Is Electricity Pricing Different from “Real Markets”? Should It Be?

“No company in a real market would ever price that way.”  If you’ve discussed electricity pricing much, you’ve surely heard this said by a person opposed to one retail tariff or another.  In almost every instance, however, the claim is both incorrect and irrelevant.

Incorrect, because firms in unregulated markets are constantly experimenting with the pricing.  Whether it’s fixed charges, increasing-block pricing, decreasing-block pricing, demand charges, or even exit fees, there is something analogous in the unregulated economy.

Irrelevant, because the structure of providing grid services – a monopolist grid operator that has to assure second-by-second network-wide balancing across all transactions — has no analog in the unregulated sectors. We’ll get back to relevance.

But first how about a fun game of Name That Market Pricing Practice?

I give you the electricity price structure and you come up with the unregulated market that has a similar pricing model.  But don’t peek at the line below each structure where my suggested answers are.

We’ll start with an easy one.

Fixed Charges: 

The view that a consumer should have to pay only for the bits s/he uses is common.  But so is pricing that violates it.  There are the print and web-based media companies that charge a fixed subscription fee to read as much or as little as you like.  Amazon Prime shipping (and other services bundled with it) carrier a single fixed annual fee.   Rental car markets are generally a fixed daily charge with some free mileage, and usually a charge for additional miles beyond that.  The Zipcar model is a fixed annual fee plus a per-hour charge.  Gyms charge for membership that covers some basic activities, but then charge extra for certain classes, training or other add-ons.

Easy and fun, huh? Ok, how about a slightly more challenging one?

RealElectricityMarkets1Exit fees:

Cell phone contracts were the obvious example, but those contracts are changing.  Markets evolve.  But not always in the same direction.  Try paying off your mortgage early and you are likely to be hit with a pre-payment penalty, that is, an exit fee.  Cable television, internet service, and home security services all have exit fees.  Many students in business or law school have some part of their tuition paid by their employer, but if they don’t return to work for that company for X years they have to pay back the tuition subsidy when they exit.

RealElectricityMarkets2

Now for something tougher.

Increasing-Block Pricing (the price for additional units of a good rises as you buy more):

The fare to fly San Francisco to Boston may be $600 if you want 31 inches of legroom, but if you want 34 inches, about 10% more legroom (and no extra pretzels or luggage), that will be an extra $200.  The practice is simple price discrimination; the people who most value the extra legroom have a higher willingness to pay overall.   Sign up for Dropbox and they will give you 2 Gb of storage for free.  If you want more, you’ll have to pay.  That additional charge for rental car mileage beyond the bundle miles is increasing-block pricing.

RealElectricityMarkets3

In case that wore you out, here are a few softballs.

Decreasing-Block Pricing (the price for additional units of a good declines as you buy more):  

Too many example to list here.  Any quantity discount.

Minimum Bills:

Call a plumber or an electrician and the first hour is likely included in the $100+ charge for showing up. If they can fix your problem in 20 minutes, you still pay the minimum bill.  Many restaurants have a minimum charge per person.

Time-Varying Pricing:  

Ski resorts (cost more on weekends), Uber (surge pricing), strawberries (by season), theater tickets (cost more on weekends), baseball tickets (many teams charge more for big games), restaurants (lunch vs. dinner, and day of week at some).   It’s hard to get through a day without paying a price that varies with time.  And to the person who said “those aren’t necessities, like electricity”, take a look at housing in a college town, where rents drop in May and rise in August.

 

Have you caught your breath?  Ready to stretch your brain?

Demand Charges (a fee based on the customer’s highest rate of usage during a period):

For the most part, demand charges are just highly imperfect approximations to time-varying pricing.  This has become more clear with the many recent proposals for “demand charges” that apply only to specific time blocks.  They may be simpler than true dynamic pricing, though I’ve argued they probably aren’t in most cases, but they are usually attempting to price the same variation.  So, many of the answers to time-varying pricing apply here.  But there is at least one interesting example of something close to a classic demand charge, really intended to price customer-specific peak usage: cloud computing charges, such as Amazon’s server pricing, where the charge increases to account for a period of heavy demand for a company’s server.

In fact, buried in the many server payment options Amazon offers are examples of practically every type of pricing you can imagine.

And to finish up, how about the ultimate challenge?

