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Regulation authorities should determine the allowed revenues of energy companies that are either natural monopolies (mainly grid companies) or are granted a monopoly of supply, such that they earn more by improving their customers’ end-use energy efficiency and not by increased energy consumption. To this end, one important element is cost recovery for energy efficiency programmes that reduce customers’ energy bills. Just as important an element is that annual revenues allowed by the regulator to the companies should not, or only to a very small extent, be based on the volume of energy or power sold or transported. By contrast, regulators should mandate that energy bills to final consumers should depend on the volume of energy or power delivered as much as possible. This will provide an adequate incentive to save energy or power.
Energy companies often earn higher revenues and profits when generating, transporting, and selling more energy. In that case, they will often loose money when their final customers save energy, be it on their own, through policy, or even through demand-side management or energy efficiency programmes by the energy companies themselves. The companies will then have a strong disincentive to run such programmes (as the photograph visualises), even if they significantly reduce their customers’ and the nation’s energy bills and total costs.Such situations may be less common in developing and emerging economy countries, in which there is high growth in energy demand, and thus, investing in cheap energy efficiency avoids or defers high costs the for expansion of grids and power plants. Still, it will depend on the regulation of such investments, whether there is an economic incentive or disincentive for energy companies to invest in energy end-use efficiency, e.g. in buildings, or whether they earn more by investing in power plants and networks. If the latter is the case, it will be a market distortion that should be removed.Regulation authorities should therefore determine the allowed revenues of energy companies that are natural monopolies (mainly grid companies) or granted a monopoly of supply in such a way that they earn more by improving their customers’ end-use energy efficiency and not by increased energy consumption.
The aim of this type of measure is that regulated energy companies should earn more by improving their customers’ end-use energy efficiency and not by increased energy consumption. Regulation authorities should therefore determine the allowed revenues of energy companies that are natural monopolies (mainly grid companies) or granted a monopoly of supply in such a way that this aim is achieved. The energy companies will thus be enabled to implement energy efficiency programmes that assist their customers with all kinds of energy efficiency improvements.
Worldwide implementation status
Many countries in the world have already modified their energy price or network tariff regulation to provide better incentives for energy end-use efficiency to the regulated energy companies. Very often, decoupling of revenues from energy sales or transport is found in restructured electricity and gas markets. Cost recovery for energy efficiency programmes is usually linked to energy efficiency obligations for the energy companies.
Among the many countries or states in the world that have already modified their energy price or network tariff regulation to provide better incentives for energy end-use efficiency to the regulated energy companies during the last 30 years are California (USA) (www.bigee.net/s/53m2ny; e.g., www.bigee.net/s/w3pphw), Italy (www.bigee.net/s/jtg7ky), and the United Kingdom (www.bigee.net/s/v15q41). Brazil also has an explicit funding and cost recovery mechanism for energy efficiency programmes, but no decoupling of energy company revenues from energy sales.
As regulation of the prices or revenues of energy companies is usually exerted at the national or regional level, this type of policy will also be implemented at these levels of governance.
As this policy aims at a general change in incentives to energy companies, in principle all energy end-use sectors can benefit from it.
For the direct beneficiaries, i.e. the energy companies, the policy addresses the barrier, created by conventional price regulation, that they earn more by increased energy consumption.
Since energy companies usually assist their customers with energy efficiency programmes combining information and financial incentives, these programmes mainly address the following barriers:
Adapting the regulation of energy companies to remove disincentives for energy efficiency and to enable them to increase, or at least, not reduce their profits when operating energy efficiency programmes is most important in combination with energy saving obligations for energy companies.
However, particularly the decoupling of revenues from energy volumes will also benefit all other policies and measures for energy efficiency as it will remove a reason for the energy companies to lobby against them.
In general, governments need to assess and decide which energy efficiency potentials and end-use actions they want to address through energy companies’ programmes, or alternatively, through an energy efficiency fund or through programmes directly offered and funded by the government. This will also depend on the general performance of energy companies and the regulator.
