Our retail electricity bill just killed our summer vacation

What would you do if a salesperson came to your door offering you the opportunity to gamble on weather derivatives – financial contracts based on the weather?  You could bet on rainfall (farmers) or snowfall (ski areas do it). Or you could bet on temperature.

If it’s a warm winter, you win.  A cold one?  You lose.  Not many ordinary people would probably take that bet – it’s too unfamiliar, maybe too risky, and far beyond their comfort zone. Might as well go to Vegas.

Well, it turns out that hundreds and maybe thousands of people did unknowingly take a similar bet this winter in the northeastern U.S,. and they lost big time. How did that happen?  They bought electricity under variable rate contracts from retail electricity suppliers. The cold weather drove up short term market rates dramatically, and in some cases people paid three to four times their normal rates – as high as 45 cents per kilowatt-hour.

Here’s how – in a very simplified fashion – retail power markets work: Every day electricity supply and demand have to match.  Every day, there are power plants that run pretty much 24X7 (baseload), and other plants that run most of the time.  But there are a few power plants that only run during periods of super high peak demand (peakers).  And that marginal peak demand is driven by weather – by air conditioning load on extremely hot summer days, and by heating load in the winter.

Peakers only run a few hours, so when they run, you have to pay them a lot. As an example, let’s assume you don’t own a car, but you have a taxi waiting outside your house every day all year to take you where you need to go. You might only pay $100 if you take a trip every day of the year (the driver would still only make $35,000 a year).  But what if you only used the services for Memorial Day, the 4^th of July, and Labor Day? Maybe then you’d need to pay $10,000 per outing.  That’s how peakers work.

Winter peaks aren’t as high as summer, but there are other complicating factors. One is demand for natural gas. Since natural gas supports much of the generating fleet, there is a dual need for gas heating as well as for power generation. To make it worse, in places like New England there is not enough pipeline capacity. Plus, the generators don’t always have a firm contract for gas so they can’t access pipeline capacity when it is most needed (everybody wants the gas for heat).  Then things get really rough. New England burned jet fuel for a few days last month to keep the lights on, as 75% of the plants couldn’t get gas.

Finally, extreme weather (especially cold weather) kills power plants. In the northeast, thousands of megawatts of generating capacity simply did not come online (forced outages). That shouldn’t be a surprise to anybody at this point. Extreme weather – hot or cold – nearly always stresses the physical infrastructure to some point of failure. Forced outages are pretty common during a cold snap.

With high gas demand, spot gas prices went through the roof.  Spot electric prices followed.  And any residential customer who had opted to purchase a variable rate from their retail electric supplier got badly mauled.  The problem is exacerbated since few consumers see the electricity price until it’s too late.  Imagine filling up your car for a month at a pump with no price indicator, and getting a bill the following month for gasoline at $12/gallon.

So customers’ wallets got badly dented, and the pain is evident. Here are just two letters that the informative website Energy Choice Matters pulled from various social media sites:

Thanks to your price gouging, we (a family of 4 with 2 hard-working parents) will not purchase our tickets to a summer amusement park because we now can’t afford it. We will, instead pay our, 4.5 times more than usual power bill. Thanks for screwing the hard-working middle class yet again!
This energy company offered my mother-in-law with an introductory 7.9c per KWH rate. In December (sic) the rate increased to 10.9c per KWH. In January, my mother in law received a $750.00 electric bill.. When I examined the bill, she was charged 44.9c per KWH. This is a 400% increase in one month. They did not provide her with any warning of the rate increase. I will be contacting the PA attorney general to file a complain.

The interesting thing here is that the retail supplies who sold them this product probably didn’t make much, if any money. They were simply passing along their market-based costs. But it doesn’t matter because the vacation got ruined, the mother-in-law is irate, and now the AG is involved. This is bad news for the whole notion of retail electric energy choice, which is too bad. Choice is a good thing, if handled properly and if customers are educated as to what they are buying and can take action in real time.

Why is retail choice good? Because it gives people options. It unleashes the forces of competition and innovation. It forces generators to be more efficient. It allows customers to be smarter electricity consumers and respond to scarcity prices.   Scarcity pricing can create elastic customer responses (the higher prices go, the less they consume – if they see the prices and can take action in real time. This is easier to do in the commercial and industrial sectors). It can highlight the value of solar power and other resources (on-peak power is worth more). Choice has also helped create demand response, saving consumers hundreds of millions in costs and improving overall system efficiencies.

But all that is put in jeopardy when retailer electric providers sell something risky to customers – especially when the retailers don’t fully understand or anticipate the risks involved (and clearly they did not). In truth, over time variable or spot market rates tend to be lower than a long term fixed rate. It’s similar to insurance. You pay more for a more comprehensive plan with a low deductible than you do for catastrophic insurance where you pay a low rate. But even though it may be cheaper, most people don’t buy catastrophic insurance for a good reason: if you get sick or hurt, you pay tens of thousands in medical bills.

And we just got badly hurt in the northeast with our extended Polar Vortex. It’s almost like we broke our leg three times in one winter. The excuse has been offered – ‘This was a one in a hundred year event.’ Maybe so, but if you count up all the hundred year weather events in the last five years, we are probably all now older than Methuselah.

It’s not like we haven’t seen price volatility before. Prices during the California restructuring debacle went through the roof. In May one year in the early 2000’s, New England prices hit $6.00 a kilowatt-hour during a heat wave combined with a nuclear power plant that went unexpectedly offline (New England, New York, and PJM power pools are now capped at $1.00 – although NY and PJM may temporarily be allowed to go higher for a limited period – but Texas has a cap going to $9.00 in the near future).

Now the retail electricity industry – which arguably never should have been selling this product to residential customers in the first place, will come under scrutiny in various legislative bodies and public utilities commissions.  Pennsylvania’s AG is already looking into the matter and others will follow.

A seasoned sales executive with 17 years in the retail industry used to tell his sales force ‘never sell your customer any product you would not sell your mother or father.’ Unfortunately, a lot of retail players did just that.  They sold people a monthly variable rate – to people who clearly did not understand the risk – when they should have been offering fixed price. And if there is massive political fall-out with stories of fixed income grandmothers shivering in their bedrooms, they have only themselves to blame.

http://www.forbes.com/sites/peterdetwiler/2014/02/28/our-retail-electricity-bill-just-killed-our-summer-vacation/?ss=business%3Aenergy