Net metering – (a customer delivering electricity to the grid is credited at the same rate they are charged when they take electricity from the grid):  

OK, on this one, I’m pretty stumped. Some colleagues and I spent part of a long car ride last week trying to think of a market in which a seller of a good buys units of that same good from small retail customers and pays them the retail price.  The closest we could come up with is a customer buying items from store A and then returning them to store B for full retail price by claiming they were bought at store B.   Hmmm…not a great model.

 

You may have noticed that many of these real market pricing policies are very unpopular with customers.  In real markets firms occasionally exercise market power, charge more to a customer who really needs the product, take advantage of consumer misinformation or myopia, or just make a lot of money by selling something that has become very scarce.

Nearly everyone hates the exit fees on cable contracts and the exorbitant charges for a little more legroom on a long flight.  Many people bristle at having to pay for all the cable channels when they only watch a few of them, or paying a monthly gym membership fee, at least once they’ve discovered they really aren’t going to be there every morning at 6am.  And resistance to the rents in Bay Area and other housing markets is spurring new policies to make these less like real markets.  So, while there are real market analogs to nearly all electricity pricing models, that is hardly a justification for using them in a regulated setting.

Likewise, the absence of a close market analogy isn’t an argument against an approach.   Delivering electricity is not like services that are sold in real markets.  The transmission and distribution grids are natural monopolies, where it is more efficient to have one system used by all, rather than every seller building their own set of wires to deliver their own electricity.  And customers want the reliability value of that pooled network, which enables one generating source to instantaneously fill in for another if a gas plant suddenly shuts down, or a cloud passes over solar panels, or the wind stops blowing, or a tree falls on a transmission line.

But what makes a natural monopoly natural is that the cost of adding one more customer is lower than the overall average cost per customer.  That means that the attractive notion of cost causality – that Joe Bob Customer is responsible only for the costs that are caused by adding him to the grid – won’t generate enough total revenue to pay for the whole system.   Somebody has to pay more to cover the costs.  The array of prices that policy makers, utilities, and other interested parties have cooked up are an attempt to cover costs, follow cost causality, be fair to customers, help lower-income households, and be environmentally friendly, among other goals.

In real markets, companies cook up pricing to maximize profits and…that’s it.  There are many things done by the government, or under government regulation, that wouldn’t be financed the same way, or possibly done at all, in the private sector: national defense, local policing, disease control, environmental protection, free K-12 education, and consumer protection to name just a few.  Some private sector ideas can be very valuably applied in these area, but almost no one would say that the fundamental organization of these activities should be driven by a private-sector model.

So, let’s continue debating the pros and cons of the pricing alternatives in the rapidly-changing electricity world, but let’s do it without pretending that “real companies don’t price that way” is a useful contribution to the discussion.  Whatever the model, there is likely some real company that does price that way, but who cares.

Tweet me your “real market” analogs of electricity pricing @BorensteinS

About Severin Borenstein

Severin Borenstein is E.T. Grether Professor of Business Administration and Public Policy at the Haas School of Business. He has published extensively on the oil and gasoline industries, electricity markets and pricing greenhouse gases. His current research projects include the economics of renewable energy, economic policies for reducing greenhouse gases, and alternative models of retail electricity pricing. In 2012-13, he served on the Emissions Market Assessment Committee that advised the California Air Resources Board on the operation of California’s Cap and Trade market for greenhouse gases. Currently, he chairs the California Energy Commission's Petroleum Market Advisory Committee and is a member of the Bay Area Air Quality Management District's Advisory Council.
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40 Responses to Is Electricity Pricing Different from “Real Markets”? Should It Be?

  1. Pingback: Is Electricity Pricing Different from “Real Markets”? Should It Be? - Berkeley-Haas Insights

  2. The only analogy I can think of for net metering is the skate and cleat exchanges that I recall existed in my town when I was a child. Children outgrow their hockey skates and soccer cleats faster than they can wear them out. The Parent-Teacher Association or some other charitable organization in my town operated an exchange at the start of each athletic season so that parents would be able to buy used equipment and sell their own used equipment. I do not recall how the pricing worked, for I was a child. The analogy to net metering is that families could bring in their old skates whether they wanted other skates or not. Families could have net-negative or net-positive transactions depending on their own supplies and needs.

  3. Jack Ellis, Tahoe City, CA says:

    Excellent article. Unfortunately the CPUC has a huge mess by using just about every one of those devices in its attempts to satisfy an ungainly number of competing and contradictory policy goals. And it has also mostly failed.