An important structural pre-condition necessary to implement the policy is (1) to have a price or revenue regulation of energy companies in place, and (2) a rule or legislation that the regulatory practice shall, (a) allow cost recovery of expenses, or mandate a maximum energy price adder for energy efficiency programmes that reduce customers’ total energy service bills for energy plus energy efficiency; (b) base energy company revenues on multiple drivers and thus decouple profits from the volume of energy sales or transport; and if possible (c) offer a bonus for energy savings that reduce customers’ total energy service bills.
Agencies or other actors responsible for implementation
Design of such regulatory changes will normally be the task of government and legislation, while the regulatory authorities will be responsible for implementation.
Funding can either be provided via the energy prices and tariffs, since it will also be the energy consumers benefitting from the energy savings.
An alternative source of programme cost recovery for developing countries and emerging economies could be climate finance, such as Programmes of Activities (PoA) under the Clean Development Mechanism (CDM) or Nationally Appropriate Mitigation Actions (NAMAs).
In order to prove that the energy companies’ programmes are effective in saving energy and cost-effective in reducing customers’ total energy service bills, agreed, reliable, and standardised methods for calculating savings, economic benefits, and costs need to be developed and used. An example is California’s standard practice methods. See also the part on monitoring and evaluation in the bigEE document “How to design and implement energy efficiency policies”.
The first step should be to analyse the current practice of revenue or price regulation as well as investment regulation in place in the country. It should determine what the incentives or disincentives are for energy companies to invest in energy efficiency as compared with investment in, and operation of, power plants and energy grids, and selling more energy to their customers.
If the results show that energy companies earn more by selling more energy and / or earn less by implementing energy efficiency programmes, the government should assess possible changes in regulation such as those discussed here to reverse this situation – make energy efficiency more profitable than expansion of energy supply.
If the assessment proves potential benefits, then the above-mentioned preconditions for implementation should be created. Implementation could start with pilot projects to collect experience on (cost-) effectiveness and increase trust in the overall benefits of the regulatory changes.
Governments and legislators can set the quantitative target they want to achieve through energy company programmes. This requires knowledge of the overall and sectoral energy efficiency potentials and of the impact that is likely to be achieved with energy efficiency programmes. The target can also be mandated through an energy efficiency obligation to energy companies. It should be made consistent with the country’s overall energy efficiency targets and roadmap.
Co-operation of countries
Countries can co-operate by exchanging information and experience on principles as well as practical details, problems, and solutions to the problems of implementing such regulatory changes. The IEA’s DSM Implementing Agreement (www.bigee.net/s/k43h4p) is an example of such a co-operation.
For the energy efficiency programmes offered by the energy companies, the regulator should request documentation from the energy companies in order to evaluate cost-effectiveness and allow cost recovery. Random checks of the accuracy of the documentation may be useful.
For evaluation of energy savings, the documentation should cover the number of participants or beneficiaries, the energy efficiency actions they have taken (e.g., purchase of energy-efficient buildings), and the unitary gross energy savings achieved by each action (either via agreed deemed savings or ex ante agreed calculations, or via ex-post evaluations). For evaluating economic benefits and costs, energy companies need to provide evidence of their costs incurred separately for the programme design, administration, communication and evaluation costs and for any financial incentives. They must also provide the incremental part of the energy or power (kW) prices that the participants/beneficiaries would have paid for the energy or power they saved. Furthermore, incremental costs by the customers to invest in energy efficiency or operate their premises and equipment in an energy-efficient way need to be estimated via market monitoring or ex-post evaluation.
For the decoupling of revenues from energy volumes, documentation needs to include the actual values of revenues and all drivers included in the formula the regulator uses to determine allowed revenues.
In order to be credible, evaluation should be done by independent institutes or consultants and not by the energy companies themselves, but the costs can be included in the energy prices.
