The New Energy Innovation Economy

I have the privilege of Co-Chairing the Aspen Institute’s annual Clean Energy Forum.  We have just published our report from the 2015 Forum (available at: http://www.aspeninstitute.org/policy-work/energy-environment/our-policy-work/aspen-clean-energy-innovation-forum.  Below is our Forward to that report.

It is fair to say that the last few years have ushered in an era of dynamic change in the electricity sector the likes of which we have not seen in decades.  The late 1970s, thanks largely to the Public Utilities Regulatory Policies Act (PURPA), brought a new set of players into the electricity sector as smaller generators flourished and began to change what we traditionally thought of when we considered how new generation was added to the grid.  In the following decades, wholesale and some retail markets were opened to competition, again bringing a new set of players into the sector.  These changes were significant and, to an extent, altered the traditional model of regulated monopolies providing centralized generation and distribution services to customers.  Independent power producers, non-utility project developers, and new retail businesses were “insurgents” taking advantage of new market opportunities provided by changes in policy.

Today, however, we are beginning to see changes that promise to be much more fundamental than the developments of the past.  Today’s insurgents are not just “energy companies” that, while operating under a different risk-return framework, are seeking to do just what traditionally utilities have always done – generate electrons and sell them to customers.  Instead, we see technologists, software companies, financing providers, and information technology companies seeking to redefine the very nature of energy services and to challenge the century-old-model of a one-way grid enabling centralized generation and distribution of electrons to customer meters whose primary function is to record and report consumption.

We are starting to see distributed generation, data analytics, and connected, smart devices being offered to customers not just to optimize consumption, but to position customers as full participants on a grid or distribution system where both electrons and information can flow freely in two directions.  The promise is for customers to make choices and for the grid to have new options to meet the balance of supply and demand while lowering carbon intensity and reducing the need for new, centralized generation.

The cutting edge of disruption in the electricity sector today is the growth of distributed generation, primarily rooftop solar.  This has led to fervent debates across the country as to how and whether behind-the-meter generation should be encouraged, financed, and charged.  Yet even that debate is rapidly falling behind the cutting edge of change.  Distributed generation is growing at the same time that information and control technologies are ushering in a market beyond “DG” to a more comprehensive suite of distributed energy resources (DER) that promise a more complex and potentially highly beneficial two-way grid that may ultimately blur the lines between the binary construct of “centralized” versus “distributed”.

Central to this potential revolution is the reimagining of the “customer”.  Electricity policy and market innovations in the past were made with only a static view of the customer – the idea that all relevant changes to the system would occur up to the point where the electrons hit the customer’s meter.  That is no longer the case.  Yet new technologies and insurgent businesses can only be disruptive if somebody demands the products.  Skeptics of this new “energy innovation economy” continue to believe that customer interests in energy do not go far beyond reliability and price – and in many cases today that is true.  Evangelists, on the other hand, might remind us that Henry Ford and Steve Jobs changed the world by bringing to customers products that they did not know they wanted or needed.  And, of course, all of these debates must occur with recognition of the need for universal, reliable, and affordable energy and energy services.

The Barbarians are at the Gate. Please Show them In.

Major disruption and innovation in a sector like cellphones or software happens at least on an annual basis.  If you substituted “centennial” for “annual”, you’d have a pretty good idea of the timeframe in which similar levels of disruption and innovation occur in the electricity sector.  Ok; that may be a little exaggerated, but not much: major disruptive events in electricity are associated with decades, not years.

The late 1970’s, thanks largely to the Public Utilities Regulatory Policies Act (PURPA), brought a new set of players into the electricity sector as smaller generators flourished and began to change how we traditionally thought of how new generation was added to the grid.  In the following decades, wholesale and some retail markets were organized and opened to competition, again bringing a new set of players into the sector.  These changes were significant and, to an extent, they altered the traditional model of regulated monopolies providing centralized generation and distribution services to customers.  Independent power producers, non-utility project developers, and new companies offering retail alternatives to customers were new entrants onto a field long dominated by monopolistic providers of all electricity products and services.  Yet one might think of these new market entrants as more like culturally-enhancing immigrants than hostile invaders; while perhaps operating under a different risk-return framework, they were essentially seeking only to do just what traditionally utilities had always done – generate or sell electrons.

But the cycle of disruption in the electricity sector is beginning to accelerate, driven in part by the infusion of DNA from more innovative types of businesses and business models.  The players today clamoring to get on the field are not just “energy” companies as we have come to understand them.  Instead, we see technologists, software companies, financing providers and information technology companies seeking to redefine the very nature of energy services and to challenge the century-old-model of a one-way grid enabling centralized generation and the distribution of electrons to customer meters the primary function of which is to record and report consumption.

Instead, distributed generation behind the meter, data analytics and connected, smart devices are being offered to customers not just to optimize consumption, but to position them as full participants on a grid and distribution system where both electrons and information can flow freely in two directions.  The promise is for customers to have more choices and for grid operators to have new options to balance of supply and demand, lower carbon intensity, and reduce the need for new utility scale generation.

