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The Supply-Side Economics of Residential Electrification

Maybe we should be giving rebates to installers rather than households.

People generally follow Newton’s first law of motion: they keep doing what they are doing unless acted upon by a force.

Unfortunately, to tackle climate change, we do need people to make some changes. If we want to follow the edict to “green the grid and electrify everything,” then one important change is a move away from natural gas, propane and fuel oil for home heating and cooking and toward electrification.

Around one-quarter of US homes are already fully electric, and Lucas has detailed how new homes are ready to go electric when the incentives are right. But, that leaves north of 80 million existing US homes that need to make a fuel switch retrofit.

What force can we muster to put momentum on the side of electrification at a national scale? A close look at the challenge reveals a role for subsidies for home electrification that are not just big, but smart.

Installer

The scale of the challenge

The electrification evangelists at Rewiring America have written extensively about this problem. Together with the Center for American Progress, they have a useful report calling for federal subsidies that average out to $5,000 per household and run as high as $14,000, or even $19,000 for low and middle-income households who get more generous rebates under the plan.

Some fancy multiplication shows that $5,000 per household scales to $5 billion in federal rebates for every one million retrofits. They sketch alternative roadmaps that pencil out to between $10 and $25 billion in subsidies per year, with a grand total north of a quarter-trillion in spending over a decade in their aggressive scenario.

RA_Table3

Source: Center for American Progress

That’s a lot of cheese. For comparison, federal tax credits for residential rooftop solar and other energy technologies tallied around $2 billion in 2019, and investment and production tax credits for renewable energy summed to $8 billion.

But it’s not even clear that this is enough to motivate mass electrification. These subsidies are designed to bring the cost of the electric option into parity with the status quo technologies in terms of upfront purchase price and installation cost, with the goal of making electrification the default option.

But this upfront cost parity may not be enough to motivate people to overcome the hassle and information costs associated with making a switch. Here in Northern California, SMUD has generous subsidies under its Go Electric program, but only 6 or 7% of customers are going electric when they replace an old appliance.

To make electrification the default option, we probably need to combine customer rebates with policies that motivate the supply side of the market. That is, we need to get contractors and installers excited about electrification.

Some supply side considerations

I think contractors and installers are a big part of the solution because of my own mechanical incompetence. I have only the vaguest notions of the differences between an electric heat pump and my gas furnace, or the difference I’d experience cooking on an invection stove (convection? induction? what’s that word again?). I don’t even know how to figure out if I’d need an electric panel upgrade.

But the fact that I know I might need a panel upgrade, and that I’m close enough on the terms that Google can set me straight, puts me ahead of many millions of people who just want to take a hot shower, stay warm in the winter, and cook when it’s time for dinner without embarking on a research project.

When people like me need a new appliance, we end up working with a salesperson or installer who knows a lot more about the options and requirements than we do, and who can easily nudge us away from electrification if it’s in their interest–which it might be if they only have the fossil appliance in stock, they are less experienced at installing the electric version, fuel switching requires a permit or involves extra installation work, or because they have to coordinate with an electrician to get the job done.

Given these barriers, if we want contractors and installers to become the vanguard of electrification, we might want to offer them some cash courtesy of Uncle Sam. I conjecture that if we reduced the (proposed) customer rebate for a heat pump space heater by $1000, and instead gave installers a $1000 direct kickback for every installation that was a verified fuel switch, we would get more bang for the buck. Installers would find a new enthusiasm for retrofits, change their inventory, and figure out how to overcome the other associated hassles.

Conventional economic theory suggests that it shouldn’t matter if I give a $1000 subsidy to the customer or if I give the $1000 to the seller instead. According to this view (called the irrelevance of statutory incidence), if the customer is getting a rebate, the installer should know this and be able to raise prices, so my proposed shift is a red herring.

But this isn’t necessarily how the world works. In a classic paper on the car market, Meghan Busse, Jorge Silva-Risso and Florian Zettelmeyer show that when a manufacturer advertises a $1000 cash rebate to customers, customers end up with nearly all of that money–they strike a price with the dealer that is about the same as before the rebate was announced, but they get to keep the cash. But when the manufacturer gives a $1000 kickback to dealers for selling the same car, the dealers keep almost all of the subsidy.

