates have started to develop side-lines in renewable energy.

The “Cheap Energy Contract”, the society-wide social and political contract that is still in effect in the US and Canada, makes both overt and hidden subsidy a necessity. In the age when oil and natural gas was “easy” and geopolitical strains had not yet emerged around Middle Eastern oil reserves, subsidy to oil and gas companies may have been welcome to those companies but probably not necessary. Now, with skyrocketing global demand for energy, oil and gas subsidies reduce risk for Big Oil, allowing for record profits to continue to roll in while oil prices remain high but still not yet at politically unacceptable levels. Soon the guarantee of cheap energy may no longer be able to be sustained with oil and gas, if market forces push the price of these resources still higher. The Iraq war can be taken partially or in its entire financial and human cost as a failed attempt at an oil subsidy, as it is unlikely that the war would have been started if Iraq did not sit on top of some of the largest oil deposits.

Those who insist on a “free” totally unregulated and unsubsidized market in energy believe, but have never demonstrated, that energy would be less expensive without government intervention or aid. Of course, some government subsidies go directly to a private company’s bottom line but a) our economy is based largely on the profit motive so this would apply as well to the oil industry and b) the services or funds that government provides would cost these private firms a lot more on the private market and therefore would lead to still higher oil prices. The low price of fossil energy subsidizes our most important commodities including food; the recent hike in food prices is partly attributable to rises in energy costs. Presidents Bush and Reagan never seem to have allowed their championing of unregulated markets to interfere with oil subsidies.

Energy and Human Use

Fundamentally, for human beings, there are two types of energy: energy that people can eat and energy that people don’t or can’t eat. Analysts of the social aspects of energy distinguish between exosomatic and endosomatic energy: endosomatic energy is what people can eat while exosomatic energy is the energy that is used outside the human body, either by work animals or machines to achieve some desired end. (“Somatic” = relating to the human body; “endo”= inside; “exo”=outside).

We use the word “energy use” in modern societies to refer to exosomatic energy use. There is a pretty tight correlation between the level of economic development and the amount of exosomatic energy used: for instance, the richest country in the Western Hemisphere, the U.S., uses about 30 times more energy per capita than Haiti, the poorest country. While there are satiation mechanisms for endosomatic energy which most of us have from birth (we stop eating when we are full), we have no internal limit with regard to the use of exosomatic energy. This lack of an internal limit on the use of exosomatic energy has not become a major issue for us until we came to recognize in the last couple decades the relationship of fossil energy use with climate change.

As mentioned in the post in this series on the electric farm, exosomatic energy use enables a geometric increase in the power to do work that individuals can exert. In agriculture, the use of fossil-fueled tractors and harvesters, enables a single farm worker to support 40-50 people in the US with food when at most a single worker in agriculture might be able to feed just a few people on his or her muscle power alone. A driver of a massive off-road diesel dump truck like those used in mining can carry more ore in a day than perhaps a few thousand people could. The electronic tools of the Internet, fueled by numerous power plants, allow an individual to communicate simultaneously with thousands or even millions of others within a few minutes. As Tad Patzek has observed, excess exosomatic energy can turn any of us into an everyday superhero, which is for many of us, an attractive prospect.

The Low Valuation of Energy

If (exosomatic) energy, in combination with technologies that can convert that energy to useful work, turns us into superheroes, wouldn’t this be a highly valued product?

As it turns out, not so much, as being a “superhero” is part of the expectation of our working and home lives in developed countries. Furthermore it is usually the energy conversion technology that gets all the glory, the car, the train, the mobile phone, rather than the energy resource itself. Energy use is not the focus of the activities we do: we don’t say “oh goody! I’m using a whole bunch of energy now!” Something like 80% of exosomatic energy in the societies of the world comes from fossil sources. Cheap fossil energy subsidizes all other activities in advanced societies. We expect to be able to travel at many times walking speed and to do lots of work with little effort on our part. Furthermore, most crucially, the price and availability of the endosomatic energy that we need, food, is highly dependent on energy; so of necessity all non-agricultural economic activity is dependent on the low cost of energy.