    • Jim Roumasset says:

      And the goals compete and contradict in different ways at different times. Players in “real markets” are more likely to have consistent objectives.

  4. John D Bennett says:

    Another example for Net Metering could be a sale or return deal. For example, in the UK some supermarket chains will sell you a large number of cases of wine (e.g. for a family party) and you can sell them back to the supermarket at the same price without challenge, but I recognise it isn’t the same

  5. Skiingat says:

    I think there is additional complexity about how consumers use electricity that should be pointed out. Individual electric users are engaging in dozens of transactions to “buy” electricity every hour of varying amounts and for varying amounts of time which has no analog in the rest of the world, only water comes close. Because of this, I believe that consumers need to pay for essentially two separate services. The first is the option for the consumer to look to the grid supply electricity to meet the instantaneous needs that nearly all first world electric consumers expect. The second is the amount of energy itself that meets those instantaneous needs. In my mind this is an argument against an NEM structure that includes those costs associated with providing the platform to even use electricity that a user does not provide – costs that should be socialized and applied without discrimination. But, the set of costs associated with energy itself should have a rate structure most efficiently accounts for the variable nature of the product.

  6. Azmat says:

    Electricity is seemingly different from most other products/ services; but similarities exist with technicians [they get paid by employer any way], airplanes [they fly empty seats or cargo capacity, saved variable cost of ‘meals’ no longer applicable on domestic flights], car rentals [depreciation], clothes [new ‘collections’ degrade value of old ones], web services [capacity not used is like airplane seats, but there are some saved variable costs], etc. Water [utility] is different – it can be stored usually without loss of value.
    But electricity largely MUST be used when produced. So if utilities were to offer ‘negative’ rates at trough-hours many retail and even industrial customers would use that capacity, and storage [with its costs that eventually get passed on to users] would be less needed. If stores offered discounts at late-night [because electricity is cheaper or even negative] I would expect many shoppers around.

    Dynamic pricing [surge included] would be fine provided there was some advance notice –

    Few of us thought negative interest rates were likely until they started happening. The only problem is a side effect might be ‘people’ putting ‘cash in the mattress’ in in a safe deposit box; and the attendant crimes as cash-carrying citizens are mugged.
    Negative interest rates not good.
    Negative electricity prices good.

  7. Ken Corts says:

    My bank and I have a net metering relationship… my home equity credit line. When I consume more cash than I generate (eg, kids’ tuition is due), I “buy” cash from the bank at my credit line interest rate. When I generate more cash than I need (eg, tax refund arrives), I “sell” cash to the bank by paying down my home equity line. I thereby avoid interest charges that are exactly the same as the interest charges incurred when “buying”, and it’s this equivalence of prices (as well as the complete flexibility to buy and sell whenever one wants) that are hallmarks of net metering. Incidentally, my home equity credit line has a variable rate tied to prime, so it is also an example of peak-load pricing!

  8. Stephen Littlechild says:

    Stimulating and provocative, splendid examples, good value as always. I am with you all the way – until you reach the conclusions.
    “In real markets, companies cook up pricing to maximize profits and…that’s it.” No, that’s just the beginning. What if that’s the only way to produce the product and survive? What if their competitors are doing the same thing?
    Why can’t you find examples of net metering? Because it’s loss making. No private sector company could do it and survive.
    Here’s another pricing policy you didn’t try to find examples of: single uniform prices. The kind that are found in economics textbooks. Are there any such examples that are not subject to quantity discounts, negotiation, “I’ll throw in this since you’re a good customer”, etc? Probably only in the public or regulated sector.
    So “real companies don’t price that way” is indeed a useful contribution to the discussion, if the aim of policy is in some sense to replicate what real companies (ie privately owned companies operating in competitive markets) would do. All the examples you give (except net metering) are tried and trusted methods of surviving in a competitive market place.
    But if there is some other aim of public policy, then what real companies do may indeed be irrelevant, and single uniform prices and net metering may (or may not!) have a role to play.

  9. James Roumasset says:

    “The array of prices that policy makers, utilities, and other interested parties have cooked up are an attempt to cover costs, follow cost causality, be fair to customers, help lower-income households, and be environmentally friendly, among other goals” [including inclusivity, sustainability, and renewability]. No company in a real market would ever price that way.

