Cutting Ontario’s Future Power Rates

None of Ontario’s political parties have articulated credible energy plans in their platforms for the October 2011 election. Instead, the main parties are all focused on recklessly shifting electricity costs from ratepayers to taxpayers. This shifting allows the power system’s underlying problems to fester while exacerbating Ontario’s governmental deficit.

What follows is a set of proposals to be implemented after the election that would set the stage for real cost reductions, not just rate relief based on cost shifting to taxpayers.

Since 2009, rates in Ontario have started to skyrocket, albeit with household rates temporarily stabilized in the immediate run-up to the election by temporarily shifting increasing costs to taxpayers. The Ontario government’s official forecast is that household power rates will increase by 32% from 2010 until 2014 in inflation-adjusted terms. This forecast depends on low gas costs, high nuclear productivity, and growing power demand which helps to spread high fixed costs. The assumptions underpinning the official forecast are optimistic. If current energy policies are allowed to continue, consumers should expect rate increases worse than the official forecast.

Prevailing government policy has lost any sense that the purpose of producing electricity is to meet the needs of consumers.

Ontario’s dire electricity rate outlook and the likelihood that electricity concerns will influence the outcome of the next provincial election both suggest that energy issues will require the new government’s attention immediately following the October 6th election.

For generations, Ontario’s power rates were a competitive advantage relative to most other jurisdictions. In 2009, average residential power rates in Ontario surpassed the U.S. average. Since then U.S. rates have declined.

Many beneficiaries of the Ontario government’s electricity subsidies claim that consumers everywhere are facing rising rates. Not true. The U.S. government’s Energy Information Administration’s most recent Annual Energy Outlook, issued in April 2011, forecasts that U.S. rates will continue to decline for the next ten years in inflation-adjusted terms.

The main driver for escalating electricity rates in Ontario is the current government’s policy of using the sector to create a surge of short term employment, with no care for the long term impact on consumers. But electricity is one of the most capital intensive components of the economy. Artificial job creation in the power sector is burdening the economy with decades of unnecessarily inflated power costs. Consumers need an electricity sector requiring fewer, not more, employees.

Here are some ideas to address the underlying problems causing rates to increase. These remarks here build upon my previous posting of May 10, 2010 “Ontario Power Bill Rip-Off: Solutions”. My main focus in this post is on two basic changes in governance.

  • Repeal the Green Energy Act
  • Depoliticize decisionmaking

I have also framed eight particular policy issues that are so complex and multifaceted that they are best suited for consideration in focused policy review processes.

The approach recommended here is to reorient policy toward consumer value but to avoid revolutionary changes. Quick fixes have characterized policy decision making ever since the rate freeze decision of Premier Eves in 2002. Incremental reforms will provide time and stability, with the hope that future actions can be guided by thoughtful analysis and a clear overall plan.

Repeal the Green Energy Act and Freeze Transmission Expansion

The new government should repeal the 2009 Green Energy and Green Economy Act (GEA).

The GEA is structured around non-competitive feed-in tariffs (FIT). The FIT program has been used to procure a large amount of new generation without concern for whether that generation is needed by consumers or how that new generation will be integrated into the power system. As a result, Ontario consumers now fund large losses from exporting power, pay commercial generators to curtail potential generation, and incur hidden losses as OPG dumps vast but not publicly documented amount of power at Niagara. (Profits forgone by OPG mean that the debts left over from the old Ontario Hydro are paid down more slowly.)

Meanwhile, the Ontario government continues to procure even more new short lead-time generation through the FIT program, all of it with poor dispatchability characteristics, at prices far above the current cost of new gas-fired generation.

Buying vast amounts of premium-priced, short lead-time, non-dispatchable generation while spilling power is absurdly imprudent.

In repealing the GEA, the new government should commit to competitive procurement of any required generation, with all sources of generation valued on a level playing field reflecting the quality of each generation sources’ contribution to consumers. Uncontrollable intermittent generation that tends to arrive at times other than peak demand, such as wind power, should not be valued as highly as controllable generation that can reliably meet peak demands such as natural gas-fired generation.

