header image

Can Feed-In Tariffs Work in the U.S.? by Kenny Key

Posted by: | April 6, 2011 Comments Off on Can Feed-In Tariffs Work in the U.S.? by Kenny Key |

Amid the push for renewable energy and the growth of the solar and wind energy sectors there has been a myriad of policy choices regarding energy technologies made by legislatures both domestically and abroad. While many foreign jurisdictions have focused on Feed-In-Tariff (FIT) policies to push the renewable sector,[i] the United States has for the most part used Renewable Portfolio Standards to incentivize the growth of the renewable industry.[ii] With the onset of the economic recession in the United States, many of the programs aimed to subsidize the growing renewable energy sector have been abandoned or met with harsh criticism. It might be time for many U.S. states and counties to reconsider FITs as a proven way to spur the renewable industry.

            FITs are a form of subsidy for renewable energy producers that add a guaranteed payment amount to the price utilities pay for renewable energy. These subsidies are needed for the industry to grow, because the technologies are not yet cost competitive with fossil fuels, and the true cost of fossil fuels are not reflected in their price.[iii] FITs are defined as an “energy-supply policy focused on supporting development of renewable power generation” by providing guaranteed payments and access to the grid.[iv]  In essence, if a wind farm is set up by a renewable developer, a FIT would guarantee that a utility would purchase the power at a fixed rate and deliver it to the grid. Under this program the FIT is either paid by the utility or a state agency, with the cost being passed on to electricity consumers through higher electricity rates.

            There are two different ways to determine the guaranteed return that is provided through FIT polices. First, is the “levelized cost” approach, which is used in most foreign jurisdictions.[v] In this method, the payment (or subsidy) is based on “the levelized cost of [renewable energy] generation, plus a stipulated return.”[vi] Second is the “value” approach, which has been used by states within the U.S. that have attempted FITs.[vii] Typically the FIT value is tied to environmental externalities or the utility’s avoided cost calculation.[viii] For example, if the external costs of coal were determined to be $1.50 a KW/hr, then this amount would be added to the FIT payment going to the renewable generator. While the levelized cost method has been seen as a resounding success in spurring renewable technologies abroad, the value approach has so far failed to see similar results in the U.S.[ix] This could be because the value model so far has failed to provide an adequate rate of return for investors and thus it does not provide the level of certainty needed for credit markets. Credit markets are incredibly tight and renewable developers need to be able to show stable rates of return in order to obtain financing or attract capital investments.  The U.S. should learn from successful models abroad to help shape FIT policy and expand the renewable market.[x]

FITs Abroad

            Spain and the Netherlands are two countries that have shown successful FIT polices that can be used to model a system for the complex U.S. energy market. While some commentators fear that these policies require too much government oversight,[xi] the oversight required is not much more than currently required in the complex U.S. energy trading markets, and can be done by computer software.[xii] The benefits of the more complex “spot-market” FIT models are far greater than the costs and provide more incentive for developers and protection for consumers than “fixed-price” models.[xiii] Spot-markets are real time markets that allow energy to be bought and sold, much like the stock exchange. These markets allow for FIT prices to be set based on current supply and demand principles.

            In Spain, a variable FIT market was established in 2007 with both a price ceiling and floor.[xiv] The FIT payment is monitored on an hourly basis to ensure that the payment level has an inverse relationship to electricity prices.[xv]  This protects consumers economically by assuring that they do not get hit with both high prices and FITs (which are typically allowed to be passed on to consumers through the rate base). So, if electricity prices rise over a certain time period the FIT payment to generators will decrease, assuring consumers that they will not have to pay both higher electricity rates and FIT payments.

            The most likely candidate for U.S. implementation is the Netherlands’ “spot-market gap” model. Under this model there is a minimum total guaranteed FIT payment, but it is collected by the project developer in two separate revenue streams.[xvi] One is the spot-market electricity price, and the second is the variable payment that covers the difference between the guaranteed payment level and the spot-market price.[xvii] If the market price ever goes above the guaranteed payment level, the FIT payment goes away until prices again drop below the specified level.[xviii] In March 2009, analysts at the National Renewable Energy Laboratory summarized why this specific design would work best in the U.S.[xix] Basically, it is because it combines long-term contracting with real-time price adjustments. This will allow generators to have a guaranteed rate of return while protecting utilities and consumers from price fluctuations should energy prices increase too much.

Current FITs in the U.S.