  10. Jan Grygier says:

    Ken – if you are net positive with the bank in any month (i.e. you have more on deposit with them than is drawn on your HELOC), do they give you interest at the HELOC rate or higher? If so, I’d like to know the name of your bank…
    Mine gives me less than 1% on savings or even Money Market while charging 4% or more for a HELOC. I think your example is closer to a “no NEM rate” like in Hawaii or Nevada where you get to reduce your charges at retail rate until you get to net export, but when sending net energy to the grid in any month you make less money than the utility does when they net sell to you.

  11. Bob Procter says:

    In the case of electricity net metering (NM), it’s important that we define net metering. Here in Oregon, NM will credit you for each kwh at the rate tariff up to your historical average consumption that month. Deliveries above that month’s average consumption are provided free to the utility.
    What seems key here is you invest in the PV system on your house. Then, the utiltiy “pays” you for the kWh’s you provide up to your average usage for a given month. They don’t “pay” you for kWh’s you provide that exceed your average usage for that month. Then, in months when its particularly cloudy and crappy weather, or blazing hot and sunny, you buy back kWh’s from the utiltiy at the same price.

    About the closest I can think of is the non-hourly labor market, if there is paid leave (which is usual). You provide your labor at a specified price (we call that price a wage) up to the hours your employer stipulates. If you work above that specified amount, you aren’t paid for those hours. As you provide hours of work to your employer, your employer values your “banked” paid time off (PTO). Then when you use your PTO, your hours credited are reduced by the wsame amount, any you get paid. If you “need” ore hours off than you have banked that will cost you. The cost would be the opportunity cost of not working those hours. That opportunity cost should equal your wage on an hourly basis. (Note: While I worked salaried jobs for both the feds and the state, a hourly wage rate was calculated using the salary and a 40-hour work week. In that case, my opportunity cost of leave without pay is tht hourly rate).

    This is about as close I’m able to come to both the concept of Oregon-NM and how it functions, which isn’t exactly replicated in the labor market.

  12. Jun Ishii says:

    Closest example of net metering that comes to mind is a practice done in some community-supported agriculture (CSAs). In many CSAs, subscribers can contribute labor in lieu of portions of their subscription cost. In some of the CSAs in my area (Western MA), the subscription cost waiver seems close to the implicit price for labor underlying the CSA subscription cost. So, you’re paying for the net amount of “farming services” you are purchasing from the CSA. Then again, it may be a stretch to consider CSAs as business as usual …

    I agree with Dr. Littlechild’s assessment that a key reason why we do not see net metering in many other markets is that such practice is not profitable. Absent regulation, it may not be a pricing innovation widely adopted.

  13. Anonymous says:

    An example for net metering would be a stock exchange, where a quoted price is both the buy and sell price for the stock in question.

  14. Bob Procter says:

    When you look for other goods that are comparable to net metering in electricity, it’s important to consider more than price. It seems to me that even if the price I buy a good at and the price I sell it at are equal, that isn’t a sufficient condition to call that market equivalent to net metering. In net metering, there is a bundle of rights and obligations that combine to define that product/service. That’s what makes finding examples so complicated.

  15. Philip Hanser says:

    Well done blog. Your blog’s readers might find that Robert Wilson’s “Nonlinear Pricing” (Oxford U.P., 1997) or Oz Shy’s “How to Price” (Cambridge U.P., 2008) are useful reads if they want to pursue the ideas in your blog further.

  16. David says:

    Hi, I wanted to know what you think of Paypal as an example of net metering. Wholesale/large customers get charged a fee, while smaller customers and can trade without fees.

  17. Hawk's View says:

    Theoretically it sounds appealing that power generating firms are constantly testing pricing strategies, but what actually happens is realistically more of the opposite…

    I would content that most firms have relatively consistent bidding strategies across their fleet in order to develop and maintain a consistent track-record for regulatory & compliance issues. Most daily variables that remain are fuel price fluctuations (based around pipeline OFO’s), potential transmission line congestion and risks associated with equipment/base point underperformance.

    My contention is that most firms develop price curves that factor in adequate amount of margin to compensate for Real-Time de-rates/tripping and the associated costs of covering that power at spot prices, and that when it comes to monkeying with block-scheduled run times and funky pricing strategies.

    At the end of the day, it comes down to a “go/no-go” situation… do you want your unit to be picked up or not? Assuming you are clearing above your marginal cost, it really comes down to the value you pace on having the optionality to participate in constantly evolving/ volatile price environments.

