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Must DSM Programs Increase Rates?

Fortnightly Magazine - June 15 1995

years, price increases grow as the program costs are added to rates, and avoided costs are low (see Figure 1 on p. 28). The price impact peaks in 1998 at 0.7 percent, and though always positive, it declines through 2012 to 0.05 percent. In this case, program costs account for 55 percent of the price increase over the analysis period; fixed-cost recovery (FCR) accounts for the other 45 percent.

Customer Charges

In the base case, monthly customer charges are low ($10 to $15 a month) for both the residential and C/I classes. This low charge includes only 5 percent of the utility's fixed costs. In the cases examined here, we assigned increasing fractions of the fixed costs to the customer charge. Fixed costs include all the operating costs associated with T&D and customer service not assigned on a per-kilowatt basis plus all the capital costs (depreciation, property and income taxes, interest payments, and returns to shareholders).

The effect of DSM programs on prices decreases as the percentage of fixed costs assigned to the customer charge increases (see Figure 2 on p. 28). This change occurs because increasing the customer charge reduces the demand and energy charges. Lowering these volumetric charges toward their short-term marginal-cost values reduces the FCR component of the DSM-induced price increase. Stated differently, the price impacts of DSM-program cost recovery are independent of the structure of retail tariffs, whereas the recovery of fixed costs depends strongly on the structure of these tariffs. Assigning 100 percent of fixed costs to the monthly customer charge renders the FCR component negative (meaning, electricity prices are lower) and cuts the price impact of DSM from 0.018 to -0.35›/Kwh (or 0.25 to

-0.04 percent) over the 15-year period.

The irony of these results is that with all fixed costs assigned to the monthly customer charge, customers face no adverse price effects. On the other hand, because the volumetric charges are lower, customers find little incentive to invest in efficiency measures on their own. And those that participate in the utility's DSM programs gain less. In the cases examined here, the residential energy charge declines from 8.9›/Kwh in the base case to 3.8›/Kwh in the current case. Correspondingly, the customer charge increases from $11 to $91/month, a level that many regulatory commissions and customers may find unacceptably high. However, these changes may be more consistent with a competitive electricity market, in which prices reflect more closely the time-varying short-term costs of production.

Combined Effects

ORFIN results show that rate impacts can be minimized by reducing program costs (by using market transformation strategies, working closely with trade allies, or shifting more costs to participating customers) and focusing DSM programs on geographical areas where large T&D investments can be deferred. The FCR component of DSM price effects can be reduced by putting more of the utility fixed costs in the monthly customer charge.

Adjusting the timing of DSM programs to match avoided costs can also cut price impacts.

We combined these factors to gauge the net effect on electricity prices. Cutting DSM program costs in half (so