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Chapter 23
Perfect storm or perfect opportunity?
Future scenarios for the electricity sector
Jenny Riesz, Magnus Hindsberger, Joel Gilmore, Chris Riedy
Abstract
This chapter applies futures thinking to explore possible scenarios that electric
utilities may face in the coming decades. The chapter applies a top-down approach
to identify the key drivers that could influence business models. It describes three
possible futures in detail. Firstly, the “Centralized” future moves towards
decarbonization, but retains the centralized model present in most power systems
today. In contrast, the “Decentralized” future moves towards greater decentralization,
whilst retaining a significant role for the grid. The “Disconnected” future moves to
complete decentralization, with most customers disconnecting from the grid entirely.
The chapter concludes that all three scenarios are possible and will have important
implications for electric utilities. Wise businesses will adopt a risk management
approach.
Key words:
Future scenarios
Futures thinking
Decentralized
Disconnected
Electricity supply industry
1 Introduction
Thinking about the future rigorously and creatively is hard. When we do think about
the future, it is common to imagine futures that are fundamentally similar to the
present. Alternatively, it can be easy to underestimate the inertia of the present, and
imagine rapid revolution when sedate evolution is more likely.
It appears clear, however, that change is coming in the electric supply industry.
Change itself is not new, but the rate of change has increased, as has the number of
concurrent changes, as discussed throughout this book.
Around the developed world, growth in utility-delivered electricity has declined, and
even appears to have reversed in some places (Sioshansi, 2013). This has been
caused by a combination of slowing economic growth, customers responding to price
increases, investments in energy efficiency and—the key topic of this book—
increased levels of distributed energy resources (DER). In addition to this, we
observe a growing focus on reducing greenhouse emissions, affecting supply side
investments. Furthermore, developments in information technology, “smart grids”,
and new ways for consumers to more directly engage in their electricity supply
present new opportunities.
These changes present new challenges for electricity utilities. For example,
traditional generation companies providing centralized power from emission
intensive assets are likely to see revenues increasingly threatened by declining
energy sales and growing competition from renewable generation. For some regions
these challenges remain in the future, while for others they are a present reality, as
highlighted in the chapter by Burger and Weinmann on Germany.
Some have termed this “the perfect storm” for the electricity supply industry (ESI),
although the severity will vary across countries and business areas. Some
businesses are already well into the hurricane and must adapt to the changing
environment under difficult circumstances.
With spending on energy services remaining relatively constant in many developed
nations, this is a zero-sum game with a first mover advantage. As is often the case,
those who are likely to be most successful in navigating the stormy waters will have
the vision to turn the threat into the “perfect opportunity”.
Throughout this chapter the various components of the ESI are referred to by
functional area, as illustrated in Figure 1. While each area is discussed
independently as in a fully liberalized market, the same observations will also
generally hold true for the corresponding parts of a vertically integrated utility.
Figure 1 – Functional areas in the electricity supply industry (ESI)
Source: Authors
While other chapters have explored in depth the individual issues, this chapter aims
to put them in context by applying ‘futures thinking’ tools holistically to explore
possible scenarios that might eventuate for electricity industries around the world.
The chapter consists of four sections in addition to the Introduction. Section 2 uses a
“futures triangle” to provide an overview of the drivers that contribute to plausible
global futures for the electricity sector. Section 3 describes three possible future
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scenarios, distinguished by the degree of centralization or decentralization of the
power supply. Section 4 explores the possible roles of various stakeholders in
creating these future scenarios, and describes how they might be impacted followed
by the chapter’s conclusions.
2 Plausible Global Futures
This section uses a mapping tool – the futures triangle (Anthony, 2007; Inayatullah,
2008) – to summarize the perspectives, drivers, tensions and barriers that contribute
towards plausible global futures. As shown in Figure 2, the futures triangle draws
attention to three forces that shape plausible futures. Table 1 outlines these three
forces and the types of questions associated with each. By considering these
questions, and how the three forces interact, it is possible to build up a map of
plausible futures. The sections below provide a brief futures triangle analysis for the
global electricity sector, drawing on insights discussed in earlier chapters.
Figure 2 - The futures triangle
Source: Based upon (Inayatullah, 2008)
Table 1 - Questions in the futures triangle.
Force
Questions
Push of the
present
• What trends are pushing us towards particular futures?
• What quantitative drivers are changing the future?
• What disruptive innovations are emerging?
(For example, new technologies, globalization, demographics).
Pull of the
future
• What is pulling us towards particular futures?
• What are the compelling or aspirational images of the future
that we would prefer?
• Are there competing images of the future?
Weight of
history
• What is holding us back, or getting in our way?
• What are the barriers to change?
• What are the deep structures that resist change?
Source: Authors
2.1 Push of the Present
There are many drivers “pushing” power system development in particular directions
at present, as outlined below.
Electrification
1.2 billion people still do not have access to electricity and 2.8 billion have to rely on
wood or other biomass to cook and heat their homes (Banerjee et al., 2013).