The possibilities and formulas for evaluating energy savings will depend on the type of energy efficiency action supported as well as the type of energy efficiency programme (e.g., programmes focussing only on provision of information are more difficult to evaluate than financial incentive programmes. See our detailed files on these types of policies and measures). The same holds for economic benefits and costs, from the perspective of either the customer/participant or that of the national economy/society. The USA particularly has a long-standing experience in evaluation methods.
In addition to the data directly monitored for the energy efficiency programmes, evaluation of net energy savings compared to baseline trends should address side-effects such as rebound, multiplier, and free-rider effects; and the ‘lifetime’ and potential deterioration of energy savings.
For the economic benefits from the perspective of the national economy/society, standard values for the incremental energy supply costs that will be avoided in the long run for a kWh of energy or a kW of load should be developed by the regulatory authority.
Regulators should also encourage the energy companies to promote sustainability aspects (like resource efficiency, health aspects, …), depending on the type of technology, solution, or action promoted.
All kinds of co-benefits (i.e. “non-energy benefits” such as health improvement, labour market effects etc.) may thus arise from implementing the regulatory changes discussed here.
The following barriers are possible during the implementation of the policy:
Often, the economic situation and especially the profits of even monopoly energy companies are not very transparent to the public. The changes in regulation discussed here may thus be seen as a threat by the companies due to increased transparency, or to reduced freedom of investment action. This is likely to lead to resistance to the changes from their side.
There may be a lack of data on energy efficiency potentials as well as incremental costs of energy efficiency vs. expansion of energy supply. In addition, there may be a lack of experience with energy efficiency programmes. This may delay implementation.
The regulating body may be understaffed or have little experience of the kind of regulatory action required.
The following measures can be undertaken to overcome the barriers:
It is, therefore, important to highlight the benefits to the country, the consumers, and also the regulated energy companies. The latter will be more easily convinced if the changes include a bonus to the energy companies for energy savings in addition to programme cost recovery.
Resources need to be provided for data collection and pilot testing. Co-operation with comparable countries that have more experience with regulation for energy efficiency and energy efficiency programmes may speed up the learning process.
The regulator should receive the necessary resources and should try to learn from other countries’ experiences.
Some of the most advanced countries or states that combine regulation of energy companies, for energy efficiency, with an energy efficiency obligation to save a certain amount of energy each year are California (USA), Massachusetts (USA), Denmark, New South Wales (Australia) and the United Kingdom. These have achieved additional energy savings compared to baseline trends equivalent to 1 to 1.5 % of total energy consumption, of the sectors addressed, with each year of running the schemes and programmes. Some are now setting even higher targets for the years ahead (RAP 2012).
The costs for the regulator are likely to be small. Staffing requirements for a number of EU countries range from a few to around 30 persons (Thomas 2007). This includes management of an energy efficiency obligation scheme.
The costs for the energy companies’ energy efficiency programmes depend on the type and target of programme, of course.
Experience in many countries shows that there is usually a very high net benefit from energy efficiency programmes run by energy companies: the total costs to society (programme expenses of the energy company plus incremental investments by its customers) are then much lower than the cost for expanding supply, avoided through saving energy. For example, in several EU countries, it often costs only 2 to 3 Eurocents to save a kWh of electricity (Thomas 2007; Lees 2012). This compares to a wholesale price for electricity alone between 5 and 7 Eurocents per kWh.
Clearly, the cost savings and the resulting net benefits to consumers and the society from the energy companies’ energy efficiency programmes will depend on the type and target of programme and the incremental costs of energy efficiency and energy supply in a country.
However, there will be a net benefit in any case if the regulator demands this as a condition for allowing cost recovery and a bonus.
Try the following external libraries:
|Energy Efficiency Policy Database of the IEA|
|The Building Energy Efficiency Policies database (BEEP)|
|Clean Energy Info Portal - reegle|