Last week the Senate Environment and Natural Resources Committee held hearings on the Clean Energy Standard Act of 2012, a bill introduced by Senator Bingaman (D-NM) along with several co-sponsors. The bill was endorsed by the Washington Post in a recent on-line editorial. There is much to like about the proposal, but our analysis shows it may have some unintended consequences.
First, a bit about how a clean energy standard (CES) works. The bill would require that a minimum percentage of the electricity sold in the US be generated using clean energy sources: renewables, new nuclear power and even natural gas (credited at a lower rate). This minimum percentage rises over time reaching 84 percent by 2035. Generators receive tradable credits for each megawatt-hour (MWh) of clean energy they produce—but retail utilities ultimately must comply with the standard by showing they hold enough credits. The bill is expected to reduce CO2 emissions from electricity substantially, with annual reductions reaching 41 percent of baseline emissions by 2035.
While it is fairly comprehensive on the generation technology front, the bill exempts sales by small utilities. This exemption could have important consequences that may not have been fully anticipated by the policy makers.
How does the small utility exemption work? At the start of the program in 2016, utilities that have sales below 2 million MWh do not have to comply with the clean energy standard. Over time the threshold for exemption falls by 100,000 MWh per year until it stabilizes at 1 million MWh per year from 2025 on. According to our estimates, roughly 17 percent of electricity sales are expected to be exempt in 2016 and roughly 13 percent from 2025 on.
Exempt small utilities benefit from this exclusion in a couple of ways. First, they do not have to purchase clean energy credits, while other utilities must do so in increasing amounts and at increasingly higher prices over time. Second, they will pay lower and lower prices over time for the electricity they buy in wholesale energy markets. The reason wholesale prices fall is that under the policy generators whose electricity qualifies as clean have two potential sources of revenue: sales of electricity and sales of clean energy credits. As the clean energy requirement increases, qualified generators will earn a growing share of their revenues from clean energy credit sales and thus will be willing to sell the associated electricity for less.
Our analysis suggests that by 2035, on average retail electricity prices for the small exempt utilities would be half those for utilities that must comply with the CES policy. In some regions of the country the price advantage of being exempt will be even larger. This substantial retail price gap creates an incentive for new small utilities to emerge to avoid the costs of complying with the policy. For example, groups of geographically clustered electricity customers, such as small cities or towns, could decide to form their own small municipal utility to take advantage of the lower electricity prices.
If this municipalization phenomenon took hold it could take a bite out of the environmental benefits of the clean energy standard. This feature of the bill deserves a second look.
Ed: Karen Palmer testified before the Senate Committee on Energy and Natural Resources on the bill last Thursday. Read her testimony here.
