Net Metering Arbitrage

A very smart colleague came up with this one while running his tractor.

Net metering faces two obstacles:  one practical and one political.  The practical problem is that not many customers do it because they need to work through rules, contractors, and arithmetic.  The political problem is that it's economically irrational:  the effective payment to the customer-generator from running the meter backwards is the full retail rate (which reflects the utility's running costs and its fixed costs), whereas the cost the utility avoids is only its running costs.  Net metering does not avoid sunk costs.  Net metering may boost renewable energy but the customer-generator is overpaid—by other ratepayers, by utility shareholders, or both. 

In capitalism, where there's inefficiency, there's arbitrage.  How about this:

Entrepreneur pays the customer-generator a fixed amount.  In return, the customer gives up her net-metering right to have her meter run backwards when she generates.  So the customer receives a normal bill based on her consumption, unadjusted by her production.  But she gets a monthly check for a fixed amount from the entrepreneur.

Now what happens?  The entrepreneur contracts with the utility.  The entrepreneur would receive from the utility a payment reflecting what the utility normally would provide the customer-generator:  a payment reflecting the retail rate times the kwhs generated by the customer.  Except they make a deal:  Instead of the utility paying that full amount (which would bring no savings to the utility compared to paying the customer), the utility pays some discounted amount.

Everyone is better off.  The customer-generator is receiving a steady amount, rather than bill credits that vary unpredictably with windiness and sunniness.  The utility (and its ratepayers and shareholders) is better off because the cost to the utility of "buying" customer generation is now lower than the full retail rate (which was over-compensation to begin with).  The entrepreneur is better off because he's made a buck arbitraging inefficiency.

As far as I can tell, no element of this transaction triggers either the Federal Power Act or traditional state utility law.  It's like what we used to call "factoring," where a third party buys the utility's receivables at a discount, giving the utility money up front and doing a better job of collecting on bad debt.  It's a transaction in money, not power. 

Factoring while tractoring:  Not a bad insight.  Any comments?


Jon Wellinghoff

How is the entrepreneur not making a sale for resale?

Scott Hempling

Chairman, thanks for the question. I think it is not a sale for resale because the transaction between entrepreneur and retail utility is not a "sale of electricity at wholesale." The entrepreneur has not purchased the power from the customer-generator. The customer-generator still has the traditional net metering relationship with the utility, where the c-g overgenerates relative to her consumption, and the retail utility receives the surplus. Since the entrepreneur never takes title to the c-g's power, it cannot have sold power to the utility. The transaction between the entrepreneur and the utility is financial only. By the way, I am not necessarily saying this type of transaction is a good or bad idea. Just conversing about the option. Thanks again for writing. Scott

Jim Lazar

In many cases, net-metering is a good deal for the utility. In others, it is an infant-industry subsidy, much like many in economic history. Either is acceptable, and both have a place in the world. Arbitrage of the "right to self-generation" is much like selling indulgences; it's not real, and it should not get real compensation. Scott is incorrect that the self-generator does not help the utility avoid fixed costs. Sure in the first instant the system enters service that may be the case, but utilities are dynamic enterprises, building new generation, transmission, and distribution capacity every year, retiring older units, and examining what's on the horizon. A utility that sees a lot of customer-sited generation on the horizon would be imprudent to not consider than when planning new generation or distribution capacity upgrades. When we started seriously evaluating the capacity value of energy efficiency in the Pacific Northwest, including T&D capacity, we nearly doubled the avoided cost associated with weatherization. The same principle applies to renewables. As with efficiency, the distribution capacity benefits of local generation are very significant. A solar system is likely to provide relief to the grid during peak hours, reducing very high marginal losses, and helping avoid long-run transmission, substation, and even distribution capacity upgrade costs. Wind, obviously, is a little different. The PV customer will be selling relatively valuable power to the grid, and drawing from the grid during shoulder and off-peak hours. If they are not buying and selling on a TOU tariff, the utility may be the winner in the transaction, not the self-generator. Once we transcend the "infant industry" era --- that is, we get to where something like 10% or more of utility customers are also self-generators -- THEN, and ONLY then is it time to retire the infant industry program. Even Hawaii, where solar competes with $.35/kWh utility power generated with diesel fuel, we have not gotten to that level of saturation. When we get to that threshold, we should develop a long-term cost-based tariff, that pays the customer fairly for the value of the generation they provide and the T&D relief that comes with it, but also charges the customer fairly for the local distribution service that is needed to move their surplus power to a nearby load. But there's no basis for charging them for central station generation, transmission, or subtransmission, because the power they upload never moves above the distribution substation level.

Scott Hempling

Jim, Thanks for this incredibly thoughtful and erudite comment. I certainly agree that in the longer run net-metering transactions can cause utility to avoid capacity cost, thereby justifying the overcompensation (relative to avoided cost) that occurs in the short run. My point was in no way to condemn the compensation concept; only to recognize that that difference between the customer-generator's compensation and the utility's avoided cost is one that can be bridged through the arbitrage, with the utility (and its other ratepayers) better off and no one worse off. This arbitrage concept is not one I necessarily agree or disagree with; it just seemed an interesting, if obscure, concept to discuss. I have distinct and positive memories of your many substantive contributions during the Hawaii PUC proceedings I moderated, and wish you the best. Thank you for being in touch and being so contributory. Scott

Tom Adams

Net metering is an example of how vulnerable the utility industry is to policy fads and parasitism by policy entrepreneurs. Utilities charging consumers rates that variablize fixed costs have put a "kick me" sign on their own backside. As soon as the phrase "net metering" pops up, in comes a stream of the usual apologetics -- capacity is always undervalued, losses on peak are higher than anyone imagines, PV does nothing but cut the peak. Hang on. Many utilities have excess capacity. Industrial load erosion has freed up T space for many utilities. Outside of air conditioning season, PV exacerbates evening ramping. This is not a theoretical debate. As the cost of PV drops, utilities are going to have to smarten up their rate structures. Failure to do so will mean uneconomic bypass. Low income consumers have a lot at stake if utilities and regulators don't step up and do their jobs.

Jay Shepherd

The essence of this transaction is that the entrepreneur is being paid to take the volatility risk, much like an insurance company. The involvement of the utility is an unnecessary add-on that doesn't change the basic transaction. The entrepreneur could just as easily contract with the generator to take an assignment of the full monthly payments in return for a fixed monthly payment to the generator. The utility would not be involved. Once it is looked at this way, one wonders what problem is being solved with this transaction? Do net-metering generators need to lay off their volatility risk? Is there a market for this? I wonder. Further, if there is a market, why would the entrepreneur involve the utility at all? That just means the generator and the entrepreneur are splitting up a smaller pie. In the proposed transaction, the utility adds no value, so logically has no reason to be involved.

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