International Energy Efficiency Initiative     Print Email

Energy efficiency is the most immediate and cost-effective opportunity to reduce global greenhouse gas emissions. According to the United Nations Foundation in Washington, a recent assessment by Project Catalyst concluded that improving energy efficiency could provide roughly one-third of available, cost-effective emissions reductions in 2020.

It is one of the few large-scale mitigation options that yields a positive economic return while providing a wide range of other social, environmental, and security benefits. Energy efficiency is attractive in all nations and especially in developing countries because it allows existing energy sources to serve a larger population and facilitates universal access to modern energy services a key requirement for poverty reduction and sustainable development. A study by the McKinsey Global Institute determined that profitable investments in energy efficiency through 2020 could cut global energy demand growth in half.

Another significant innovation could come with reforms of utility companies' regulatory regimes to reward them for efficiency improvements, as has been done in California.

International Energy Efficiency Initiative

An Abridged Version of a UN Foundation Background Paper

(underscoring added by EI)


“Changing the Utility Business Model” (with particular reference to U.S.)

Main Points

- The global community is poised to make huge investments in very costly new electricity generation because of exploding demand.

- However, energy efficiency can supply most or all of future electricity demand growth through 2030 and it is two to three times less expensive than conventional supply options

- Building more power plants without first investing in all cost effective energy efficiency is a huge misallocation of capital

Based on evaluations of current energy efficiency deployment programs, analysis – A predicted 20 to 30 percent reductions in electricity demand can be supplied, in the U.S., at a cost of $0.05 per kilowatt-hour .

- Recently, some U.S. utility regulators have “changed the rules” to set good policy signals.

- Regulators, utilities and governments in both the US and other countries can learn from recent experiences to adapt this policy approach to their national market to enable utilities to profitable deliver energy efficiency.

Meeting global energy demand is a complex and expensive task. Concerns about climate change and energy security are weighed against the rising costs of energy and the need to power the global economic engine. Despite the fact that interest in pursuing efficiency is increasing and existing efficiency programs are performing well, a very large amount of cost-effective energy efficiency remains untapped. This background paper explores the case for efficiency in the U.S. and reviews policy changes in several states that lay the foundation for large-scale energy efficiency improvements.

The U.S. will require a lot of investment to supply its energy needs. The Brattle Group forecasts the need to supply 150,000 new megawatts at a cost of $1.5 trillion to meet domestic electricity needs through 2030. The cost of electricity, however it is supplied, will be passed along in higher consumer electricity rates. Investing in energy efficiency first not only supplies power to the consumer at the lowest price, the reduced demand lowers consumers’ bills, despite increases in rates, compared to other alternatives.

The technology exists today to supply a majority, if not all, of U.S. demand growth with energy efficiency. In 2007, the McKinsey Global Institute concluded that investments in energy efficiency that return 10% or more could cap domestic demand and greenhouse gas emissions at current levels. Much of the potential for energy efficiency lies in the residential and small commercial sectors – markets largely untouched by energy-services companies. Utility companies, with their existing customer relationships, access to customer information, and transparent funding mechanisms, are well-positioned to deliver energy efficiency into these sectors. However, utilities have not taken a leadership role because the regulatory structure in many states rewards them for investing in more power generation and punishes efficiency. States, the frontline for addressing the U.S. energy dilemma, are starting to explore utility-driven energy efficiency programs to supply their power needs cleanly and inexpensively. In addition, forward-thinking operators of regional power pools and entities responsible for making sure that supply is adequate to meet demand are allowing utilities and other companies to sell energy efficiency into the system as if it were a traditional power supply option.

Efficiency should be the supply option of first choice once states remove profit disincentive for utilities to pursue energy efficiency. Recent improvements in technology and practice have brought the cost of freeing up a kilowatt-hour of electricity through energy efficiency down to less than half of the cost of building new generation. This cost point remains fairly stable over time and does not appear to be highly dependent on location. By contrast, the cost to build and operate power plants is skyrocketing due to across-the-board cost increases for construction materials, coal, natural gas, and other fuels.

Efficiency is deployable much more quickly than new generation. … [There challenges with new nuclear plants and similar difficulties with transmission.] A large portion of the country’s transmission grid will be at or above targeted capacity within five to seven years. Like new generation, new transmission infrastructure is costly and time consuming to site and build. Energy efficiency investments can help ease the strain on the system and delay or avoid investment in new transmission lines.

Investments in efficiency can be profitable and create jobs. Independent system operators that allow efficiency resources to bid into capacity auctions have seen significant interest from utility and merchant providers. These efficiency resources are a profit center, because the megawatts are purchased at a clearing price well above the cost of implementation. Efficiency programs have a track record of producing jobs. Jobs supporting the efficiency economy are long-lasting, service-oriented, local, and impossible to outsource. Further, efficiency creates new managerial and back-office positions that support the work in the field.