Energy then is part of the “frame” of economic activity and even more than that the “frame” of the frame of economic activity (enables plentiful, affordable, and varied endosomatic food energy which frames all economic activity). Just as we don’t pay much attention to the frame of a picture, most of us don’t pay much attention to energy. As an example, at this moment I am not paying attention to the electricity being consumed by my computer but instead focusing on the words I am writing. I am also not hesitating to go back and revise or rewrite something (I don’t blog in stream of consciousness…sorry) for fear of using more energy, the attitude of most computer users. In contrast to electricity, petroleum prices in the US are now at levels where obliviousness to the cost of energy is no longer as common as it once was.

High Per Capita Energy Use and Social Inequality

One of the byproducts of the North American way of using and valuing energy is that the lifestyles of a majority of the population are highly dependent on cheap energy. People can live in larger houses with larger yards if they are able to travel longer distances for less money; they can also afford to heat and cool them using the relatively inefficient devices and methods in our current building stock. Long commutes are a burden of those residents of high cost urban areas with moderate means who wish to own homes. Rural life in widely dispersed farms and farm towns is viable and bearable because of very high levels of petroleum use and the readiness to travel hundreds of miles on a regular basis. In addition to work, what many of us do for fun and leisure often is highly dependent upon petroleum or cheap electricity (monster trucks, airplane flights, power boats, game consoles, computers, plasma TVs). Partial exceptions to this style of life can be found in the highly concentrated urban areas of the Eastern Seaboard, though immediately adjacent are suburban areas where high per capita energy use is typical. Furthermore cultural and real estate trends are now placing a higher value upon urban living, pushing the middle classes and poor out of the most vital urban areas to the suburban and exurban periphery, and more dependence upon cheap energy.

It is no wonder that energy pricing is politically sensitive though most policymakers favor moves that attempt to minimize energy costs over the short term rather than provide long-term solutions.

The Ethical Valuation of Energy post Carbon

In contrast to the low economic valuation of energy, the discovery of the negative externalities associated with fossil fuel use, i.e. carbon emissions and warming, have led to energy use becoming one of the key political and ethical issues of this new century. Now the avoidance of using fossil energy and the installation of renewable energy generators has developed a high moral valuation. Crudely stated, there is now “good” and “bad” energy use. While this valuation is subjective, it is very widely held and has inspired numerous pricing mechanisms that either tax fossil fuel use or increase the revenue accorded clean energy as a way to promote the expansion of renewables. Carbon trading markets have arisen as a means of instantiating and, with legal backing, enforcing this moral valuation in the arena of economic exchange.

The newness of the higher valuation of energy use, in the negative, has not yet led to cultural attitudes in the West that show a positive respect for energy use. We do not yet treat gasoline or electricity as precious, nor have we developed the analogue of cultural rituals that show respect for material and natural bounty that one finds in less industrialized cultures or in our own religious observances before eating food.

The Culture of Energy Efficiency and Energy Conservation

We have found at least a partial substitute for cultural rituals that re-value energy or high energy prices in the movement towards greater energy efficiency and energy conservation that has grown in fits and starts since the 1973 Oil Crisis. In the United States, California has been the standard bearer, with state policies since the late 1970’s that at least in the electricity and natural gas sectors have made energy efficiency a requirement and a revenue center for utilities.

While energy remains somewhat cheap, energy efficiency has again become a virtue as well as a way to save money as concern about global warming grows and carbon pricing is anticipated. Cultures with higher energy costs have already built some degree of energy efficiency into their building and transport systems, but the moral valuation of energy efficiency may lead to more aggressive, pre-emptive moves to cut energy costs.

Analysts usually distinguish energy efficiency that involves installing devices that do the same work using less energy, and energy conservation, which means altering end use activities to save energy. For a time, in the 1980’s and 1990’s in areas without binding laws or high energy prices, energy conservation fell out of favor, though now cultural re-valuation in the shadow of global warming has led to an “up-valuation” of energy conservation in our cultures. Large energy users are increasingly being paid to become involved in demand response programs in the overburdened electrical system where energy use is turned down in response to system demands or automatically via pricing signals. Energy conservation is an attempt to invent something analogous to a satiation mechanism for our use of exosomatic energy.