The new government should also commit to restoring local democracy with respect to normal municipal authority for industrial development. This democratic right was extinguished by the GEA. A principle consideration in siting electricity facilities should be to ensure that property values are not hurt in the siting of facilities. Where impacts are unavoidable, injured parties should be fairly and promptly compensated. It is now clear that the value of some rural properties, particularly where the value of the land is related to scenic views and recreational or residential usage, have been impaired by many GEA-driven developments.

The current transmission development plan for Ontario is indelibly stained with political influence and must be discarded. Many of the transmission projects included in the current utility plans will, if completed, cause significant harm to consumers. Some expensive and disruptive transmission facilities are being constructed specifically to connect unneeded and uneconomic new renewable generation. All transmission projects not substantially underway should be frozen pending further review unless they are required to serve consumers.

As discussed in greater detail later, an independent, apolitical power transmission plan should be commissioned soon after the new government is formed.

Also as discussed later, the Green Energy Act grants the government sweeping powers to shift costs from politically preferred to politically not preferred consumers. This aspect of the legislation has proven to be particularly disadvantageous to small business consumers and creates risks of corruption.

Depoliticize Energy Decisions

Decision making in Ontario’s power system has been politicized to an unprecedented extent with the passage of the GEA. Independent experts in key decision making posts have been replaced by government representatives. Ministerial directive powers have grown cancerously. Even the formulation of technical integrated power system plans has been directly taken over by government.

Ontario’s power system is vastly more operationally complex than it was even ten years ago. For example, the gas-fired generators that have replaced coal generators require vastly more complex just-in-time fuel delivery systems instead of the previous on-site fuel inventory methods. The smart meters are vastly more complex than the meters they replace and give rise to new issues requiring careful consideration, such as the protection of personal privacy.

Ramifying complexity makes politicized power system governance more fraught with danger for consumers over time.

Ontario’s cabinet is unlikely to ever include a substantial body of specialized expertise in fields relevant to Ontario’s energy future. How many experts can we expect to find in the Ontario cabinet in fields like nuclear engineering, megaproject management, transmission and distribution engineering, cost allocation and rate design, electricity market design, or network dispatch optimization? Can we count on Question Period to provide complete analysis focused on the power system’s most important development and operational priorities?

Ontario’s power system cannot be competently managed by our political leaders. Ontario must depoliticize its energy sector. We need to redefine the role of government from controlling all the key decisions to creating the conditions to promote accountability for better decisions.

Ministerial directive powers, now routinely used to replace the judgment of expert agencies like the Ontario Energy Board (OEB) and the Ontario Power Authority (OPA) with political judgment, were first introduced into Ontario’s energy sector laws in 1998 during the government of Mike Harris. The government of the day promised to use the powers sparingly. Instead, directive powers have become routine instruments and have almost always been used in ways that undermine the efficiency of the power system. Directive powers were used by Premier Eves to decrease and freeze power rates in late 2002, just prior to an election. Recently, directive powers have been used to confer financial benefits on political allies of the government of the day. With his directive creating the Ontario Clean Energy Benefit — a cost shift from household power bills to the provincial deficit — McGuinty is exactly repeated the path of Premier Eves.

Eliminating all ministerial directive powers over agencies and rates is a key step in depoliticizing Ontario’s energy system.

Another key step in depoliticizing Ontario’s the energy sector is strengthening the administrative agencies overseeing aspects of the sector, particularly the OEB and the OPA. Two essential improvements are stronger tenure for board members through long fixed terms of appointments and dismissal “for cause” protections for appointees who are now exposed to the risk of “for pleasure” firing.