            Although met with general success abroad, FIT policies have struggled to catch on in the U.S. Currently only 14 states either have such policies or have proposed legislation.[xx] Still, the states that have implemented such policies have seen interesting results. In Gainesville, Fla. for example, a fixed price FIT has made it economically viable for energy companies to lease rooftop space from large retail complexes to set up solar arrays.[xxi] This program presumably makes money for the energy company and also helps property owners gain a new revenue stream from leasing their rooftop space. However, this is only a regional FIT policy within a small area of Florida, so the expansion of such projects is limited. Still, the ingenuity shows the potential for economically feasible projects in areas that are currently underused for renewable energy production.

            In Oregon, a pilot FIT program[xxii] for projects smaller than 500 kilowatts sold out in less than 15 minutes.[xxiii] While this shows the interest and demand for such a program, the result reflects some of the problems inherent in any FIT program. The 15-year FIT was originally set between 55-65 cents per KW/hr., well above the 10 cents per KW/hr. customers pay the utilities for power.[xxiv] In response, the Oregon Public Utility Commission was forced to lower payments under the FIT.[xxv] This example highlights how important monitoring and forecasting is in order to create successful FIT policies, to ensure that the FIT payments are set at optimal levels. Faulty projections can lead to higher than needed FIT rates which will lead to higher electricity costs for consumers. With accurate economic projections, the FIT payment will be set at a level that will only help projects that could not be completed without it, not for projects that could be implemented without the subsidy.

            These examples show the potential for FITs but also the problems that can come with poorly designed or implemented policy. Neither the Florida nor the Oregon programs implement a variable FIT method, and do not come close to the “spot-market gap” model design mentioned above. Instead, they rely on the local PUCs, instead of the market, to determine an appropriate FIT rate[xxvi] and then adjust it as necessary.[xxvii] This not only adds more work to the local PUCs but also does not provide reliability to those who utilize the FIT programs on their projects, because the PUC can retroactively adjust the FIT payment. This retroactive ability leads to a lack of certainty for future revenue streams that could pose a barrier to project financing, especially in the current credit markets. Lawmakers should aim to tailor FIT policies to mimic the proven methods used abroad to the extent practicable.

Potential Problems with FITs – the Preemption Battle

            While the success of foreign FIT programs provides a ray of hope for many domestic solar and wind developers, there are some problems implementing such policies in the U.S. The biggest hurdle for state legislatures to overcome is the preemption issue. Since FITs deal with wholesale sales of electricity, they trigger two federal statutes–the Federal Power Act of 1935 (FPA) and the Public Utility Regulatory Policies Act of 1978 (PURPA).[xxviii] These federal laws have multiple restrictions on power sales and transmission agreements. Thus, states are not able to set up FITs without dealing with the federal implications. A report from the NREL concluded that under current law there are several paths to “non-preempted, state-level” FITs without action by the Federal Energy Regulatory Commission (FERC).[xxix] However, there are still issues with each of these paths.

            The main issue that cannot be preempted is a cap on the FITs utilities can pay generators equal to the utilities’ “avoided cost” rate that would not be required absent federal laws.[xxx] This rate might not be enough for some projects to be economically viable in the present market, but there is FERC precedent allowing states to create a supplemental rate for generators.[xxxi]  This supplement can be used to ensure that the renewable project is financially viable, by allowing states to ignore fossil fuel avoided cost rates and only look at other renewable costs.  It has yet to be seen whether or not a court of law will uphold these supplemental rates when faced with federal challenges.

            To clarify these issues with preemption, FERC could take regulatory action or Congress could revise the federal laws.[xxxii] Last October FERC issued an order that many saw as a victory for FITs and the renewable energy field.[xxxiii] In effect, this ruling allowed states to look at the cost of other renewable technologies when determining avoided cost rates instead of having to compare to cheaper fossil fuel technologies.[xxxiv] This was seen as a victory because typically the costs of renewables are higher than the avoided cost rates, so now states can have FITs that are higher than the avoided costs of fossil fuels. Still, if there is confusion in the market, or transaction costs related to FERC hearing are too expensive, the regulatory uncertainty will be a hindrance to project financing.

            In conclusion, FITs can be a great tool for state legislatures to help develop renewable energy industries in their states. This is especially true in states with aggressive renewable portfolio standards.[xxxv] However, they require careful planning by the legislature and continual oversight. None of these hurdles should be enough to discourage legislatures from such policies, and those who embrace them will reap the benefits.