  18. Russ Houldin says:

    Strange that the post should omit the most obvious oddity: demand response. The idea of paying someone not to consume not only has no analogue in “real markets” but contradicts one of the basic tenets of market economics: goods are good. Another is congestion charges: a gross violation of Say’s Law. What promoters of “electricity markets” have been missing all along is that electricity is much more like a public good than a private good. Forcing it to “look like” a private good just creates rents. For more, see my article in 2004 in The Electricity Journal.

    • mcubedecon says:

      The 2008 recession was a violation of Say’s Law…

      I’m interested in your statement that electricity is more like a public good. Can you quickly summarize that (I’d rather not have to plow through a longer article to get to that point.)

      • Russ Houldin says:

        Private good must have two characteristics: rivalry and excludability. Electrical energy (the “unbundled commodity” from the natural monopoly wires) intrinsically lacks these. Electrical energy is delivered to loads in circuits and every load on a circuit (at any voltage level) either consumes with all other loads or none do. There is no rivalry nor excludability. Metering makes electricity like a type of public good known as a “club good”, such as satellite or cable TV or gated communities. The quantum of energy metered is not metered by any other user, so there’s a quasi-excludability but there is no rivalry. Every strange feature of electricity system may be explained simply by understanding its public good nature. Otherwise, it’s a private good with every known market failure.

        • mcubedecon says:

          There is certainly rivalry–transformers and wires hit thermal capacities. That might only be for a short period, but it does exist. And the real market is not in the short term transmission of power (which FERC seems not to recognize) but rather in the construction of the generation and transmission facilities. It’s like we saying the housing market is driven by the daily lodging market instead of recognizing that the real market is in the trading of long-lived housing assets.

      • Russ Houldin says:

        Orthodox private goods, which are exchanged in markets, must be excludable and rivalrous; public goods lack these features, to differing degrees. The “unbundled” electrical energy delivered by electricity systems has neither characteristic. Electrical loads, at any voltage level, are serviced by circuits and every load on the circuit consumes or no load consumes. The loads cannot exclude other loads from using their quanta of energy nor can they be excluded and there can be no rivalry for any particular quantum because it cannot be known which load consumed which quantum. Electrical energy moves through an electromagnetic field (the electrical component of which is confined to conductors) through a field at the speed of light. Through metering this energy may be made into a quasi “Club good”, like cable or satellite TV or a gated community. All of the strange features of electricity pricing disappear when it is realised that electrical energy is a public good.

        • Russ Houldin says:

          In the theory of economic goods rivalrousness has a specific meaning; I am willing to pay for a specific candy bar because someone else would buy it if I don’t. How this relates to thermal limits eludes me. For electrical energy there is no specific “candy bar”; it is impossible to determine who consumed which quantum of energy. Metering only allows us to say, after the fact, that it is “as if” a specific consumer consumed a specific quantum. This is not the case for any private good.

          The long term housing market, like any private good, relies on the price signals sent in short term transactions. There is no “long term” housing market per se, only prices paid historically for actual houses that investors use to determine if they want to increase the supply.

          More generally, this entire thread only goes to show that there may be individual markets that exhibit some of the strange pricing shown by electricity “markets” but only electricity exhibits all of them. At some point it is only reasonable to ask if any electricity “market” is a market, at all.

          • mcubedecon says:

            Here’s a definition of rival goods that contradicts your statement: “A good can be placed along a continuum ranging from rivalrous (rival) to non-rival. The same characteristic is sometimes referred to as subtractable or non-subtractable. A rival (subtractable) good is a good whose consumption by one consumer prevents simultaneous consumption by other consumers.” In this case, the rivalry is for G,T&D capacity. Even air is rival at some point–look at Beijing. That the capacity can’t be parsed into individual physical parts doesn’t make it non-rival. In your world, the wait staff in a restaurant is a public good–contrary to our everyday experience. Services are rival goods, and electricity is the service provided by the physical goods of generation capacity.

            And your subscribing to the orthodoxy that led to FERC’s error in relying short term markets to drive electricity investment. In some cases, long-term contracts drive market prices, and short-term are but a residual of that activity. That’s the case in electricity where capital investment is what determines the market price and energy is a residual to that investment. That’s going to become especially true when renewables, with zero short run costs, are going to dominate the market. How is the CAISO going to dispatch solar and wind? Especially with hydro priced at the opportunity, rather than operating, cost?

