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Efficient Regulation, Efficient Grid

Intelligent infrastructure requires an intelligent policy framework.

Fortnightly Magazine - August 2009


New Regulatory Framework

This new regulatory framework must take into account the need for rapid change and the altered relationships in the financing and management of infrastructure. In a world where many utility investments and costs have been averaged within a traditional embedded cost-of-service analysis, it’s important that policy makers provide regulatory incentives that are robust enough to stimulate needed investments from capital markets, protect the public interest and reward investors (be they shareholders or other investors).

Transformer purchases are a clear example of the change required. Under the current financial paradigm, utilities buy transformers that meet performance specifications based on the initial cost plus the cost of losses over the estimated life of the transformer. Additionally, from a service and reliability perspective, installed transformers typically are oversized given an estimate of customers’ peak load requirements. Current transformers have an acceptable level of efficiency yielding losses that within a cost-of-service analysis are spread across the entire system’s customer base. Sizing transformers is often based on past practice and algorithms, and not based on real-time customer usage information. This current approach to purchasing transformers makes perfect sense in a rate-recovery environment in which the utility is compensated (or made whole) for its system losses, rewarded with added return associated with oversized, and therefore more costly, transformers and penalized for performance issues based on outage numbers as opposed to power quality and efficiency. Unfortunately, this type of regulatory environment seriously could hamper the pursuit of shared smart-grid goals.

The transformer market is going to undergo a dramatic change after January 1, 2010, as the new federal efficiency standards are enacted for both liquid and dry equipment. Based on new rules formalized October 12, 2007, all manufactured or imported transformers must meet the need design criteria, which are estimated to push efficiencies upwards of 99 percent and thereby saving nearly 238 million tons of CO 2. The payback associated with these new standards is estimated at between one and 15 years. The real question is whether utilities will (or can) take advantage of the new equipment by placing this equipment in service earlier than planned—and whether the grid-efficiency framework view of the world will allow, and incentivize, them to do so.

The economic analysis supporting a wholesale retrofit of high-efficiency transformers across a utility system may be as simple as a present-value analysis that considers the anticipated avoided cost of producing less power, including the associated environmental cost of carbon, NOx and SOx plus related offsets and energy credits. Yet, under today’s regulatory model, there’s a disincentive for the utility to purchase the higher-cost equipment since the utility cannot share all benefits with the ratepayer in the near term. In fact, if a utility were to implement a wholesale retrofit of transformers across the system, rates likely would increase substantially in the short run as the utility would be replacing a less-expensive and partially depreciated plant, thereby stranding the investment with a new, more expensive—albeit efficient—plant. Returns and rates would increase substantially. Savings to customers related to lower system losses and potentially less