[i] Karlynn Cory et. al., Nat. Renewable Energy Lab., Technical Report, Feed In Tariff Policy: Design, Implementation, and RPS Policy Interactions 1 (March 2009).

[ii] Id. at 8–9.

[iii] Paul R. Epstein et al., Full Accounting for the Cost of Coal, 1219 Ann. N.Y. Acad. Sci. 73, 91 (2011) (estimating annual cost of coal externalities at $345 billion).

[iv] Cory, supra note 1, at 2.

[v] Id. at 2–3.

[vi] Id. at 2.

[vii] Id. at 3.

[viii] Id. at 2. Avoided cost calculation is a “price equal to the incremental cost they would incur to produce power itself equivalent to the amount of power purchased from cogenerators or small power producers.” http://www.expertglossary.com/definition/public-utility-regulatory-policies-act-purpa.

[ix] Cory, supra note 1,. at 2.

[x] Although renewables are in the news, currently only 10.6% of U.S. energy comes from renewable sources. This number goes down to 6.9% if you take out hydro-electric power. See http://www.eia.doe.gov/aer/overview.html.

[xi] Cory, supra note 1, at 6. For an example of the complexity see Richard J. Campbell, Options for a Federal Renewable Energy Standard, Congressional Research Service 18 (Nov. 12, 2010).

[xii] For an example of a company who monitors such data see http://www.logicenergy.com/feed-in-tariff-2010/.

[xiii] Cory, supra note 1, at 6.

[xiv] Id. at 5.

[xv] Id.

[xvi] Id. at 5.

[xvii] Id. at 5-6.

[xviii] Id. at 6 (see Figure 3 for an excellent graphical depiction of this policy design).

[xix] First, the incremental cost of the policy can be transparently derived from the sum of the “spot-market gap” payments. Second, if electricity prices increase over time, the FIT payment eventually converges to zero, as the spot price rises above the required FIT price. This also provides a concrete means of quantifying the hedge benefit of fixed-price FIT payments. Finally, the spot-market gap could be designed to represent the fluctuating REC value, which could be contracted in conjunction with wholesale electricity purchases. However, there would remain two main challenges to using this model in the United States: The first is that the spot-market price of electricity is not transparent everywhere in the United States, although it could be represented using the utility’s avoided cost of generation or another similar cost estimation. Second, this model is much more complex to administer than a fixed-price model, which could add to the overall policy cost. Id.

[xx] Toby D. Couture et al., Nat. Renewable Energy Lab., Technical Report, A Policymaker’s Guide to Feed-in Tariff Policy Design 16 (July 2010). U.S. Dept. of Energy, DSIRE, http://www.dsireusa.org/.

[xxi] See Amanda H. Miller, Gainesville’s Program Makes Solar Installation Economically Viable (Jan. 20, 2011),  http://www.cleanenergyauthority.com/solar-energy-news/feed-in-tariff-makes-florida-solar-installation-possible-012011/.

[xxii] For more information on the program you can reference the Department of Energy’s database at http://www.dsireusa.org/incentives/incentive.cfm?Incentive_Code=OR134F&re=1&ee=1.

[xxiii] Lee van der Voo, New Rates set for Oregon’s Feed-In Tariff Program, Sustainable Business Oregon (Sept. 21, 2010), http://www.sustainablebusinessoregon.com/articles/2010/09/new_rates_set_for_oregons_feed-in_tariff_program.html.

[xxiv] Id.

[xxv] Id.

[xxvi] OR HB 3039 § 2 (2009).

[xxvii] Id.

[xxviii] Scott Hempling et al., Nat. Renewable Energy Lab, Technical Report, Renewable Energy Prices in State-Level Feed-In Tariffs: Federal Law Constraints and Possible Solutions iv (Jan. 2010).

[xxix] Id. at v.

[xxx] Id. at 40 Figure 1.

[xxxi] Id.

[xxxii] Hempling, supra note 26, at 46–47. See also Couture, supra note 18, at 18.

[xxxiii] See Ca. Public Utilities Comm., 133 FERC ¶ 61,059 (Oct. 21st 2010).

[xxxiv] Id. at para. 26 (stating that the “state may take into account obligations imposed by the state that, for example, utilities purchase energy from particular sources of energy or for a long duration”).

[xxxv]Cory, supra note 1, at 8.

under: Energy

Comments are closed.