Electrification, particularly in developing Asia and sub-Saharan Africa, could expand
centralized electricity networks or support greater reliance on distributed energy
solutions, depending on how it is delivered.
Decarbonization
It is now likely that future development in the electricity sector will be carbon-
constrained (Sioshansi, 2009). Most of the world’s existing fossil fuel reserves
cannot be burnt if we are to limit global warming to less than 2°C, increasing the risk
of stranded assets for companies with substantial investments in fossil fuels (CTI &
Grantham, 2013). Policy responses to climate change are diverse and remain
uncertain (e.g. carbon pricing vs. regulatory limits on emissions), but tend to increase
the cost of electricity from traditional carbon-intensive sources or smooth the path for
DER. Mechanisms such as Feed-in Tariffs for distributed photovoltaics have been a
key driving factor in uptake of DER in many nations, as discussed in the chapter by
Mountain et al. Whether or not future climate change policies favor DER remains an
important area of uncertainty.
Energy security
International fossil fuel markets are uncertain and potentially volatile (Sanyal, 2011),
creating a strong driver for nations to seek local energy sources to maintain energy
security.
Reliability
Electricity consumers continue to seek reliable electricity supplies, although the level
of reliability they require varies greatly. In some countries, such as Australia, higher
reliability standards established by regulators have driven substantial investment in
electricity networks. This has increased electricity network charges.
Affordability
Policies for decarbonization and reliability, along with other factors, have increased
electricity prices in many countries in recent years. Consumer concern about
electricity affordability is growing, leading to increased political interest in ways to
limit price rises. Maintaining affordability of energy services in a time of substantial
transformation for the electricity sector will be an ongoing challenge and incumbents
that fail to maintain affordability may be out-competed.
Disruptive technologies and innovation
Disruptive innovations and technologies redefine the status quo in a market and
typically lead to the failure of incumbents and the rise to prominence of new entrant
firms (Christensen, 1997). The ESI is in a period when rapid development of
technologies for power generation, transmission, distribution and storage increases
the likelihood of disruptive innovation. For example, the cost of photovoltaics has
fallen significantly in recent years, allowing more and more consumers to become
producers of electricity and threatening business models based on constant growth
in centralized supply. Anticipated developments in energy efficiency, electric
vehicles, energy storage technologies and technologies to actively manage demand
are likely to make it increasingly feasible to go ‘off-grid’. Any of these technologies
could act as disruptive innovations that undermine the current business model of ESI
incumbents, as discussed in the chapter by Sioshansi.
Social and cultural change
Substantial social and cultural changes are also underway that will shape plausible
futures in the electricity sector. In developed countries, demographic trends such as
an ageing population and reduced household size will impact on electricity
consumption patterns. Some developed nations have seen reductions in electricity
demand in recent years, undermining existing electricity forecasting, planning and
supply models. In contrast, in the developing world, electrification and the growth of
a more affluent middle class is driving rapid growth in electricity demand.
The rise of the Internet, social networking, social media and smart phones has
created an information society in which consumers are empowered through access
to data and peers. An emerging sharing economy (Botsman & Rogers, 2010) is also
challenging existing business models by promoting peer-to-peer economic
transactions instead of business-consumer transactions. Empowered consumers are
demanding more from the technologies, services and organizations they engage
with. In the energy sector, this is driving the emergence of a plethora of devices and
apps to allow consumers to take more control of their energy use. It creates a more
volatile market, where consumers are more likely to switch away from incumbent
suppliers towards alternatives.
As Burger and Weinmann discussed in their chapter on Germany, empowered
consumers are attracted by self-sufficiency. Many are concerned about rising
electricity prices, and would prefer to avoid dependence upon corporate entities and
market regulators. Self-generation of electricity, now possible and affordable through
technologies such as photovoltaics, offers an attractive way to meet these desires.
Scenarios along these lines are also discussed in the chapter by Sioshansi and
Weinberg.
2.2 Pull of the future
The pull of the future refers to compelling, aspirational images of the future that pull
us in particular directions. These images are often in competition, as different people
value different futures. Inayatullah (2008) identifies five generic images of the future,
summarized in Table 2. The table explores the implications of each image of the
future for the global electricity sector. These five images of the future constitute
possibilities or expectations that are held by individuals, who may work actively or
passively to bring about or prevent them. As such, contestation between these
images of the future shapes plausible futures for the global electricity sector.
Table 2 - Images of the future for the global electricity sector.
Image of
the future
Description (Inayatullah, 2008)
Potential Electricity sector
implications
Evolution
and
progress
• “More technology, man as the
centre of the world, and a belief in
rationality” (p.7)
• Utopian, science fiction future in
which humans expand into world-
spanning cities and eventually into
space
• High-tech energy system
using most cost-effective
technologies to supply
ongoing growth in energy
demand
• Agnostic about precise
technologies as long as they
facilitate continued economic
progress – possibly favors
centralized systems as more
likely to meet continuing
growth in electricity demand
Collapse
• Humans have overshot the Earth’s
carrying capacity, eventually
leading to the collapse of
civilization
• Dystopian future, which is a staple
of popular culture
• The possibility of collapse in
response to climate change
and other global challenges
has been thoroughly explored
and is certainly plausible (e.g.
