Will Solar Make Sense if Utility Prices Go Down?

In another article – as well as in our white paper Learning to Read the Crystal Ball – we address the probability of future utility price increases and decreases.  In this article we look at another issue:  Whether lower utility prices, however unlikely, could undermine the case for solar electricity.

Many solar contractors will argue that solar energy systems can be justified irrespective of price.  They argue that environmental benefits from solar energy are sufficient to justify the investment in solar including the risk of net costs as opposed to savings.

We do not take that view.  True, many consumers of solar – particularly residential consumers – have made the decision to invest in solar energy despite, and not because of, energy prices.  Particularly in the early days of photovoltaic (PV) panels, environmental motives were necessary because solar could not be justified financially.  Until 2012 the price of most PV panels was still over $1.50/watt and installation costs were over $2 per watt.  Any fair evaluation of a 20-year deal would conclude that consumers would likely spend more money for their solar electricity than they would for traditional utility supply unless utility prices started to escalate much faster than historically.

Even today, savings are not a sure thing.  As our white paper indicates, utility electricity prices could come down as well as go up. All savings projections must be based on a couple key assumptions.  The most important assumption concerns future utility price increases.  Elsewhere we have criticized many solar developers for exaggerating past utility price increases as well as the probability of future utility price escalation.

Accordingly, savings projections are inherently speculative.   If utility prices drop sharply savings from solar PV production could shrink or disappear entirely.  Already some solar consumers who purchased their solar a few years ago have complained that they are paying more for their solar than they would have paid their local utility.

Is there any justification, therefore, for solar energy in a low-priced utility environment?  We believe there is one:  Volatility insurance.

Volatility is the standard deviation of price movement over time.  Energy prices are among the most volatile on earth.  Electricity prices are probably the most volatile on earth.  In contrast to interest rate volatility, which in recent years has run about 5% per annum, electricity volatility has generally exceeded 100%.  That means that there is a 2/3 chance (about one standard deviation) that electricity prices will move +/- 100% within the course of a year…and a 1/3 chance that they may move more than 100% within a year.

Although we tend to think about electricity pricing as static it is anything but.  In most parts of the United States the independent system operators – local, non-profit organizations managed by the local utilities and responsible for balancing generation into the system with demand for electricity by consumers – calculate load and reset prices every five minutes.

Supply and demand is changing constantly and so, therefore, are electricity prices.

There are many reasons for these changes.  We cover these reasons elsewhere.  They include weather, economics, competing fuels, etc.  We don’t know what they will be.  But history teaches us that changes are inevitable.

The impact of these changes can be dramatic and sudden.  The so-called Polar Vortex in the winter of 2013-14 is a case in point.  In January electricity prices in many locations ranged from about $.07/kW to $.40/kW, six-fold increase.  The impact was felt for weeks and after a brief respite returned in February and March.  Such swings can cause consumers dependent upon electricity supply unforeseen pain.

In August and September 2005 the natural gas market saw similar swings.  Two major hurricanes, Katrina and Rita, disrupted supply from the Gulf of Mexico.  Prices trebled overnight in the wholesale market and swung even more in the Northeastern delivery market which is highly dependent upon natural gas for home heating.  Consumers dependent upon natural gas – fertilizer manufacturers, for example, or restaurants – felt the impact instantly.

These two examples of extreme volatility illustrate the costly impact of shifts in electricity prices.  While solar PV systems cannot guarantee savings they can act as a prudent and necessary hedge against electricity price volatility.   Even if a consumer can replace only 30-50% of its electricity needs with solar PV systems at least that portion will be insulated from the impact of volatility.