  19. Azmat says:

    The most important distinction that is unsaid is that, because of the design of electrical equipment and the grid, electricity supply and demand MUST be in balance at ALL times [instant by instant]. Imbalance will ‘damage’ the system or equipment. It is not like an airplane which CAN fly with empty seats, and not like water, which can flow to the ocean. Thus there IS value in negative prices if they create savings in the system operation – ramping up or down oil or gas fired generators etc.

    • mcubedecon says:

      However there are at least two other analogies–telecommunications, and broadcast TV and radio. In both cases, again there is no ability to “store” and the network must be in balance. Of course, the consequences might be different, but for the “consumer” the outcomes are the same.

  20. mcubedecon says:

    I think at the core of why the pricing question is arising is that the premise in this statement is changing: “The transmission and distribution grids are natural monopolies, where it is more efficient to have one system used by all, rather than every seller building their own set of wires to deliver their own electricity. And customers want the reliability value of that pooled network, which enables one generating source to instantaneously fill in for another…” Many, including me, have pointed out how electricity delivery is changing in a way that can undermine this model. T&D may no longer be a natural monopoly, just as cable is no longer a natural monopoly, but it may not be other wires owners who are competing.

  21. Jim Lazar says:

    Sev has apparently not rented a lot of cars recently. Other than Enterprise’s $9.99 weekend rates (150 miles), I’ve not run across anything but unlimited miles (sometimes geographically limited) for years. But they certainly engage in dynamic pricing — cheaper on weekends, more expensive during peak periods. But U-haul does charge by the mile.

    NEM is another issue. The products are not the same. The customer receives generic “grid power” with a mix of coal, gas, and other resources; plus a suite of delivery and reliability services. The utility receives a clean, new resource, delivered into the grid during daylight hours, at the distribution voltage level. The utility need only deliver it a few hundred feet in most cases, unlike a coal plant output they must transport hundreds of miles to reach a customer.

    A better analogy for NEM is my local fruit and vegetable stand. They sell generic trucked-in-from-afar tomatoes for $2.00 per pound, and local organic tomatoes for $3.00 per pound. Customers perceive a qualitative difference between the two. The fruit stand operator may be paying $2.00 per pound for local organic tomatoes at wholesale — which happens to equal the retail price of generic grid tomatoes. If I show up and offer to sell them my organic local tomatoes for $2.00/lb, we may be able to make a deal. If I hold that $2.00 until after my tomato plants have stopped producing, and then come back to the fruit stand and buy generic grid tomatoes with the money, I’ve used the fruit stand as a storage mechanism — but the tomatoes I received from storage are qualitatively different.

    Or, we can simply describe NEM as an infant industry subsidy, in the tradition of railroad land grants, airline airmail contracts, and defense semiconductor contracts. Designed to stimulate an industry that will one day thrive without assistance. That’s the position many states take as they transition to a Value of Solar framework.

    I prefer a three part tariff:

    1) A monthly charge for billing and collection services: about $4/month or so

    2) A charge for the connection to the grid, covering only customer-specific costs such as a share of the final line transformer and the secondary service drop. About $1/kW/month. That makes sure that the PV customer who needs a 12 kW transformer pays for it, even if they use zero new kWh.

    3) A time-varying rate for all energy, which (for most utilities) applies in both directions. On a system with a daytime peak and a small amount of solar, the PV customer is supplying valuable power that reduces peak demand, and will “make money” on this rate. Conversely, on a solar-rich grid, the solar customer may consume valuable power from 5 – 9 PM, and supply less valuable power from 10 – 3 PM.and wind up with a hefty bill at the end of the month, even if they use zero kWh.

    The effect of this rate is to implicitly recognize that the solar “quality” premium over generic power is approximately equal to the upstream grid services cost. It’s imperfect, but zero is NOT the correct answer.

    On very high-cost utilities (primarily those with high renewable portfolios, and thus a higher quality of power) this may be too generous; for very low-cost utilities, it may be lower than the value of solar. But for the average utility with a per-kWh retail price in the $0.10 to $0.15 range, it works out about right — most of the VOS studies show the value of solar in this range.

    See Smart Rate Design for a Smart Future
    http://www.raponline.org/featured-work/smart-rate-design

  22. Jim Lazar says:

    Utility regulation was created to impose on monopolies the pricing discipline that markets impose of competitive suppliers. That goes back to the grain elevators and robber-baron railroads of the 19th century that gave rise to utility regulation. The railroads were charging farmers served by two railroads vastly different prices than those served by only one.

    Grid pricing can be compared to how we pay for other grids that bring us stuff.