Slaughter, 2010)
Gaia
• “The world is a garden, cultures
are its flowers, we need social
technologies to repair the damage
we have caused to ourselves, to
nature and to others, becoming
more and more inclusive is what is
important. Partnership between
women and men, humans and
nature and humans and technology
is needed” (p.7)
• Potentially high-tech, but
technologies blend into the
background and material
consumption plateaus as humans
pursue well-being through
relationships with nature and each
other
• Vision of restorative and
regenerative development, in
which technologies are more
consistent with natural cycles
and scales and create space
to improve ecological health
and natural capital (Birkeland,
2007)
• Buildings generate more
energy than they consume
and put the excess back into
the grid – more likely to be
distributed and to reject risky
technologies like carbon
capture and storage and
nuclear power in favor of
renewable energy
• Current proponents of this
image of the future include
Sustainia and the Living
Building Institute
Globalism
• The free flow of technology and
capital brings riches to all and old
borders begin to break down
• Assumes that emerging global
system will be modeled on the
Western ideal, allowing little space
• Similar to ‘evolution and
progress’ above
• Technology transfer allows
developed and developing
countries to share in new
energy technologies
for alternatives
• Free trade encourages
development of energy
resources where there is a
competitive advantage (e.g.
solar in Australia, northern
Africa)
• Continent-scale electricity
networks that transfer
electricity from large-scale
solar plants in desert areas
Back to
the future
• Humans return to simpler times,
abandoning material consumption
and disruptive technologies
• Romantic vision of the past that
conveniently ignores the fact that
for much of human history, life was
nasty, brutish and short
• Energy descent, perhaps
dominated by small-scale
cooperatives operating
isolated, distributed energy
systems
• Centralized technologies
would be abandoned in favor
of low-tech renewable
energy, human labor and
animal labor
• Arguably the least likely to
eventuate of the five images
presented here.
Source: Authors
2.3 Weight of history
Finally, plausible futures are shaped by the weight of history – the inertia in the
system that acts as a barrier to the emergence of alternative futures. The ‘inertia’ in
present power systems should not be underestimated. Key sources of inertia are
outlined below.
Centralized electricity networks
The vast majority of power systems, infrastructure and associated institutions are
currently structured around a centralized system. In particular, most developed
nations have invested in large-scale power stations and extensive transmission and
distribution grids. These assets have long lifetimes of up to 40 years or more. A
move to decentralized power would cause this substantial investment in physical
power stations and grids to become stranded. The owners of these assets will work
hard to extract as much benefit from this infrastructure as they can, well into the
future.
Conservative electricity industry
Electricity businesses largely grew out of government electricity authorities that were
initially charged with electrification and later with ‘keeping the lights on’ as electricity
demand continued to grow. These organizations traditionally had systems and
procedures that changed slowly and low tolerance for risk. While this is changing,
many electricity businesses have a cultural legacy of conservatism that makes them
slow to adapt.
Associated institutions were designed to support a centralized system and can
create unnecessary barriers to emerging distributed systems. For example, many
electricity markets do not have appropriate mechanisms and incentives in place to
allow consumers to participate actively. This may inhibit uptake of demand side
participation and DER, or in some cases provide perverse incentives that encourage
detrimental behavior. These mechanisms take time to adapt, as explored in more
depth in the chapters by Kristov and Hou, Sood and Blanckenberg. Further, in many
systems, the tools and methodologies used for system planning and operation may
not be able to readily accommodate new technologies. This can tend to preference
future scenarios that look similar to the present, since planning models cannot
predict futures that are outside of their capability.
2.4 Summary: Plausible futures
When the push of the present, pull of the future and weight of history are considered
together, some key tensions emerge that will shape plausible futures. Primary
among these are the pace and type of decarbonization and the balance between
centralized and distributed electricity systems. If decarbonization does not proceed
rapidly, then dystopian images of the future become a real possibility. However, like
Paul Gilding (2011), this chapter proposes that humanity will eventually get its act
together and move down a decarbonization pathway. The rest of this chapter
assumes decarbonization will take place.
The type of decarbonization remains uncertain, but renewable energy appears to
have some important advantages at present. Given the opposition to nuclear power
in many countries and the slow development of carbon capture and storage
technologies, renewable generation is likely to play a major role in many nations. A
range of significant studies have recently demonstrated that systems with very high
renewable proportions are technically feasible, and economically competitive
(AEMO, 2013; NREL, 2012; Riesz, Gilmore, & Hindsberger, 2013). The ‘push’ of
climate change, energy security, and new lower cost renewable technologies and the
consistency of renewable energy with several of the key images of the future are
likely to make a renewable energy future a reality. Demand management and
storage technologies could be additional key enablers.