The authors explain this as the result of asymmetric information–dealers facing a $1000 kickback for selling certain models redouble their effort to get customers interested in particular models and push extra hard to close sales. But consumers don’t know that the dealer has a discount on the backend and don’t negotiate down.

Something similar might happen with a fuel switching bonus. Installers might well continue charging the same hourly labor fees for installations of electric or fossil appliances, but they’d be keen to nudge customers to go electric if they got to pocket a bonus at the end of the day.

Another big challenge is that many appliances are replaced only after a failure, at which point speed is paramount. This heavily tips the scale toward the status quo fuel. But if the whole industry were facing lucrative bonuses for fuel switches, it might kickstart efforts to find customers ripe for an upgrade even before their equipment fails.

Wrap up

In the context of keeping the lights on, Severin recently asked, “Why don’t we do it with demand?” In the context of electric retrofits, I’m asking, “Why don’t we do it with installers?”

It would take more research to know how exactly to calibrate the right balance of subsidies on the supply and demand side for electric retrofits. (If there are any utilities or policymakers interested in getting these answers, give us a call–we’d love to design such a study.) And there is existing research showing that it can be hard to get salespeople interested in pushing energy efficient products.

Even so, I feel pretty confident asserting that a plan that is entirely focused on customer rebates is misguided. Yes, we need the economics to work for the customer, but I think we’ll get even more bang for our buck if we use some cash to help convert installers and contractors to the cause. After all, they follow Newton’s first law of motion, just like the rest of us.

Keep up with Energy Institute blogs, research, and events on Twitter @energyathaas

Suggested citation: Sallee, James. “The Supply-Side Economics of Residential Electrification” Energy Institute Blog, UC Berkeley, August 30, 2021, https://energyathaas.wordpress.com/2021/08/30/the-supply-side-economics-of-residential-electrification/

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James Sallee View All

James M. Sallee is an Associate Professor in the Department of Agricultural and Resource Economics at UC Berkeley, a Research Associate of the Energy Institute at Haas, and a Faculty Research Fellow of the National Bureau of Economic Research. He is a public economist who studies topics related to energy, the environment and taxation. Much of his work evaluates policies aimed at mitigating greenhouse gas emissions related to the use of automobiles.

10 thoughts on “The Supply-Side Economics of Residential Electrification Leave a comment

  1. When I moved into my house 20 years ago, I had the main panel upgraded to 100 amps. Now I need to upgrade to 200 amp to handle an EV and a heat pump. I got my city permit in three days. But finding electricians with openings in their schedules has been almost impossible. But the worst bottleneck has been PG&E. They just don’t give a damn. The utility is happy not to provide natural gas anymore. They are happy not to provide carbon-free nuclear power. And they apparently are happy not to get around to upgrading main panels to 200 amps for our electrification revolution. There are a lot of buildings out their that will need upgraded panels. At this rate, PG&E will never get the job done.

  2. I agree that moving the incentives upstream can help speed the trades toward offering installation of climate solutions instead of climate problems.
    As for home electric infrastructure… there are 15 Amp versions of the heat pump water heaters on the market for a decade or more now and there are simple plug-in 120Volt versions planned for later this year (fingers crossed on supply chains). This handy free guide shows several ways to make good decisions on appliance selection (pages 19-28) so you don’t have to upsize your electric panel. https://redwoodenergy.net/wp-content/uploads/2021/02/Pocket-Guide-to-All-Electric-Retrofits-of-Single-Family-Homes.pdf
    To get ahead of appliance burnout panic, it makes some sense to workout an electrification plan for the house. Then you can show the panel diagram or the plan to the contractor and say this is how much amp-space I’m allocating to water heating, to space heating to car charging, and to clothes drying as each one needs replacing. Each appliance stays in its lane and the 100 amp panel ( 24 mighty kilowatts ) is plenty for the task and you don’t need to get talked out of it. Also check the graph on page 45 showing the 3 ways to get more gallons of hot water from a tank.

  3. How do the proposed subsidies compare to eg the value of proceeds of a carbon tax at $50/tonne for the gas consumed over the lifetime of the appliance?