The consumer pays the cost of supplying new electricity. Over the last 10 years (1996 to 2006) average domestic residential rates have increased by 2.2% each year. However, the last two years have seen the highest annual increase in rates by far – 5.6% between 2004 and 2005 and 10.1% between 2005 and 2006. Rates will continue to climb as the cost to build and operate power plants, as well as the cost of new transmission, increases.

The construction cost of new generation, regardless of type, has increased rapidly over the last several years. Since 2000, actual construction costs of steam generation (primarily coal) and natural gas plants have risen nearly 50% and 26% respectively. Over the same period, inflation has gone up less than 20%.

National policy changes like a price on carbon will also increase the cost of new generation relative to energy efficiency. Efficiency investments, largely carbon neutral, will not be impacted by a price on carbon. Efficiency will be even more advantageous under a cap-and-trade system that gives credits for efficiency investments. Under this scenario, the net cost of efficiency will fall while the cost of fossil generation will rise.

Widespread Deployment of Energy Efficiency is the Cheapest, Quickest, Cleanest Way to Meet Growing Demand for Electricity

Energy efficiency portfolios, on average, cost approximately $0.03 per kilowatt-hour to implement…Unlike the costs to build new generation, efficiency portfolio average costs tend to be stable or fall as new programs are added. New technology and improved implementation capacity lower the cost of the whole portfolio and counteract the higher marginal costs of newer programs, at least up to a program size of approximately one per cent of electricity sales per year.


Other Benefits of Efficiency

Energy efficiency is a profit center for utilities operating in markets where energy efficiency and demand response assets are included in capacity auctions. In 2006, ISO New England, the corporation responsible for overseeing New England’s deregulated power system and bulk power grid, incorporated efficiency and demand response resources into its Forward Capacity Auction process. Under the system, utilities and merchants could bid into the capacity market and receive the market clearing price just like any other generation asset. Nearly 2500 MW of efficiency and demand response projects were bid to cover peak demand – nearly five times the projected growth in peak demand.

Pursuing all cost effective efficiency helps delay or avoid the need for new transmission. The Brattle Group estimates that new transmission infrastructure to meet current forecasted demand will cost $900 billion through 2030...Beyond cost considerations, an over-taxed transmission grid has serious implications for energy reliability.


State Action on Efficiency

In most U.S. states, utilities build power plants, sell electricity, and recover their costs and earn a rate of return for each kilowatt hour they produce. There is no incentive for the utility to aggressively pursue energy efficiency under [the regulatory schemes in most States of the U.S.] -- even though efficiency is the least expensive and cost-effective way to meet demand. Led by California, some States have removed the disincentive to pursue cost effective energy efficiency by adopting a regulatory structure that “decouples” profits from electricity sales. Full or partial decoupling of utility profits has been enacted in 17 States and is under consideration in 11 more and the District of Columbia.

Decoupling ensures that utilities retain their expected earnings even as energy efficiency programs reduce sales. When it works correctly, rates will steadily increase but customer bills will fall as they reduce consumption. (U.S. News 2008) While the details vary by state, decoupling generally works as follows:

· Utilities submit their revenue requirements and estimated electricity (or gas) sales to regulators.

· The regulators review the utility submission, hold open stakeholder hearings, and set consumer rates that let utilities cover their costs and earn a fair return for shareholders.

· Actual deviations from this formula are discovered through monitoring and verification programs and reconciled through credits to consumers (in the case of excess utility revenue) or recoveries from consumers (in the case of a revenue shortfall). This is often referred to as a “true-up” process.

In many cases, proceedings to approve decoupling have been supported by the large utilities. While specific motivations vary, decoupling is favorable for the utility business model because it:

· provides for more predictable utility distribution revenues that are better aligned with costs by eliminating revenue fluctuations due to weather and changes in customer usage patterns,

· creates more reliable fixed-cost recovery, thus creating more revenue certainty, and

· removes the disincentive to pursue efficiency, which is the least expensive way to meet new demand and reduces transmission capacity problems.

Beyond utility reform, states are enacting a variety of pro-efficiency policies that include a combination of efficiency targets, improved codes and standards, research and development funding, and demand response.



Tightening building codes and appliance standards will also significantly improve efficiency. Appliance energy standards are set at a national level by the Department of Energy…estimates suggest that existing codes and standards will reduce energy use by 18% through 2030 [in the U.S.].


The California Example Spreads

California’s long-standing “decoupling” policy is designed to remove the disincentives for utilities to promote energy efficiency and conservation among energy customers. Under decoupling, California’s per capita energy has remained relatively flat over the last thirty years. To put this in perspective, energy use per capita in the rest of the country has increased by 50 percent. As a result, Californians enjoy electricity bills that are approximately 20 percent below the national average.

Across the country, other states are following California’s example and creating a policy environment that supports energy efficiency.