Less clear, however, are the ultimate outcomes of the tension between centralized
and decentralized power systems. These alternatives are associated with quite
different images of the future. The weight of the existing centralized electricity
network provides a great deal of inertia and incumbents will try to resist stranding of
existing centralized assets. However, there is a lot of push behind distributed energy,
which can facilitate decarbonization and empower consumers to take control of their
energy use. This tension forms the basis for the three scenarios outlined in the next
section and explored in more detail in the rest of this chapter.
3 Future Scenarios
Since introduced by Shell in the 1970s for strategic business planning (Schwartz,
1991), scenarios have been widely used in the energy sector. Scenario planning
provides a method for analyzing, discussing and communicating challenges the
industry might face. It can serve to make the target audience aware of critical factors
that, if ignored, could significantly disrupt the energy supply (whether that audience
is the company executive, national policy-makers or the global community).
This section introduces three scenarios, with the purpose of discussing the
implications for the ESI in the developed world. The scenarios under consideration
are illustrated in Figure 3. The scenarios have been selected with a particular focus
on understanding the possible impacts of the growth in DER. As discussed in the
previous section, a move to a low carbon power supply is assumed to be inevitable,
with scenarios that remain in the two left quadrants seen as infeasible in the long
run. Thus, the key differentiator between scenarios is the share of DER in each, as
represented by their locations along the vertical axis.
The three scenarios: Centralized, Decentralized and Disconnected are presented in
that order since they introduce increasing degrees of difference to the ESI of most
markets today.
All scenarios have the predetermined elements of lower carbon intensity, new
technologies such as smart grids, empowered consumers, demand side
participation, energy service companies, and greater uptake of energy efficiency.
Thus, all three scenarios could be considered “smarter and greener” than most
power systems at present.
Figure 3 - Possible electricity system futures
Source: Authors
Centralised+supply
Decentralised+supply
Carbon3intensive+
supply Low3carbon+supply
Current+system
Decentralized
Disconnected
Centralized
3.1 Centralized scenario
In the Centralized scenario, large-scale centralized generation (whether renewable,
nuclear or carbon capture and storage based) maintains a large proportion of market
share. The current trend towards DER saturates, and generation in the longer term
continues to be supplied predominantly from centralized power sources. A large
proportion of this is assumed to be from utility-scale installations of renewable
technologies such as wind, photovoltaics, and solar thermal. Nuclear power may
retain or grow market share in nations where politically accepted, and carbon
capture and storage technologies may play a role in the event that the technology
matures sufficiently to be commercially available and cost competitive with
renewables.
Overall, this scenario will be the closest to most power systems in operation today,
although the ESI will need to ensure the lower carbon supply system including
variable renewable sources can be operated securely and reliably. DER would
remain a relatively minor contributor, and the majority of consumers would continue
to source their electricity from the grid via electricity retailers. Network service
providers (NSPs), generation companies, retailers and market operators would retain
roles similar to present.
3.2 Decentralized scenario
The Decentralized scenario is a continuation of the current trend towards DER, to a
point where the majority of energy is supplied locally. Consumers become
increasingly engaged in their electricity supply, generating meaningful quantities of
energy at the site of consumption, and using energy efficiency and demand side
management to tailor their costs and electricity services to their preferences.
In this scenario, the vast majority of consumers remain grid connected, but they
purchase much smaller quantities of energy from the grid than at present. The grid is
used primarily for ‘balancing and backup’, rather than as the primary source of
electricity.
Micro-grids may evolve to support local balancing of supply and demand. Small local
networks may assist with balancing both energy and ancillary services via the
traditional grid, as envisioned by Van Overbeeke and Roberts (Overbeeke &
Roberts, 2002).
In the Decentralized scenario, in addition to managing a lower carbon supply, the
industry will also face the challenges of operating a dispersed system with many
actors. This will be combined with a significant reduction in the volumes of centrally
supplied electricity. This will have important consequences for the ESI as discussed
further in section 4, and in the chapter by Kristov and Hou.
3.3 Disconnected Scenario
The Disconnected scenario is a more extreme DER scenario. In this scenario, a
significant proportion of consumers elect to entirely remove their load from the grid,
and become largely self-sufficient. Completely self-contained home generation
through technologies such as rooftop photovoltaics combined with home energy
storage systems becomes commonplace. Other customers may be supplied through
independent micro-grids supplying the local community through shared, localized
generation sources and storage.
The key driver for this scenario would be a reduction in enabling costs, such as the
cost of storage solutions, making a compelling business case for individuals or local
communities. Furthermore, consumers in this scenario would need to be prepared to
take a much more active role in organizing and optimizing their energy needs.
This scenario would have dramatic consequences for the ESI. Electricity retailers
and centralized generation companies would lose the majority of their market share,
and other utilities may have a significantly reduced role. Companies that survive this
transition will be those that innovate and discover new business models, as
discussed further in section 4.
3.4 Driving factors
The driving factors that could lead to each of these three scenarios are outlined in
Table 3.