  4. I created a proposal several years ago to use in our local climate action plan along these lines. The idea is to create a retrofit fund and then state a reverse auction among HVAC contractors to install a set amount of electric conversions for the money offered from the fund. HVAC contractors are like doctors–they are on the advantaged side of the principal-agent moral hazard, and what they recommend more than not is what the homeowner goes with. The drug companies figured this out decades ago, so let’s emulate them.

  5. Replacing gas with heat pumps is a good idea, if the following conditions can be met: 1) Heat pumps must be as least as reliable as home refrigerators or better. 2) Installing heat pumps will occur additional costs that are often ignored. These include having to up grade the home electrical system to allow for more electricity at 220 V. There are also costs and delays due to building inspections and local regulations. Anyone who has done home renovations knows that, but bureaucrats who are often the source of the won’t tell you about the costs. 3) The biggest problem of all is a reliable source of electricity 24 hours a day 7 days a week all year long. The Texas power outages last winter are a classic example. Solar power isn’t reliable if the sun doesn’t shine. Wind power isn’t reliable when the wind doesn’t blow or wind turbine blades are covered with ice. A power grid that has to be shut down due to wind isn’t reliable either. Climate change and a lot of problems can be solved with a reliable electric power system. We need more nuclear power not less. Politicians stick their heads in the sands and lie to us over many of these issues. Water issues and other issues can be solved with a reliable energy grid that provides electricity. Before requiring heat pumps and electric car, we should deal with the electricy supply problems first. Common sense tells us that this is true.

  6. Good article. I was surprised to see the conversion rate was so low in SMUD territory. For what it’s worth, our experience in changing from a gas furnace to heat pump in SMUD territory was very much the ideal experience that you describe here. The contractor pushed heat pumps as the best, most economical option, incorporated the rebate into the price we paid upfront, and then took care of all of the paperwork. They even installed a smart thermostat and extra smoke detectors (there are like 7 in our small house now), since that was a prerequisite of SMUD paying out the rebate.

  7. Two issues that you didn’t mention, and which are likely to influence homeowner’s decisions about switching from gas to electric systems are:
    (1) Electrical infrastructure – Houses are designed with an upper amperage limit which determines the size of the line coming into the house and the rating of the breaker box. Increasing this to accommodate major new electrical devices is complicated and expensive since it can involve replacing utility lines and may require cooperation from the local utility and city government. For example, I recently considered replacing my gas water heater with an electric flash heater, but found that the electric version drew a peak amperage of 75 amps which was too much to fit into the 200 amp limit of my incoming line.
    (2) Heat pump reliability – I’ve lived in the same two story house for 30 years and the upstairs is heated/cooled with a heat-pump while the first floor is heated/cooled with a gas furnace/small heat pump combination. During this time I’ve had to replace 4 heat pumps, but the original gas furnace is still running fine and has never had to be changed out. Heat pumps have a lot more moving parts than gas systems and the compressors experience high internal stresses, especially in winter months. Also, the changing regulations on the freon mixture resulted in one of my replacements. While heat pump reliability seems to be getting better and the freon regulations hopefully are converging, these issues are well-known to consumers and will need to be overcome.
    Other than that I support the goal of increasing electrification, but recommend considering the long-term details of infrastructure and life cycle costs.

  8. Why don’t we do it with renewable methane?

    The natural gas infrastructure is a known thing and for communities that have it, we should make a maximum of it by using it. We have far too many economic horror strories associated with stranded assests becomes someone had a “good” idea.

    For renewables to work, we are going to need to be able to store energy in a variety of ways. We think of batteries, hydrogne and pumped storage, but we an already make methane in fuel cells. Methane even has the advantage of sequestoring carbon.

    We shoud think of leaving the natural gas infrastructure in place and using it, but changing over to renewably generated methan instead of fossil methane. Perhaps in 100 years the gas inftrastructure will be naturally displaced but we don’t have to push it to do so uneconomically. Perhaps we wil even be creaed methane to pump it back in the ground for actual squestration. Technolgy will need it improve for that, but we have time.

    • There isn’t enough renewable methane to supply the residential fossil methane market. A couple of recent studies that I’ve posted in comments earlier found that the feasible renewable supply is less than a trillion cubic feet compared to a current total demand of 30 TCF. RNG can serve as a specialty fuel in its highest value uses, but heating bath water probably isn’t one of those.

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