Another key step in depoliticizing Ontario’s the electricity sector is ensuring that Hydro One and OPG do not borrow against provincial credit. All future borrowing by these agencies should be structured so as to ensure that taxpayers are held harmless in event of default. Such a change would have little or no effect on Hydro One and would only affect OPG’s future operations.

Ultimately, the government should move the power system toward a greater role for markets in guiding decision making. A key element of this evolution will be to move its Crown power businesses in a transparent and methodical fashion toward privatization. Solid leadership will be required if the public is to gain confidence in a more market oriented power system.

Until OPG and Hydro One are privatized, government should use its shareholder directive powers to promote long term consumers interests.

Review and Analysis of Commitments, Near Term Requirements and Options

The complexity of Ontario’s electricity challenges is so great that substantial review and analysis is required to establish a preliminary foundation for future decisions. Unprecedented politicization has crept into the sector. Politicization should be replaced as much as possible by transparency and independent analysis. Prudence demands that we understand what we’ve got, how to operate it, and what our credible options are for the immediate future before we commit to anything else. These analysis is not currently in place inside Ontario official power agencies.

As noted above, eight subjects requiring review are identified here:

1.    Review of existing contractual commitments
2.    Near term power system operational plan
3.    Longer term power system needs and options assessment
4.    Market development road map
5.    Conservation as if consumers matter
6.    Rate redesign
7.    Distribution sector efficiency
8.    Cutting labour costs

Each of these is discussed in turn, including a discussion of who should do the work.

1.    Review of existing contractual commitments

Expert legal and business reviews should be undertaken by the OPA and the Ontario Ministry of Energy of all existing power generation contractual commitments to ensure that all opportunities to promote consumer value are taken into account. These reviews should consider any existing commitments, concentrating on facilities not yet built or soon up for contract expiry, including all deals with Samsung and its partners, the FIT applicants, the Non-Utility Generators, and other generators.

Particular attention should be paid to investigate potentially corrupt practices, such as Samsung’s failure to identify itself as a lobbyist as required by Ontario law.

2.    Near term power system operational plan

The IESO, working with the OPA, should be mandated to undertake a thorough, independent expert assessment of how to best integrate existing generation and transmission commitments into Ontario’s power system and to develop a plan to optimize the operation of the power system over the near term of perhaps five years.

As a result of a long series of governmental decisions, Ontario now has a power system with a large portion of our supply now and in the near future coming from inflexible and/or intermittent generation, particularly nuclear power, run-of-river hydro-electric, wind, solar, and cogeneration. Ontario’s nuclear reactors are far less flexible in their generation characteristics as compared with the reactor designs used by many other highly nuclearized jurisdictions. Many of Ontario’s gas-fired generators have relatively high minimum load requirements too. No other major jurisdiction in the world is reliance on such a high penetration of inflexible/intermittent generation.

Ontario’s mix of generation creates complex operational challenges that are unique to Ontario.

Any review of system integration should consider potential solutions to address Surplus Baseload Generation which is today and for the next several years going to represent a major liability for consumers. The IESO should develop and publish updated estimates of the wastage of generation occuring on the grid, not just during negative pricing events, but also considering any wastage that occurs in the maneuvering of generation around forecast surplus power production events.

The IESO should facilitate stakeholder participation, including ensuring sweeping disclosure of data and analysis in forms suitable to assist in participation by expert and non-expert publics.

3.    Longer term power system needs and options assessment

The only recently updated power system plan for Ontario currently available from our public agencies has been unduly influenced by government and its GEA political agenda.

The OPA should be mandated to produce a new independent integrated power system plan, incorporating the work of the IESO on system integration.

Among the various required analytical studies, the OPA should use system simulation methods to estimate how much CO2 is actually being saved by the new renewable generation recently added to the system and at what cost per unit of savings. This will allow comparison of various CO2 emission strategies, particularly strategies that put emission reductions from the electricity sector on an even playing field with reductions from other sectors.