Table 3 - Driving factors that could lead to the three scenarios.
Driving factor
Centralized
Decentralized
Disconnected
Price comparison –
DER vs. grid
electricity
Grid connected
electricity is cheaper
than DER
Grid connected electricity is more
expensive than DER
Distributed storage
costs
Remains expensive
Becomes cost
competitive with
grid connected
electricity
Policy mechanisms
Favor utility scale
generation (little
support for DER)
Support DER
Support DER and
possibly also
distributed storage
Consumer
engagement in
electricity
Low
Moderate
High
Consumer trust in
government &
utilities
High
Moderate
Low
Source: Authors
The Centralized scenario could eventuate if grid connected electricity prices remain
relatively low compared with DER alternatives, and will be further facilitated if policy
makers implement mechanisms that favor investment in utility scale generation. This
could include market settings that prevent DER and demand response from
providing ancillary services essential for operating a system with a large penetration
of variable generation. It would also be facilitated by a low degree of consumer
engagement in electricity issues, or possibly by a relatively higher degree of
consumer trust that the Government and corporate entities involved will continue to
provide cost effective, reliable, safe, sustainable and secure electricity for the
foreseeable future.
If DER becomes a cost effective alternative to grid connected electricity, a move to
the Decentralized scenario may be observed. This could be assisted by government
policy that supports the development of DER.
Development of low cost storage, such that sole reliance upon DER becomes an
economically competitive option for consumers, is likely to be a critical factor for the
development of the Disconnected scenario. NSPs could also play a role in bringing
about this outcome. As pointed out in the chapter by Nelson, if NSPs provide
competitive connection fees, the majority of DER customers would rather remain
connected to take advantage of the cost effective reliability offered by the grid.
Consumers in this scenario are likely to be highly engaged on electricity issues, and
may have a low trust of government and utility services. If not, even though off-grid
installations may be economically attractive, the majority of consumers may remain
grid connected to avoid the hassle of ensuring their systems perform reliably on an
ongoing basis.
Finally, a hybrid scenario could eventuate where different groups of customers
respond differently. For example, residential customers may move to off-grid
operation driven by a preference for self-sufficiency, while industrial customers may
be more economically driven and remain grid connected for added reliability.
It is important to bear in mind that the ESI and policy makers are not helpless
bystanders to this process. The decisions and approaches adopted by these
organizations are also key determining factors. Innovative pricing arrangements and
a willingness for flexibility and adaptability in the ESI could facilitate a slowing of the
transition to a Disconnected scenario, allowing at least partial recovery of extensive
sunk costs, and a more gradual transition to new business models. This is discussed
further in the following section. Standard is to have a single space after a period
4 Insights for Stakeholders
This section explores the key insights for relevant stakeholders, including the various
functional areas of utility businesses (as defined in Figure 1). Insights include the
potential consequences of the three scenarios, and also the ways in which
stakeholders may have influence over which scenarios eventuate, and how their
business fares in that new future.
4.1 Network Service Providers
Network service providers (NSPs) are identified as being one of the key
stakeholders. NSPs are highly exposed to the consequences of a shift to greater
DER, and also typically have a relatively higher degree of control over a key
influencing factor: the pricing of network services.
In a Centralized scenario, NSPs could expect to retain a similar role to present. The
transmission NSPs may need to supply additional transmission network to connect
remote renewable generation to the load centers, but otherwise their role would
remain relatively unchanged.
The distribution NSPs may see increased competition from retailers and aggregators
in signing up customer load for demand side participation. This may lead to a loss of
load control capability currently used to manage local network constraints, therefore
potentially bringing forward network investments. One solution could be to use
localized and dynamic network tariffs to improve price signals for aggregators and
retailers to use the DSP where optimal from a societal point of view. This may also
require more coordination between distribution NSPs and the system operator, as
discussed in the chapter by Kristov and Hou.
In the Decentralized scenario NSPs are placed in an interesting conundrum. In many
nations, the majority of network costs are recovered from consumers via regulated
c/kWh tariffs. To maintain cost recovery with declining energy sales, these tariffs will
need to increase, assuming that costs remain relatively static. This then drives more
customers to utilize more DER and energy efficiency, thus consuming less
centralized electricity, resulting in what some have termed a ‘death spiral’
(Simshauser & Nelson, 2012). This could be further exacerbated if peak demand
growth continues while energy usage declines. In this case, NSPs would need to
continue to expand the network to meet rising peak demand, increasing costs, while
that network is being utilized for a declining proportion of time, reducing revenues.
Through careful structuring of tariffs, possibly using some combination of time of use
components, fixed charges and capacity charges as discussed in the chapter by
Nelson, it may be possible to limit this effect. The approach adopted would need to
be carefully balanced to provide accurate price signals to consumers to encourage
use of existing assets with sunk costs, whilst limiting increases in peak demand, and
thus avoiding costly network augmentation where DER or demand side participation
may be a cost effective alternative.
