State law requires Massachusetts to cut greenhouse gas emissions relative to 1990 levels by 50 percent by 2030 and by 85 percent by 2050. Most experts agree that to meet these targets, New England must decarbonize its electric grid and electrify transportation, heating, and cooking. In short, we need to replace gasoline and natural gas with electricity. But how we price electricity is making this effort to address climate change harder.
The cost of electricity is composed of two main elements: generation and transmission. The more electricity a household consumes, the higher these costs are. The cost of transmission and distribution lines that bring electricity to homes and businesses doesn’t vary depending on how much electricity consumers use. These are called fixed costs. Transmission and distribution are priced based on how much electricity a household consumes, even though these costs aren’t related to consumption. This is wrong and hurts efforts to incentivize electrification to address climate change.
Look at my electric bill as an example. I pay 10.8 cents per kilowatt hour (kWh) for electricity. The cost is dependent on how much I consume, which is the correct way to charge for this portion of my bill. But I also pay per kWh for transmission and distribution (11.5 cents) and for solar and energy efficiency incentives, among other fees (2.4 cents). These costs should not be dependent on how much electricity I consume and should not be charged on this basis. The state Department of Public Utilities is mispricing the per-kWh part of electricity, known as the volumetric rate, by nearly 14 cents per kWh. This means the volumetric rate is more than twice what it should be.
The DPU should mandate the volumetric rate to cover only the energy costs, 10.8 cents per kWh in my case. How will the Commonwealth pay for the infrastructure if we stop including these costs in our volumetric rate? There are two ways to do this while keeping the correct volumetric rate.
The first is to increase the connection charge — the fee charged to households for connecting to the grid. This fee is not dependent on how much electricity is consumed. So households would still pay their share for infrastructure but would pay the right price for any increases in their electricity use from electrification. It’s a fixed fee to pay for those fixed costs. To protect low-income households, the DPU could charge a different fee depending on household income or average income by ZIP code.
The second option is to treat electricity infrastructure like the state treats transportation infrastructure such as roads: Use the tax system to pay for those costs.
The effect of the state’s flawed electricity pricing system on incentives to electrify is enormous. Look at incentives to switch to electric vehicles. A typical EV sedan driven 12,000 miles a year will consume roughly 4,500 kWh of electricity annually. At current gasoline and electricity prices, consumers would still save on energy costs. But overcharging by 14 cents per kWh would cost an extra $630 per year, equivalent to a $1.58 gasoline tax on a 30 mile per gallon gasoline car.
What about incentives to buy heat pumps, which are now as much as three times more efficient than natural gas furnaces and work well even in cold climates? They are more expensive to buy and install. And since Massachusetts misprices electricity, running heat pumps is not cheaper than using natural gas furnaces. If DPU were to price electricity correctly, consumers would save on their energy costs.
Based on a recent Cadmus study on heat pump efficiency, at my current electricity rate it would cost 41 cents per hour to heat my home when it is 32 degrees outside. If, instead, I used my 96 percent-efficient furnace, it would cost 38 cents per hour for heat at my current natural gas rate. But if electricity were priced correctly, I would save 20 cents per hour using my heat pump when it is 32 degrees; the savings would increase as it gets colder. So, the way the state misprices electricity means I have no incentive to replace my furnace with a heat pump. If it priced electricity correctly, I would. That’s bad economics and bad policy.
Charging the right price for electricity is good economics and will allow Massachusetts to meet its climate goals more cheaply. We should be pushing for that.
Christopher R. Knittel is the George P. Shultz professor of energy economics at the MIT Sloan School of Management. He is also the director of the MIT Center for Energy and Environmental Policy Research and deputy director for policy at the MIT Energy Initiative.
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March 29, 2023 at 10:00AM
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