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Transition to Dynamic Pricing

A step-by-step approach to intelligent rate design.

Fortnightly Magazine - March 2009

being higher when the existing rate is fixed and time-invariant, and smaller when the existing rate is time-varying or partly dynamic. So customers who move to dynamic-pricing rates should be credited for the insurance premium.

Giving customers a choice : Dynamic-pricing rates, even with a full range of protections and features, still might be too risky for some customers. Thus, they should have the option of migrating to other time-varying rates, perhaps with varying lengths of the peak period and with varying numbers of pricing periods. If the critical-peak pricing rate (combined with a TOU rate) becomes the default rate, risk-averse customers should have the opportunity to migrate to a fixed TOU rate, and risk-taking customers should have the opportunity to migrate to a one-part or two-part real-time pricing rate.

The benefits of dynamic pricing are well established and increasingly within reach as advanced metering infrastructure and other smart-grid technologies are deployed throughout the continent. What stands in the way of progress is a misplaced concern about price volatility, and a fear of dealing with the push back that might come from those who would lose the subsidies they’ve enjoyed under existing rates. To ease the transition to dynamic pricing, commissions and utilities can use several methods individually or jointly. But unless the transition is accomplished, society as a whole will continue to suffer from the well-known inefficiencies of uniform, static pricing.

 

Endnotes:

1. http://www.energypolicyblog.com/?p=457.

2. http://www.hks.harvard.edu/hepg/Papers/2009/The Power of Experimentation _ 01-11-09_.pdf .

3. Ahmad Faruqui, “ Inclining Toward Efficiency ,” Public Utilities Fortnightly , August 2008.

4. The first edition of his canon, Principles of Public Utility Rates , was issued in 1961 and influenced the thinking of many generations of rate designers.

5. Ahmad Faruqui and Stephen S. George, “Quantifying customer response to dynamic pricing,” The Electricity Journal , May 2007.

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