The OPA should also address the cost, environmental, and operational implications of extending the current coal phase-out schedule under a variety of scenarios including high natural gas costs. Several of Ontario Power Generation’s remaining coal units now scheduled for closure in 2014 are equipped with recently installed air pollution control scrubbers that very significantly mitigate smog. The cost, emissions, and reliability implications of our practical coal options should be reconsidered.

The existing administrative law structure for Ontario’s power system requires the OPA to present and defend publicly in front of the OEB its updated power system plan. This is a sound approach. The OEB’s processes afford the interested public a fulsome opportunity to participate in the OPA’s plan. The OEB has the capacity to ensure that its processes are not unduly influenced by self-interested parties.

4.    Develop a market roadmap

The IESO is currently sponsoring a process to develop a market roadmap with stakeholders to develop ideas promoting the efficient functioning of Ontario’s electricity market. However, this process is currently burdened with a political requirement to implement the current government’s GEA agenda. Once this initiative is redefined as independent of political influence, in particular so that it is no longer tied to implementing the government’s GEA social and economic change agenda, the initiative can be a useful forum to focus discussion on Ontario’s long term electricity future.

The IESO has indicated that the forum will focus on moving forward with competitive markets and clearer price signals for consumers. The review now considers efficient real-time operation of Ontario’s future power as well as encouraging and facilitating competitive market-based responses and options for meeting overall system needs; rather than depending on industry institutional structures. Liberated from having to promote a GEA agenda, these are sound objectives.

5.    Conservation as if consumers matter

Advocates favouring higher power rates have strongly influenced the conservation agenda in Ontario. Meanwhile, administrative instability within the power sector has lead to a recent OEB decision regarding Toronto Hydro’s proposed conservation programs that has effectively put distribution utility conservation programs on hold across the province. However, the OPA is still charging ahead with it current round of conservation programs slated to cost $1.4 billion. Its programs focus on exhausted 20 year old program ideas like coupons subsidizing compact fluorescent bulbs. How many coupons are enough? Meanwhile, Ontario consumers are also paying for vast amounts of spilled power and exports of power to neighbouring utilities, often at negative prices.

Ontario’s needs to be rethink from top to bottom the best approach to electricity conservation and load management.

One factor that has been ignored in developing conservation policy is that declining electricity sales are driving up rates. Electricity demand peaked in 2005. Demand decline accelerated during the recession and has recently stabilized at a level approximately equal to demand in 1989. Even if the power system’s revenue requirement could be stabilized, declining sales would drive rates higher.

Official Ontario has ignored questions about whether costly conservation giveaways are justified and has instead continued to ramp up spending with no more justification than ideology.

Careful, independent economic research should be undertaken on the cost effectiveness of historic conservation programs, taking into account actual consumer responses to programs. There are many unanswered questions. Are subsidized compact fluorescent light bulbs used more heavily by consumers than the bulbs they replace? How much of the subsidy program costs are absorbed by consumers who would have undertaken the conservation upgrade on their own, without the subsidy? Are province-wide delivery agents best for administering conservation programs or are local delivery channels more efficient? Ontario current has a surplus of power generation capacity in the near term but will require capacity later this decade when many aging nuclear units begin to retire and others are taken down for extended refurbishment outages. How can conservation programs be designed best to deal with the feast-then-famine generation outlook?

Any forward looking review of conservation and demand management policies should be conducted with opportunities for stakeholder input but with attention to avoid undue influence by self-interested parties — a rampant problem in recent years.

6.    Fairer and More Efficient Rates

After all efforts are made to minimize the overall revenue requirement of the power system, fair and efficient rates for electricity provide the principal information consumers need to make informed consumption and conservation decisions. Unfortunately, the rates now charged for electricity in Ontario are neither fair nor efficient.

Rates cannot be considered fair if they are not transparent. The composition of the Global Adjustment — the mechanism that recovers costs associated with a host of uneconomic government contracts, primarily for power generation but also for conservation programs — is today extremely opaque and is therefore particularly vulnerable to abuse by government. Any future treatment of Global Adjustment should maximize transparency.

