The Little Utility that Could?
One very small public utility in the Sierras tries to implement more cost-based rate design.
Kirkwood Meadows Public Utility District – by some measures, the smallest electric utility in California – had a problem. The District’s tiny electric distribution company was charging gigantic rates to its 750+ residential and commercial customers, including the community’s water treatment facility and the ski resort that shares its name. What had pushed its electricity price to about $0.70 per kWh – 2 to 5 times higher than the large utilities in California – was mostly the $37 million investment in a transmission line connecting KMPUD to the state’s grid that began operating in 2014.
KMPUD made the investment in part to drastically reduce its reliance on dirty and less-reliable diesel generators. Since the line was completed, KMPUD has had plenty of capacity to supply electricity and a relatively low marginal cost of doing so, estimated to be in the range of $0.13/kWh. By early 2021, however, it was clear that the astronomical rates were creating substantial distortions. Owners of one condo building were considering installing rooftop solar in order to get out from under the punishing prices – seeing a payback period of only three years. Most customers who had the choice were heating with propane rather than electricity. And charging an electric vehicle at $0.70 per kWh is like paying around $9 per gallon for gasoline, a tough sell even in California.
That’s when Bob Epstein, a member of the KMPUD Board, called me to see if I had any ideas for making Kirkwood Meadows less reliant on burning fossil fuels and more reliant on the increasingly-clean California grid. Well, I sure did.
I learned from Bob that KMPUD’s residential customers fell broadly into two groups: occasional occupants for whom it was a vacation home and full-time occupants, many of whom were service workers around Kirkwood. Not surprisingly, the first group has lower average electricity usage and higher income. During our February 2021 Zoom, I also learned from Bob that KMPUD was getting hammered by the pandemic, because it was lowering electricity demand from the ski resort. That created a gaping budget shortfall, because the vast majority of the District’s costs were fixed, including debt service on the transmission line.
Based on my work with Jim Bushnell and with Meredith Fowlie and Jim Sallee, all of which we have written about on this blog, I breezily told Bob that all they had to do was lower volumetric rates to near social marginal cost. That would give customers efficient incentives to consume additional electricity when they value it more than the cost it imposes on society. Heating, cooking and charging with electricity would then be drastically more economic, while the budget would stay more balanced through demand fluctuations. Then raise the monthly fixed charge to make up the revenue shortfall. Due to the unusual demographics and occupancy of the Kirkwood community, this combination of changes would also shift more of the revenue collection onto more affluent customers. A win-win-win.
That’s when I was reminded of the many views of equity. Sure, shifting revenue obligation from lower-income to wealthier households is one idea of improving equity. But suddenly increasing electricity bills for one set of customers, while lowering bills for others, didn’t seem particularly equitable to some in the community. Then there were those who had paid tens of thousands of dollars to install solar and would see most of the future economic benefit disappear under the price structure I suggested. That didn’t seem very fair to them. In fact, one of the Board’s clear criteria for evaluating alternative rate designs was to minimize the number of customers facing large changes in their electric bills compared to the prior tariff.
Alternative plans quickly surfaced, from keeping the volumetric rates where they were, to fixed monthly charges based on usage during past years (such as 2017-2019) or based on residence square footage (essentially a form of building tax), to a fixed charge for each day of occupancy (as indicated by domestic water use – essentially an occupancy tax).
Each plan creates a different set of winners and losers. Advocates of basing fixed charges on usage in earlier years were invoking the notion that customers who would consume more get more benefit, so should pay more of the fixed costs, an idea I explored in a 2019 blog. Opponents pointed out that some owners used their houses more than others during those years for reasons unrelated to their usage going forward. And it raises questions of how to deal with new houses and homes that change ownership.
A daily occupancy fixed fee also appealed to the idea that more usage of the house likely meant more benefit, and suggested it would be equitable for those owners to pay a larger share of the fixed costs. But others noted that households in the mountains can use quite a bit of electricity when unoccupied, such as for keeping the indoor temperature above freezing or avoiding ice dams on the roof with heat cables. And as with the high volumetric rate or basing the fixed charge on earlier-years usage, it would still hit the year-round occupants harder than others.
A fee for residential square footage is friendlier to the full-time residents, but it raises more implementation questions than I had appreciated about what counts as footage, as well as running up against potential restrictions on property taxation. Plus, the fee might be large enough that it would change the calculation of what sort of house to build, or how to remodel, in ways that don’t reflect actual costs.
The good news was that nearly everyone recognized that charging $0.70 per kWh when the true marginal cost is just a fraction of that amount harms the whole community by making uneconomic all sorts of usage that would benefit households, the environment and KMPUD.