The Sustainability Criterion

In addition to carbon emissions, in the last couple decades sustainable use of energy resources has also emerged as a value. To use energy in way that doesn’t draw from exhaustible resources or endanger the livelihood of future generations is a new and fairly rigorous criterion. Renewable energy, of course, is supposed to satisfy this criterion, while nuclear energy does not.

Energy: Commodity or Segmented Market?

Until the emergence of concern about carbon emissions and sustainability, energy has been viewed as a commodity, i.e. a good of low, uniform value affordable by most consumers. The opposite of a commodity market is a segmented market, which can contain commodity products at the low end, branded mass produced products, and customized products and one-offs, some of them handmade. The latter types of products can sometimes be “premium” products that can command larger sums for their greater quality or functionality. The uniformity of energy products has additional usefulness in that it adds value to end use devices that can be used across a broader range of situations. Electricity and crude oil have been treated as commodities though refined petroleum products allow some limited differentiation and branding. Now, there is an emerging trend towards a segmented market, as energy is being divided into “clean” and “dirty”, “sustainable” and “unsustainable” energies.

As this series focuses on electricity, the new differentiation among types of energy refers to differences between electric generators and not between energy carriers: we are still dealing with electricity of a particular voltage, frequency, etc that drives the same machinery for the end users/buyers. While historically pricing and valuation of electricity did not include consideration of sustainability or environmental impacts, we are rapidly working on ways where these impacts are put into the value equation.

If one generates electricity using a sustainable, clean method, does one then have a premium product or simply an expensive means of generating the same commodity? By avoiding negative externalities in the present (carbon emissions) and creating a sustainable technology (benefit to future generations), while generating electricity, greater social benefit is created. By creating a premium product out of this type of generation, a portion of this greater benefit can be recognized by and compensated for in a higher price.

There are currently two methods of segmenting the electricity market in favor of renewables as premium products, one focused on the retail end and the other on the wholesale end. On the retail end, Green Power Marketing is a largely voluntary system that creates a parallel market to the conventional market for electricity. Each MWh of cleanly generated electricity is issued a Renewable Energy Certificate or REC, which can be traded and sold to those who want to support or are required to support renewable power generation. Renewable Portfolio Standards for utilities create a market for RECs, as do carbon offset programs and voluntary Green Power purchases by ethically motivated individuals and organizations. REC markets and RPS policies are the renewable energy programs found in most of the United States, some European countries.

Segmenting the wholesale markets, some countries and regions have implemented feed-in tariffs that set a menu of premium wholesale rates for renewable energy generators, that allow for recovery of costs plus a reasonable profit. Feed-in tariffs are tailored to specific technologies and are meant to allow renewable technology companies to gain economies of scale by stimulating market demand for their technologies. Feed-in tariffs mix in with existing electric rates, leading to increases of a few percent a year in the total cost of electricity. Implemented most successfully in Germany and Spain, feed in tariffs have been the most decisive instruments to spur the increase of renewable electric generation as they are simple and reduce finance costs and project risk. Feed in tariff laws are now being considered in Michigan, Minnesota, and California, which already has a very limited feed in law on the books.

Future of Valuing and Pricing Energy

If we are serious about reducing greenhouse gas emissions and developing a sustainable energy system, we will need to both increase our energy efficiency by a large factor and also switch over from fossil to renewable generators at a fairly rapid pace. Placing a higher value on energy, either planfully or forced by necessity when fossil fuel prices rise, is the most likely route to building a clean energy system for ourselves and future generations. A segmentation, either at the retail or the wholesale end (or both) will help drive economic actors towards making the investments and purchasing decisions that favor cleaner, more sustainable energy over the fossil energy that is still the norm. This “New Energy Contract” is yet to be written but it will be no doubt a topic of discussion for years and decades to come.


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