The OEB should be mandated to comprehensively review the cost allocation and rate design underpinning all regulated rates in the province. The OEB’s first order of business should be to focus on comprehensively rethinking the recovery of costs associate with the Global Adjustment.

Using its new powers created by the GEA, the Ontario government’s 2010 regulation 398/10 changed the methods used to recover the Global Adjustment. This new regulation makes cost allocation and rate much more unfair and inefficient. The new regulation excuses a few large consumers from a substantial portion of the costs that would otherwise be allocated to them, shifting that burden to smaller volume consumers.

Cost components included in the Global Adjustment should be allocated separately according to the extent to which each underlying component contributes to meeting consumer needs for electricity service at peak demand times or whether that cost component contributes to meeting energy demands primarily at times other than peak demand times.

This is not the approach used by the recent Ontario government changes. Instead, all Global Adjustment costs, whether caused by peaking supplies or not, are now loaded onto a peak demand recovery mechanism for a few preferred customers, referred to in the regulations as “Class A”. This gives a few consumers a supercharged incentive to cut their usage of electricity on during the top few hours of demand in the year. Class A customers are massively overpaid for their demand reductions at times of peak usage, transferring the extra costs to Class B, non-preferred consumers.

The process that drove this approach to be adopted allowed for extremely limited input from affected stakeholders and was conducted outside of the processes of the OEB, a body with the expertise and procedures conducive to a more just and reasonable outcome.

Cost allocation and rate design conducted behind closed doors, as was done with the Global Adjustment cost shift, is unlikely to produce a just and reasonable outcome.

Another rate redesign direction that Ontario should pursue is to start a transition beyond time-of-use prices toward Real Time Prices for end use consumers.

All efficiently operated power systems use real time prices to minimize costs. These real time prices underpin a large portion of the commodity portion of your bill. Averaging schemes, whether the flat rate or time of use regulated price plans, are designed to reflected predicted real time prices. However, forecast error and the crudeness of averaging create distortions in between the real value of electricity and the price signals sent to consumers. Particularly during times of negative prices or extremely high prices, there will be some consumers who could have adjusted their consumption and minimized their costs but did not make that adjustment because they received averaged prices.

With the advent of smart meters, this distortion is unnecessary. Consumers in Ontario have invested in the order of two billion dollars in smart meters, devices that are vastly more capable than the primitive meters they replaced.  With the smart meter investment sunk, we should be moving to utilize their real capabilities to aid conservation and enhance power system reliability by transitioning into real time pricing by making real time pricing optional for small volume consumers.

7.    Distribution sector efficiency improvement

Consumers need better performance from the distribution sector. Rationalization will be a key ingredient to achieve this improvement.

Ontario has over 80 electricity distribution utilities, 32 of which have 10,000 or fewer customers. The least efficient tend to be the largest and smallest distributors. By comparison, Ontario has only five gas distributors and the largest are very efficient when benchmarked against their peers.

The large number of electricity distributors is a key factor that has caused the OEB’s internal spending to increase from $15.6 million in 2003 to $32.6 million in 2010.

Some estimates suggest that as much as $300 million per year in savings could be achieved by greater distribution sector rationalization. Government policy should seek to realize these saving in a methodical and incremental fashion.

Some of the key ingredients to improving distribution sector efficiency are already in place. Generally, the OEB’s rate regulation policies already encourage efficiency, although some utilities — notably Toronto Hydro — have exempted themselves from some of the Board’s weakly enforced efficiency requirements. The McGuinty government has in recent years wisely waived a previously troublesome transfer tax that had been a barrier to mergers.

However, these measures have not proven to be a strong enough driver to move the system forward toward a more efficient structure. The government should clearly indicate to the owners of distribution utilities — mostly municipal councils — that the utilities need to be demonstrating progress toward cutting labour cost and improving efficiency. Laggard councils should bear consequences in terms of provincial cost sharing programs.