In the end, KMPUD made a lot of progress, though no one (including me) was entirely satisfied with the compromise that the Board reached. As of August 1, 2021, the volumetric charge was lowered to $0.22 per kWh and a fixed monthly charge was adopted based on each household’s usage from April 2017 to March 2020. Households with solar will pay a fixed charge based on net usage for 10 years, which will then convert to being based on gross usage. Homes that have changed hands since 2017 will have a permanent fixed charge based in part on usage over the next year or two, which creates an extremely high implicit price on consumption during that time.
The process was difficult and the result is not perfect. Some perverse incentives remain in the new tariff. Still, I think this is what progress towards a more efficient – and eventually more equitable – rate structure looks like. Nonetheless, after seeing what a heavy lift this was for a tiny utility with goodwill among the community participants, I realize that it will take a lot of work to clean up the mess in residential electricity rates of California’s large investor-owned utilities.
But climate change and a commitment to ensuring an equitable clean energy transition leave us no choice, so it’s time to get to it.
I tweet energy news/research/blogs and occasional political views @BorensteinS .
Keep up with Energy Institute blogs, research, and events on Twitter @energyathaas
Suggested citation: Borenstein, Severin. “The Little Utility that Could?” Energy Institute Blog, UC Berkeley, November 8, 2021, https://energyathaas.wordpress.com/2021/11/08/the-little-utility-that-could/
Severin Borenstein View All
Severin Borenstein is Professor of the Graduate School in the Economic Analysis and Policy Group at the Haas School of Business and Faculty Director of the Energy Institute at Haas. He received his A.B. from U.C. Berkeley and Ph.D. in Economics from M.I.T. His research focuses on the economics of renewable energy, economic policies for reducing greenhouse gases, and alternative models of retail electricity pricing. Borenstein is also a research associate of the National Bureau of Economic Research in Cambridge, MA. He served on the Board of Governors of the California Power Exchange from 1997 to 2003. During 1999-2000, he was a member of the California Attorney General's Gasoline Price Task Force. In 2012-13, he served on the Emissions Market Assessment Committee, which advised the California Air Resources Board on the operation of California’s Cap and Trade market for greenhouse gases. In 2014, he was appointed to the California Energy Commission’s Petroleum Market Advisory Committee, which he chaired from 2015 until the Committee was dissolved in 2017. From 2015-2020, he served on the Advisory Council of the Bay Area Air Quality Management District. Since 2019, he has been a member of the Governing Board of the California Independent System Operator.
Great article. It makes me think that these significant challenges at a small utility become exponentially greater at larger utilities.
One of the ingredients missing in Kirkwood that is available for investor-owned utilities is just that–investors. California has not asked IOU shareholders to carry any particular burden as the system has transformed in various ways. In contrast, other network industries such as telecommunications have required that investors take on much more risk. That needs to be part of the discussion in solving this problem.
This is a perfect example of how public goods costs should not be part of tariffs. This has been an increasing problem since the days of having some ratepayers subside efficiency improvement for another. Putting public benefits into the rates guarentees that there will be extensive free ridership that will fall on the ratepayers to cover.
In this case the benefit associated with the change was completely public and completely environmental. That is, the benefit was not having dirty diesel generation and using the cleaner mix of the grid. The correct answer was to leave rates exactly what they were and to make up the anticipated shortfall with a tax spread across those who received the environmental benefit–which is independent of utiilty usage. The structure of such a tax is arguable, but that is the argument that should happen before such projects are undertaken.
Max’s comment prompted a bigger question for me–Kirkwood’s economy, and even existence, is completely dependent on recreation and entertainment for the wealthier of us (and I used to be an avid skier). Lift tickets are $70/day. The resort disturbs the local ecology so its difficult to argue that somehow we are benefitting the environment by introducing any outside subsidies to mitigate GHG emissions. How we address the impacts to rural communities where any outside funding may be subsidies to the wealthy is an important question.
This is a really nice summary of issues presented in a tangible way.
I can’t help but wonder if Kirkwood Meadows will come to regret that transmission line. For that price it seems they could have used biodiesel in their old power plants for less. And you could buy a whole lot of solar and batteries for a fraction of that cost, and just use the power plant for backup. They must be worried about genuine grid defection, no?
In my experience over four decades in the industry, retail rates are the third rail of municipal utility decisions. Ambitious and well-intended plans to reduce fossil fuel generation often collide with ancient and inefficient rate structures. Well done in this case.