    We use a variety of grids.

    When we go to Home Depot, we bear the cost of connecting to the global hardware grid (by traveling to the store). The rest of the costs of the grid — that brings us stuff from China, Europe, and Indiana — is built into the price of each item.

    When we go to the supermarket, we bear the cost of connecting to the grid, (by traveling to the store). The rest of the costs of the grid — that brings us Cheerios from Buffalo, Steinlager from New Zealand, and Brie from France — is built into the price of each item.

    When we go to the gas station, we bear the cost of connecting to the grid (by traveling to the station). The rest of the costs of the grid — and all of the fixed costs of the oil refinery and oil well — are built into the price for each gallon. And they don’t tack on taxes either — those are built into the pump price, so we see the whole picture on a big sign that we see BEFORE consumption (yes, it is dynamic, and can change daily).

    The point is that in competitive markets the cost of the distribution grid is built into the price of each item, not priced separately. OK, it’s a little different for online purchasing — but we don’t bear the cost of connecting to the grid there — it’s delivered to our front door. For everything we buy in stores, we bear the cost of connecting to the grid (the final line transformer and service drop), but the rest of the grid (transmission, substations, poles and wires) needs to be built into the price for delivered goods.

  23. mcubedecon says:

    Sev doesn’t mention one key type of pricing that exists in the “real markets” but not in electricity (and he’s even written on this blog about this type of pricing in other commodities)–long term contracts. I’m aware of only a few exceptions where a customer group has been offered a fixed price multi-year tariff, and then only with pressure from the PUC or key stakeholders in the regulatory process. In California, it’s been the economic incentive rate to keep industrial customers from leaving the state, and the diesel engine conversion rate offered to growers. Much of the popularity of solar comes from the fixed-price nature of the investment. Consumers often prefer a price hedge–it’s the motivation for home ownership.

  24. Pingback: Why Electricity Markets Are Just Like Any Other Market | Ethan Elkind

  25. Jan Beecher says:

    Good exercise. I’ll quibble with your IB pricing examples. More legroom is a quality not a quantity differential (i.e., do you pay more when buying more airline seats?). Baggage fees and dropbox pricing are comparable to a usage allowance in a base charge, before quantity charges kick in (also a form of promotional pricing). IB pricing is rationalized on the basis of rising LRMC, externalities, and/or scarcity. Markets don’t tend to worry about these things absent a mandate or tax. A much broader point is that, logically, market competitors can price any way they like and pricing models are themselves subject to competition – but customers have choices, including whether or not to take the good or service at all. As long we recognize that utility services are essential and that market power (monopoly) persists, we need pricing rules to address economic efficiency, equitable cost allocation, and other social goals. In fundamental ways (economic, financial, social), these “markets” remain unlike others.

    • mcubedecon says:

      What’s of interest now is that we appear to be on the verge of ending that monopoly, much as happened in telecommunications 2 decades ago. That’s why this debate is coming up–we’re anticipating a policy issue ahead of the technology advance (for once.)

      • Yes, that is the narrative. Technologies and markets will work fine for some (myself included), though perhaps at higher private and social costs. We may be simply trading market failures. Time will tell.

  26. Jan Beecher says:

    I am curious about revenue assurance mechanisms, such as decoupling. Is there a pricing analog there?

  27. Jim Dodenhoff says:

    Returning from chicago.

    Had a free afternoon and went to a cubs game. As usual there were many scalpers buying tickets…..and then seeking to flip them quickly. Maybe they intended to keep one for themselves….maybe not.

    Online ticket brokers generally have both buy and sell features…..although admittedly the buy side is almost always higher than the sell side.

    This strikes me as similar to net metering.

    Cubs won.

  28. Pingback: Is Electricity Pricing Different from “Real Markets”? Should It Be? | Energy Institute at Haas : Pricing News

  29. The more challenging and interesting question is actually the second one, “Should it be?” Markets and market competitors are discriminatory. This moves us from the comfortable realm of economics to the much less comfortable realms of equity and fairness (beyond simply “cost allocation”). Of course, most of us will say these issues are for other institutions to resolve. (ps – I need to note that my thoughts are shaped by both energy and water pricing.)

    • mcubedecon says:

      In my experience in the down and dirty of regulation, the current systems are pretty poor at considering equity and fairness because they are so heavy handed. The sausage making of regulation is a poor substitute for moving to more transparent pricing and solving the equity issues with income supplements.

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