In addition, by setting tougher new targets for efficiency and cost containment, the OEB could strengthen motivation for further consolidation.

A new government should facilitate the consolidation process by prioritizing consumer interests, ensuring that tax and policy barriers are not imposed, and by directing Hydro One to seek efficient solutions, even if it involves Hydro One transferring some of its service territory and associated assets to more efficient utilities.

The Ministry of Energy should undertake studies to explore this rationalization, including estimates of the efficiencies that should be achieved.  All other major stakeholders should be invited to contribute to this review with attention to avoid undue influence by self-interested groups.

8.     Labour cost saving

One of the largest cost components underpinning utility rates is the cost of employee compensation.

Recent labour cost benchmarking studies done for OPG by Towers Perrin and for Toronto Hydro demonstrate that labour costs in Ontario’s power sector are excessive and that overpayment is concentrated not among the higher qualification positions but the lower levels of qualification. Although executive compensation in Ontario’s power sector generally lags comparators, government owned utilities in other provinces generally pay executives less.

OPG’s management compensation declined by 12.6% in the period 2007-2009. On the other hand, the general wage increase for the PWU and Society has been climbing between 2% and 3% for the past number of years, not taking into account step progressions and promotions. In 2011 and 2012, the increase will be approximately 3% for management and 3% for both unions plus an additional 1% increase to account for step progressions and promotions for staff within the unions.

The Ministry of Energy should commission and publish comprehensive labour cost benchmarking studies addressing the entire electricity sector in the province.

Transitioning Ontario’s power sector toward more competitive compensation levels will require time and leadership. OPG’s largest labour agreement expires on March 31, 2012, so the work should begin immediately following the election.

4 Comments

  1. Hi Tom,

    While we’re on the topic of increasing power rates in Ontario, I’d like to inquire why OPG exports such a huge amount of power out of Ontario even during the summer and winter months. OPG exported a total of 976gw out of Ontario from Jan-Jul 2011. I understand during the shoulder months, there may be an excess amount of power in Ontario, but why are they exporting during the summer and winter? If OPG didn’t export so much power out of Ontario, wouldn’t rates be much lower for the ratepayer?

    The export figures are from the National Energy Board website.
    http://www.neb.gc.ca/clf-nsi/rnrgynfmtn/sttstc/lctrctyxprtmprt/2011/lctrctyxprtmprt2011_07-eng.pdf

    • OPG is only one of many entities making net exports out of Ontario. Ontario’s net exports are likely to rise significantly in the next couple of years. Scott Luft has published many interesting notes on these exports at http://morecoldair.blogspot.com/. A key observation of these exports is that Ontario consumers are covering very high costs to acquire expanded supplies of power but that the resale value of excess power is very low. Consumers are losing money in every sale. However, consumers would be even worse off if the excess power was not exported. Once the excess power is delivered to the grid and paid for, consumers are far better off getting something for the power. The solution to the problem is not to cut off exports but to stop buying power that is more costly than its real value.

  2. yk, I’d break the exports down to two things.
    The first Tom has mentioned – we contract too much and need to dump it.
    But the second is that anytime the market price rises above the cost of only the fuel component of natural gas, and coal production, they should export (all the base operating costs, and the costs of the plant, are irrelevant). They haven’t been doing this much lately, but in January it was typical to fire up everything.
    It’s not as bad a thing as it would sound either.
    Exports generally go to Michigan or New York during the day (at night to Quebec – but that’s generally nuclear, hydro and wind supplied) – and therefore would replace coal production anyway. There aren’t any actual CO2 reductions by curtailing gas and coal production here when it could be sold to Michigan profitably. Considering there is a coal-fired plant right across the river from our Lambton plant, it’s particularly obvious there.

  3. Pingback: Excellent Analysis of Ontario Legislation to Merge IESO/OPA | Tom Adams Energy - ideas for a smarter grid

Comments are closed.