Letters to the Editor

Fortnightly Magazine - August 2009

Dynamic Pricing: A Trap?

When I hear the new buzz word term dynamic pricing I think of politicians who may be socialist or liberal, but who call themselves “progressive.” Now, what thoughtful person would not vote for a progressive. Do you want to vote for someone who isn’t progressive? That would make you some kind of Luddite. The same holds true for the people now running around the country calling for “dynamic pricing” i.e., charging $5/kWh for up to 100 hours per year, and calling any other form of pricing “dumb rates.” Just read two articles in the March, 2009 issue of Fortnightly, “Transition to Dynamic Pricing” by Ahmad Faruqui and Ryan Hledik and “Rethinking ‘Dumb’ Rates” by Rick Morgan.

The thing that strikes me after reading these two articles is that the authors never once mention the term “load duration curve.” Power systems are built to meet three different types of demand; the minimum demand placed on the system, the intermediate demand, and the demands during system peaks. The minimum demand is served by large base load plants, usually coal or nuclear, which have high capital costs and low operating costs and can run for over 7,000 hours per year. Intermediate loads are usually demands between the minimum demand and the peak demands and are usually served by the base load units and gas units which have lower capital costs and higher operating costs than the base load units. And the peak demand is served by both the base and intermediate units as well as some gas or oil units which could be referred to as “clunkers” and have low capital costs and high operating costs, along with demand response (interruptible, and demand and possibly energy ratchets) programs. The dynamic pricing warriors have never mentioned minimum load in all their rantings around the country espousing dynamic pricing, but if you have a 3,000 MW peak-demand system and you put load controls on that system for 10 years so that your peak never exceeds 3,000 MW, but your minimum demand starts out at 1,500 MW and grows 5 percent a year, in order to remain economically efficient, you are going to have to build a large base load unit in 10 years as your minimum demand will have grown by 943 MW to 2,443 MW.

In the days of the dinosaurs, when utilities were vertically integrated, people didn’t get as catatonic about meeting peak demands; they would either stoke up a clunker, which didn’t cost customers much because they were close to being fully depreciated and it was cheaper to pay the higher fuel costs for the relatively fewer hours (usually 50 to 200), or they called a system that had excess capacity and they sold it with a split price on the buyer’s marginal costs. Since deregulation, transmission capacity has become much scarcer because someone other than native loads is making money on it.

Do these advocates of “dynamic pricing” really believe that a mass addition of tens of thousands of plug-in electric vehicles will not shift the peak demand to the present off-peak period and require the building of hundreds of base load plants?

This year for Christmas I’m going to send all progressive politicians and dynamic pricing warriors an explanation of a utility’s load duration curve.

Jim Lundrigan
New Haven, CT


The Author Responds: Mr. Lundrigan argues that dynamic pricing programs are a trap, which simply swap one problem for another. In other words, while they may be effective at reducing the need for peaking capacity, they will create a need for more off-peak capacity. This is not consistent with the empirical evidence on dynamic pricing, which has consistently shown that dynamic prices reduce peak loads without significantly affecting off-peak loads. Indeed, in some cases, dynamic pricing has been shown to result in overall conservation of energy, especially when it is accompanied by enabling technologies such as smart thermostats and in-home displays.

As for the potential boost that dynamic pricing may provide to plug-in hybrid electric vehicles (PHEVs), it will be several years before they make a significant dent in the automotive market. Even in the most optimistic projections, PHEVs capture only half of the passenger vehicle fleet market by the year 2050. Experts have opined that even then the off-peak load created by these vehicles will not require new baseload capacity to be constructed, given the current surplus of generation during off-peak hours. Furthermore, PHEVs will reduce our dependence on foreign oil, reduce carbon emissions and provide net social benefits. In net terms, PHEVs will yield positive benefits.

Even if that were not the case, is Lundrigan suggesting that building base-load generation capacity is the only way to meet an increase in base-load demand? That is indeed how business was transacted in the 20th century. But that is not the way of the future, in which a smart power grid, by offering dynamic pricing signals to consumers and producers, will enable variable, non-dispatchable energy sources such as wind power to serve base-load demand.

If the industry continues to insulate customers from the true cost of power, selling it through “flat and static” rates, it will continue being forced to use subsidies and quotas to achieve the goals that a new generation of consumers have set for themselves in terms of demand response, energy efficiency, renewable energy, carbon mitigation and energy independence.

Ahmad Faruqui, Ph. D., The Brattle Group