However, cost recovery is no longer the only relevant consideration in network
pricing. With growing availability of DER and storage options, customers now have
an increasingly realistic alternative to network services. This disturbs the ‘natural
monopoly’ long held by NSPs. Thus, the way in which networks are priced and
regulated may need to change dramatically.
Two possible situations can be envisioned:
1. Network remains lowest cost – In this situation, the lowest cost way of
supplying reliable electricity to consumers, in aggregate, remains the grid.
This suggests that a Decentralized or Centralized solution remains lower total
cost than a Disconnected solution.
2. Distributed solution becomes lowest cost – In this situation, it is genuinely
lower cost in aggregate for consumers to source reliable electricity from local
DER and storage options, assuming all existing network costs are sunk. This
suggests that a Disconnected solution becomes lower total cost than a
Decentralized or Centralized solution.
In either case, NSPs, with consent of regulators and policy makers, may have a
choice on how to set network tariffs, and thus could bring about either the
Decentralized or Disconnected scenarios. Thus, four possible combination scenarios
eventuate, as illustrated in Table 4, and discussed further below.
Table 4 - Alternative combination scenarios.
Decentralized is lower cost
Disconnected is lower cost
Decentralized
scenario
eventuates
NSPs adapt tariffs, providing
innovative pricing structures
that reflect the lower cost of
network solutions and are
attractive to consumers.
Likely to be a temporary transition
to Disconnected scenario, perhaps
perpetuated by network asset
write-downs or government
subsidies
Disconnected
scenario
eventuates
Could be driven by NSP failure
to provide attractive offering to
consumers (‘death spiral’),
which reflects the lower cost of
this solution
Could occur rapidly and cause
stranding of existing network
assets, if NSPs do not provide an
attractive offering. Transition could
be slowed if NSPs respond with
“shadow pricing” approach
Source: Authors
If a Disconnected scenario is ultimately lower cost than a Decentralized scenario, as
in the right column in Table 4 it is likely that the system will inevitably trend towards
Disconnected. However, at least in the short-run, continued utilization of the existing
network is likely to be beneficial to both consumers, deferring capital expenditure,
and NSPs, continuing revenue and avoiding stranded assets.
If the network connected solution remains lowest cost in aggregate, it is in the long
term interests of consumers to remain grid connected, leading to the Decentralized
or Centralized scenarios. However, this will only occur if each individual consumer is
provided with an attractive offering from NSPs. If NSPs fail to adjust their tariffs to
reflect the lower cost of the grid connected alternative, customers progressively may
elect to leave the grid, leading to the Disconnected scenario – an unfavorable
outcome for both NSPs and customers, with significant stranded assets and higher
aggregate consumer costs.
In this situation, NSPs may be better advised to adopt a ‘shadow pricing’ approach.
This would adjust network tariffs associated with use of the existing network to be
just below the cost to customers of moving to DER and storage alternatives.
This approach acknowledges that full cost recovery of the sunk costs in the existing
network may no longer be possible in this scenario, but seeks to utilize the existing
infrastructure to the maximum benefit of consumers, and recover as much of the
sunk cost as possible. For government owned assets, this would represent a
significant reduction to government revenues, while for private NSPs or for equity
investors, it would require a major write-down of asset value.
For networks owned by governments a reduction in government revenue, while
continuing to supply network services at a price below cost reflectivity, represents a
government subsidy. Governments could subsidize tariffs for all consumers or,
alternatively, just the most marginal customers. Although funded from government
revenues, the total cost to consumers - taxes plus electricity - would still be lower
than the Disconnected scenario and each consumer should, at least monetarily,
“prefer” these subsidies.
Even if the Disconnected scenario is lower cost, such that the system will inevitably
trend in that direction, the shadow pricing approach will slow the transition, ensuring
that the maximum value is extracted from existing network assets until they are fully
retired.
In any case, since network tariffs are heavily regulated at present, policy makers and
regulators will need to be actively involved in these decisions which may require the
freedom to implement innovative solutions that do not exist under present regulatory
frameworks.
The shadow pricing methodology requires distinction between existing network
assets with sunk costs, and investment in new network assets. For example,
regulators and policy makers should be careful to avoid implementing network
subsidies that encourage new infrastructure to be installed where allowing a
decentralized approach to evolve would be more cost effective in the long term.
The specific structure of the tariffs is also likely to be extremely important, and non-
trivial to optimize. Differing combinations of c/kWh tariffs, capacity charges, time of
use charges and other innovative pricing methodologies may be appropriate for
different customer groups, depending upon the local alternatives for DER and
storage, the local costs of network augmentation, and the amount of ‘headroom’
available in the existing network capacity. This could be highly locationally specific,
perhaps extending as deeply into the network as the individual feeder level. This
creates new challenges for regions that have previously smoothed prices over large
areas, ensuring that remote customers are not disadvantaged. For example, in the
Australian state of Queensland, the Australian Community Service Obligation
subsidizes rural networks out of government revenue (QCA, 2012). Equity between
customers and protection of vulnerable consumers are likely to be key issues for
consideration. The structuring of network tariffs is discussed in more depth in the
chapter by Nelson and others, while retailer strategies are discussed in the chapter
by Faruqui and Grueneich.
