Busting the renewables price myth

Australia’s near hysterical obsession with electricity costs has led to some alarmist predictions – from people who should know better – about the impact on consumers if a carbon price was added to cost of policies favouring renewable energy; such as the renewable energy target and feed-in tariffs.

Some of these arguments – which are all for so-called complementary measures to be dumped once a carbon price is in place – are simply scare mongering, and some are ideological attachments to a particular economic school of thought. Either way, the International Energy Agency, which makes energy policy recommendations and analysis for the world’s leading economies, says they are misguided: the people peddling such ideas seem incapable of looking beyond the short-term price horizon.

First of all, the IEA says, it’s necessary to dispel a few misconceptions about the long-term cost of renewables. The IEA last year mapped out its lowest-cost path to reduce energy-related emissions by 50 per cent by 2050. The lowest-cost path, the IEA said, would require about half of the global electricity supply to come from renewables.

In the event that some other options such as carbon capture and storage, nuclear (quite topical now) and energy efficiency were unable to deliver their share of the abatement challenge, then the IEA estimated that renewables could supply 75 per cent of global electricity by 2050. The difference in electricity costs between the two scenarios? About 10 per cent.

How could this be, given that the costs of wind and solar – which would together provide nearly half of the world’s electricity under the IEA’s high renewable scenario – are said to be at least three times that of coal (in the case of wind) and at least six times (in the case of solar)?

The answer is in the long-term benefits of early deployment and of scale, which can only be done, the IEA says, if a carbon price – either through a tax or a target supported by an emissions trading scheme – is supported by other renewable incentives to guarantee that early deployment.

The IEA says the cost of CCS and concentrating solar is likely to fall by a factor of four, the cost of solar PV by a factor of six, and the cost of fuel cells for vehicles, for example, by an even greater figure. “The costs of associated CO2 emissions reductions with respect to the baseline scenario can be reduced even more. When renewable energy technologies become fully competitive, the marginal cost of associated emission reductions falls to zero.”

Put in a different way, the IEA notes that in its scenario for meeting the scientific recommendation that greenhouse emissions be capped at 450 parts per million, then the price paid to renewable energy producers over and above the prevailing market price between 2010 and 2035 would likely total $5.2 trillion. That is not a small sum, but it should be seen in proportion to total wholesale electricity prices. The graph below illustrates the point.

The IEA says one of the main problems in dealing with the cost question of renewables has been the focus on the short term, and on a single dimension. Australia knows all about this, with arguments being put forward that solar PV, for instance, results in an abatement cost of $450 per tonne of carbon dioxide equivalent. Some assessments put it even higher.

The IEA says this misses the point entirely. “The true cost of the deployment policy for ratepayers is not the simple sum of the incentives,” the IEA research paper says. There are other considerations beyond climate change, such as energy security, reduced dependence on imported fuels, local jobs, and hedging against price volatility and long-term price increase of fossil fuels.

But there are also other impacts, such as that which renewables will have on progressively reducing the market costs of electricity through the merit-order effect, where priority is given to those energy sources with lowest variable costs, usually fuel. Of course wind, and solar for that matter, do not have fuel costs.

The IEA explains: “In a power market, the supply curve is called the “merit order curve” and goes from the least to the most expensive units, taking account only of the marginal variable costs (mostly fuel costs). Utilities bill all kilowatt hours sold on a deregulated spot market, at the price set by the last and most costly unit. Therefore, they get the benefit of so-called infra-marginal rents.

“The variable marginal cost of wind is very low, and thus wind power enters near the bottom of the supply curve. This shifts the supply curve to the right, to lower power spot prices. This so-called merit-order effect is larger in peak demand times, where the merit order curve is especially steep. With more wind into the mix, the size of the rents is reduced, for the benefit of deregulated customers and to the detriment of utilities.”

A recent study in Ireland, for instance, produced an even more striking result. It showed that the wind generation expected in 2011 will reduce Ireland’s wholesale market cost of electricity by around €74 million. This is about the same as the cost of feed-in tariffs to support the financing of wind power and the associated balancing costs. The IEA concluded: “the reduction of Ireland’s dependence on fossil fuels and the CO2 emission cuts cost nothing in this case, despite the persistence of the support scheme which ensures recovery of the long-term costs of electricity generation from the wind even when the market prices are low.”

The IEA says there is no doubt that the interaction of specific renewable policies and carbon price instruments will increase the cost of achieving a specific CO2 target set for the relatively short term. But it notes that climate change is a long-term issue, and will require global CO2 emission cuts of between 50 and 85 per cent by 2050.

“These cost reductions are expected to come, in a large part, from an early deployment of these technologies. This is the crux of the longer-term perspective: even if the early deployment of some renewables now has higher costs of immediate emission reductions than other options, this deployment must be undertaken if the cost reductions it drives are key to future large-scale deployment. The early deployment of renewable technologies is a cost-effective measure for long-term climate change mitigation, even if it looks too costly when only short-term reductions are considered.”