Causes of a Utility Death Spiral
For over 100 years the government has guaranteed utilities a reasonable operating profit. However, current conditions have led utilities to the precipice of a death spiral.
The regulatory compact, embedded in all state public utility acts, requires utilities to provide reliable service to their customers in exchange for a government guarantee of a reasonable return on utility investment. What could be a better promise for a business? Provide a necessary service to customers and receive a steady and reliable return for investors.
But now there is talk of a utility death spiral. A death spiral can be defined as “a situation that keeps getting worse and that is likely to end badly with great harm or damage being caused.” Is this even possible?
Well the fact is that not only is it possible, it is probably true. Utilities have invested in infrastructure that provides a necessary service. Their government approved rates include recovery of, and a return on, that investment in infrastructure.
But customers are responding to these rates by installing distributed generation like rooftop solar. This self-generation reduces, or even eliminates, purchases from the local utility. And even though sales go down, the fixed costs of the installed infrastructure remains the same. And those fixed costs have to be recovered from remaining customers. Those costs will be recovered over fewer sales and rates for those sales will inevitably increase.
As rates increase more customers will decide to install their own distributed generation. This further reduces sales by the utility and increases rates for remaining customers. If nothing is done to check this utility death spiral the infrastructure costs will either be paid by the poorest customers who can least afford to install distributed generation or will not be paid at all sending the utility into bankruptcy.
Utility Response to the Death Spiral
Some utilities have responded to the death spiral by seeking to hold on to the status quo. To retain sales, they have opposed government incentives to customers that tend to overprice the value of distributed generation. And to make sure that they recover their fixed costs, they have proposed to “decouple” recovery of fixed costs from sales-based charges. Where decoupling has been approved the utility recovers its infrastructure costs through a fixed customer charge paid by all customers no matter how much electricity they use.
The utilities’ tactics effectively reduce the benefits of distributed generation for customers. Customers hoping to get the full benefit of distributed generation will opt to disconnect from the grid. At one time disconnecting from the grid would have been almost unthinkable. However, now more and more customers can disconnect by purchasing small scale storage to back up their distributed generation or by joining a micro-grid. The following video describes the operation of such a micro-grid:
If the utility tactics that seek to stop the death spiral force customers off the grid they will not stop the utility death spiral. They will instead exacerbate it.
As described in the Post entitled What is the Smart Grid? utilities can achieve significant efficiencies for the entire system if they use a Smart Grid to gain the ability to monitor and control customer owned distributed generation. In other words, it is in the public interest for the utilities to keep customers on the grid and to take advantage of their efforts to use distributed generation. It will be up to utilities and policy makers to determine how the utilities will be able to both meet the public interest and to thrive financially in an environment where their traditional source of revenue (selling and/or transmitting energy) is shrinking.
For more information on utility response to the death spiral see the Deloitte article entitled Beyond the math: Preparing for disruption and innovation in the US Electric power industry.
I. David Rosenstein worked as a consulting engineer and attorney in the electric industry for 40 years. At various times during his career he worked for utility customers, Rural Electric Cooperatives, traditional investor owned regulated utilities and deregulated power generation companies. Each of his posts in this blog describes a different aspect of the past, present or future of the electric industry.