The greater degree of demand side participation could also mean that in future
individual customers may have the ability to select their desired level of reliability,
and corresponding cost. Rather than the market operator making a judgment on the
customer value of reliability in aggregate, customers would be able to tailor their
energy services to meet their individual needs. Analysis in Australia suggests that
while the average value of customer reliability may be around $95,000/MWh,
residential customers may value reliability at a much lower level of around
$20,000/MWh, with small businesses valuing reliability at a much higher level
(Oakley Greenwood, 2012). Thus, network businesses may have opportunities to
offer tailored reliability options to customers, specific to their individual needs. The
chapter by Thaler and Jimison considers the possibility of customer driven incentives
for retailers.
4.2 Policy makers and regulators
As indicated in section 4.1, policy makers and regulators have an important role to
play in working with NSPs to ensure sufficient regulatory flexibility for innovation and
market responsiveness. Regulatory policies that could allow the necessary transition
to new business paradigms are discussed in more detail in the chapter by Miller et
al. Ultimately, if DER and storage alternatives provide a realistic alternative to grid
connection, it may be possible to reduce regulatory controls on NSPs and allow
market forces to motivate their actions.
More broadly, policy makers have influence over the types of technologies that may
become cost effective. For example, subsidies for renewable energy can deliberately
or inadvertently support uptake of DER, or instead preference investment in utility
scale generation. Policies that accelerate the uptake of electric vehicles may also
have the secondary effect of promoting research and development in storage
technologies, making off grid options more affordable.
Another key question for policy makers is around customer equity, and the protection
of vulnerable customers. Low-income families, apartment dwellers or renters who do
not have access to capital, rooftops, or low-cost distributed generation could face
higher costs, particularly if they are required to fully fund the remaining network while
other customers move to off-grid operation; the chapter by Burger and Weinmann,
quantifies costs in the German system. Cross subsidies that incentivize remaining
grid connected, or support vulnerable customers, may be justified in some cases.
These subsidies could be funded via general taxation. Alternatively, some
governments (such as Spain) tax rooftop photovoltaic installations, slowing uptake
and providing additional revenue.
4.3 System Operator / Market Operator
In the Centralized scenario, the system operator and market operator roles are
similar to today, though with the added complexity of managing an increasing share
of large-scale renewable generation. An increasing share of variable generation will
necessitate evolution in system operation practices and market design
considerations (Riesz, Gilmore, & Hindsberger, 2013).
Under the Decentralized and Disconnected scenarios, the system and market
operator roles will need to evolve, managing the remaining centralized generation,
facilitating the operation of loosely connected microgrids, responding to increased
customer participation and potentially managing a system where a declining
proportion of generation is under direct control. The chapter by Kristov and Hou
further discusses the interface between the system operator and the distribution
system.
An increase in DER may facilitate the retirement of large thermal plants. In most
systems these plant currently provide important ancillary services, including some
that are not explicitly priced at present, such as inertia. The establishment of new
markets or ancillary service types may be required to pay eligible generators,
including DER, for services previously supplied for free. Furthermore, increasing
levels of demand side participation may become important. As energy supplied via
the grid declines, there will be a strong push from grid users for system and market
operator efficiency gains, so that the cost per unit of energy served does not grow
significantly faster than other consumer prices.
The future role of the grid operator is discussed in more detail in the chapters by
Kristov and Hou, Felder and others.
4.4 Electricity Retailers and Generation Companies
In many markets, electricity retailers and centralized generation companies are
vertically integrated or bundled, as a strategy for managing volume and price risks.
In the Decentralized and Disconnected scenarios, both retailers and generation
companies will see declining energy sales, and thus declining revenues. DER,
storage and energy efficiency will act as competing suppliers of electricity services.
In many markets, increasing penetration of renewable technologies with low
operating costs will “undercut” incumbents, further decreasing the market share of
conventional generators. Where there is significant penetration of variable
renewables, this could exacerbate uncertainty and price risk across all scenarios.
Generation companies, in particular, have large sunk costs in existing generation
assets that could become stranded in a Decentralized or Disconnected scenario.
Generation companies could attempt a ‘shadow pricing’ approach similar to that
described for NSPs in section 4.1, but in competitive markets may already be
offering generation at close to operating costs. Generating at market prices below
operating costs simply exacerbates financial losses. Thus, generation companies
that are already offering conventional generation at the lowest price possible, and
with the maximum degree of flexibility may have relatively little ability to respond to
changing market conditions. Diversification into new business areas, as described
above and in section 4.5, may be the best option to ensure continued profitability.
Large utilities may need to respond through diversification, either in markets or
technologies. Retailers may have a larger ability to take advantage of new business
opportunities involving further empowerment and engagement of consumers, as
described in section 4.5.
