For Ratepayers to Realize Savings from Clean Energy, Utility Business Models Need an Update
We have tools to accelerate the energy transition that will save ratepayers money and bolster the grid — we just need to incentivize utilities to use them.
The combination of growing levels of renewables, storage, and distributed energy resources (DERs), coupled with sky-high electricity rates and volatile fuel prices, has exposed the dangers of a regulatory framework that offers few incentives for utilities to evolve in a rapidly changing energy system. We’re planning a state-of-the-art energy system that we can’t run using our current models. It’s like trying to run a Lyft-level platform on a railroad business model.
Some critics of the energy transition point to high costs that could fall on the backs of ratepayers, but the reality is that utilities need a reason to stop behaving like monopolies and start working with their customers as service providers. To do that hard work, utilities have a host of new federal incentives to reward them. To ensure that utilities don’t delay the ongoing energy transition, utility regulators are taking action to align their financial incentives with policy goals, customer needs, and technological advancements.
The Inflation Reduction Act (IRA), passed a year ago this month, and the Infrastructure Investment and Jobs Act (IIJA) only add urgency to utility business model reform. By shifting the incentives to invest in clean energy in the United States, these acts have introduced a range of tax and financial mechanisms that offer many benefits. They have the potential to:
- Lower the costs of clean energy technologies for utilities, customers, and developers; resulting in projected household energy savings worth up to $112 annually by 2030, relative to business-as-usual.
- Ensure equity and workforce development are priorities in utility investment decisions, catalyzing job growth, with estimates of 1.2 million to 1.4 million new jobs in the manufacturing, construction, and utility sectors in 2030.
- Provide accessible financing to repower, repurpose, or replace fossil fuel plants and replace them with clean energy, while ensuring benefits accrue to energy communities.
- Facilitate the build-out of and upgrades to some critical grid infrastructure.
- Deliver on the US achieving 73 percent to 76 percent clean electricity and reducing electricity sector greenhouse gas emissions 67 percent to 78 percent by 2030, relative to 2005 levels.
But only if the IRA and IIJA are implemented efficiently. These incentives are largely structured as “carrots,” not “sticks;” and regulated electric and gas utilities will have a vital role to play in delivering the expected benefits from these policies. And, as it turns out, there are better and worse ways to serve carrots.
Utilities’ antiquated business models can significantly limit their ability to deliver these benefits for their customers. Without reforms, utilities still lack the incentives to minimize costs and to invest in critical transmission and customer resources (such as battery storage), potentially undermining energy affordability, reliability, and equity.
While reforms are underway in a range of states, certain key IRA incentives have a time horizon, requiring prompt action within the next few years. For instance, the energy infrastructure reinvestment (EIR) program, which includes $250 billion in loans for reducing fossil infrastructure debt and reinvesting in communities, will sunset in 2026.
The deployment needed to fully realize the IRA’s potential will be a colossal undertaking for stakeholders across the energy industry. It will require updated resource planning assumptions, streamlined interconnection processes, efficient siting and permitting procedures, along with unprecedented levels of flexibility on the grid to overcome system operational constraints. There is not a moment to lose to implement reforms that will direct utilities to take decisive, efficient action.
Absent reforms, utilities lack the incentives to minimize costs and to invest in critical transmission and customer resources:
- Most utilities operate with perverse incentives to increase profits by building more expensive systems than necessary (known as “gold plating”) and by prioritizing capital expenditures like new gas-fired power plants over operating expenses like energy efficiency or demand-side resources (called “capex bias”). These incentives may encourage utilities to use IRA incentives to select more expensive or less resilient options.
- Increased incentives for renewables may further exacerbate the already-clogged interconnection queues in regions across the United States, requiring additional transmission capacity to connect resources to population centers that need them. A Princeton REPEAT analysis suggests the need to double the pace of transmission expansion or risk 80 percent of the IRA’s emissions reduction potential. However, utilities’ incentives may lead them to overlook low-cost technologies such as grid-enhancing technologies (GETs), to deprioritize regional investment in favor of low-voltage upgrades, and to slow-roll projects that may threaten generation they own.
- IRA and IIJA contain incentives to encourage electrification, creating the opportunity for more flexibility but also the risk of increased system costs if these resources are unmanaged. While parallel federal investments in energy efficiency will help to manage those risks, utilities’ capex bias can discourage focus on the flexible demand-side resources needed to support an increasingly electrified and renewable future.
Leveraging Regulatory Tools for Success
To mitigate these risks, state-level policymakers and regulators need to realign utility financial incentives to ensure utility investments, programs, and operations fully leverage — and even expand — the opportunities available through the IRA. Our work with PUCs is demonstrating that modernizing utility incentives has the potential to:
- Increase utilization of DERs and demand-side resources.
- Enhance competition so that utilities procure the most cost-effective resources.
- Better facilitate customer adoption of clean technologies and electric vehicles.
- Improve interconnection times, for both grid-scale and customer resources.
- Establish equity as a priority consideration in utility decision-making.
- Promote overall utility cost control to mitigate customer rate impacts.
Delivering the full range of benefits from new federal legislation hinges on utilities’ investment decisions. By embracing these new federal incentives and modernizing the utility business model, regulators can align utility financial incentives with the future electricity system that is already being built. Absent regulatory action, we may miss out on the full power of these federal policies to create a just transition that is affordable, reliable, and fair to ratepayers.