Lower demand growth will also affect investments in lower-carbon emitting plants.
Investments in nuclear power and carbon capture and storage may be considered
too risky in a lower growth environment given the high capital costs. Investment in
peaking plant may also be considered high risk compared with investing in demand
side participation. Demand side participation is typically based on shorter term
contracts with customers and carries minimal up-front capital costs, and neglecting
to pursue demand management opportunities means missing out on one of the few
parts of the electricity industry that is likely to grow in coming years (Doom, 2013).
4.5 Emerging Business Opportunities
With the decline of certain business models, others emerge. This section highlights
several business opportunities identified as having growing potential in the three
scenarios considered.
In many regions, utility businesses have not been able or encouraged to engage in
entrepreneurial activities. Some are already recognizing the limitations of their
present skill set, and have sought to partner with investment firms to help establish
start-ups, pilot programs, demonstrations and test beds (McCue, 2013).
4.5.1 Investment in low carbon technologies
Investment in low carbon technologies may offer diversification and profitability in
markets where those technologies are adequately supported. However, these
technologies will be threatened by a shift to DER and storage in a similar manner to
conventional centralized generation.
In many European countries, the initial development of renewables was typically
done by smaller market players, but the larger utilities are expected to provide about
half of all new large renewables projects (Giuseppe Lorubio; Pierre Schlosser;
Susanne Nies, 2013). However, there are large differences between utilities, with
some investing little and some heavily in renewables. An example of the latter is
DONG Energy, where investing in off-shore wind capacity is one of the three
strategic pillars of the company. At the beginning of 2013, DONG had led the
construction of 38% of all installed off-shore wind capacity in Northern Europe, and
owned 1700 MW (DONG energy, 2013).
4.5.2 Supplying DER and storage technologies
The supply of DER and home storage technologies is a clear emerging business
opportunity. With a move to a Decentralized or Disconnected scenario, there would
be large market take up of these technologies, suggesting that companies with
competitive offerings in this area could operate successfully. Many electricity
retailers have already moved into this space, supplying DER to their customers in
the form of rooftop photovoltaics as an alternative to grid connected electricity.
Some companies are moving into innovative financing models, such as offering solar
leasing arrangements. These “pay as you go” alternatives can make DER options
feasible for customers with constraints around access to capital (Martin, 2012).
4.5.3 Energy management technology
Technologies that assist customers in managing their electricity consumption and
generation are likely to play a growing role in future electricity systems. This could
include more energy efficient appliances, as well as software and hardware that
allows automated or pre-planned response of customer load to signals from the
system operator, or direct response to system prices.
Innovative financing alternatives are also being explored for energy efficiency
investments. Models that allow customers to “pay back” energy efficiency
investments over a period of time through their power bills could become
increasingly popular (Pentland, 2013).
4.5.4 Demand aggregators
There is likely to be a growing place for demand response in future power systems,
particularly where there is an increase in variable renewable generation. Demand
response allows greater flexibility and potentially lower system costs, while supplying
customers with the level of reliability they desire.
Demand aggregators could play an important facilitating role in bringing demand
response to the market. Aggregation of many small participants could reduce
transaction costs, and provide greater certainty to the system operator that a certain
degree of response is available with a known degree of confidence. Frequency
control services could potentially be provided, in addition to energy services. For
example, many frequency control services are already provided by demand
response in New Zealand (Zammit, 2012).
4.5.5 Minigrids
While some customers may prefer to be entirely self-sufficient, loosely connected
minigrids may evolve to take advantage of the benefits of sharing demand and
generation variability over a larger customer base and geographical area. Thus, new
business opportunities could arise in the provision and management of minigrids,
and in the technologies necessary for their efficient operation. Customers are likely
to continue to want high reliability without significant investment of personal time,
creating opportunities for in-home energy management services. The chapter by
Felder provides further discussion on microgrid scenarios.
4.5.6 Telecommunications
With the evolution of “smart grids”, NSPs could have an opportunity to expand into
the provision of fiber optic networks, often rolled out alongside smart meters. This
could provide additional services to customers such as video-on-demand. In
Australia, SA Power Networks, the local distribution NSP, has secured a three year
contract to deliver fiber optic broadband to around 300,000 South Australian
households as a part of the National Broadband Network rollout (Swallow, 2013).
5 Conclusions
An analysis of the key drivers of change in power systems at present suggests that
while a shift to lower carbon intensity supply appears inevitable, there is far less
certainty around the amount of DER that could operate in future grids. In some ways,
a move to extensive DER could be far more transformational for the electricity sector
than a move to lower emissions energy. It would dramatically change the structure of
the industry, eliminating the need for some utility roles, and opening up opportunities
for new ones.
This creates a challenging environment for utility businesses, particularly those with
the potential for costly stranded assets and a business model that could become
defunct, such as NSPs. These businesses will need to adapt and seek innovative
approaches. In some circumstances, it may be necessary to accept an approach of
slowing an inevitable transition towards DER to allow managed diversification into
alternative business models.
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