The cutting edge of disruption in the electricity sector today is the growth of distributed generation, primarily rooftop solar.  This has led to fervent debates across the country as to how and whether behind the meter generation should be encouraged, financed and charged.  Yet even that debate is rapidly falling behind the cutting edge of change.  Distributed generation is growing at the same time that information and control technologies are ushering in a market beyond “DG” to a more comprehensive suite of distributed energy resources (DER) that promise a more complex and potentially highly beneficial two-way grid that may ultimately blur the lines between the binary construct of “centralized” versus “distributed”.

Central to this potential revolution is the reimagining of the “customer”.  Electricity policy and market innovations in the past were made with only a static view of the customer – the idea that all relevant changes to the system would occur up to the point where the electrons hit the customer’s meter.  That is no longer the case.  Yet new technologies and insurgent businesses can only be disruptive if somebody demands the products.  Many see customers as the key drivers of change in the electricity world, as technology enabling the servicing of customers’ energy desires and the tailoring of offerings to individual consumer preferences are being imagined and offered. Skeptics believe that customer interests in energy do not go far beyond reliability and price – and in many cases today that is true.  Evangelists, on the other hand, might remind us that Henry Ford and Steve Jobs changed the world by bringing customers products that they did not know they wanted or needed.

Certainly, bringing customers to the center of the conversation is still a relatively new thing for the electricity sector, and regulatory structures are not optimized to encourage innovation of the customer-provider model.  Some state regulators are pursuing initiatives to create space in the electricity sector for experimentation and for the development of customer-focused partnerships between technologists and energy providers.  Such partnerships could allow utilities – or, depending on regulatory approaches, non-utility players — to provide a range of potential new services to their customers, dramatically increase customer engagement and interaction, and provide consumers with a value and experience proposition far beyond the meter-reading and utility bills of the past.

The simplified but instructive construct of incumbents defending the legacy system and insurgents pursuing disruption leads to assigning a label to companies, regulators and other stakeholders as either propelling innovation and risk-taking or blocking evolution to a new clean energy economy.  The reality, of course, is not so black or white.  While there are active incumbent forces trying to be obstacles to accelerating clean energy to escape velocity, other incumbents are partnering with insurgents or actively working to morph themselves into disruptors.  And, of course, all of these debates must occur within the given of the need for universal, reliable and affordable energy and energy services.  At the end of the day, technology and new consumer value always win.  We might as well show the barbarians in.

Popes, Robes and Paychecks

The past few weeks have been a whirlwind in the climate world.  The impact of the Pope’s Encyclical is still being measured, even as it moves off the headlines.  Fundamentally, the Pope has upended the political dynamic of the climate debate.  To date, the climate issue has been largely debated in a two-dimensional echo chamber reinforced by calcified ideological presuppositions: it’s the economy versus the environment.  Despite the fact that many of us like to think that this perceived trade-off has long-since been vanquished, political debates can sometimes be immune from evidentiary influence.  What the Pope has done is add a third dimension — morality — to the binary debate.  Intergenerational equity and the regressive impacts of a changing climate have long been preached, but not by a preacher with such a megaphone.  This third dimension can be particularly impactful on the U.S. climate debate precisely because neither side in the binary struggle can exclusively claim or wholly dismiss the moral message.  The Pope’s visit to Washington in September will put this dimension back on the radar screen of policymakers at a time when opponents of action continue to hang their opposition on perceived short term economic considerations alone.

In the U.S., it seems almost inevitable that the Supreme Court will have a major say in how we meet the climate challenge.  Many are pointing to the Court’s invalidation (sort of) of the EPA’s power plant mercury emissions rule as a sign that the Administration’s upcoming rule to regulate CO2 emissions from existing power plants might be heading for trouble.  Without getting into the legal weeds, the Court’s invalidation of the EPA mercury rule probably is less indicative of how the Court might rule on the upcoming carbon rule than does the Court’s upholding of the Affordable Care Act the same week.  One of the principal legal challenges to the EPA’s Clean Power Plan is based on the fact that Congress managed to pass two versions of the same law with underpins EPA’s claim of authority to regulate GHG emissions.  One version said that EPA cannot use the relevant section of Clean Air Act (Section 111) if it had already regulated a given pollutant (like CO2) under different section of the Act.  The other version said that EPA cannot use Section 111 to regulate a given source is that same source (like a power plant) was already regulated for any pollutant under a different section of the Act.  Opponents of the carbon rule argue that because power plants are regulated already for things like mercury under a different section of the Act, then they cannot be regulated under Section 111 for any pollutant.  Just like in the ACA case, a literal reading (one version anyways) of the Act would seem to invalidate the carbon rule.  However, in the ACA case Justice Roberts found that despite the literal wording, the most reasonable view of Congress’ intent was not consistent with (or limited by) the literal wording of the statute.  In the case of the carbon rule you not only have conflicting language, but the version relied on by the opponents almost certainly will be seen as inconsistent with what Congress intended as it drafted revisions to the Clean Air Act meant to, well, clean the air.

Also last week, a study was released showing that a surge in solar installations in Georgia in the first three months of 2015 resulted in the creation of 3,000 new jobs.  This job growth stemmed directly from changes in Georgia law meant to make it easier for consumers to add solar panels to their homes and businesses (see “Southern Cooking”, below).  While this factoid may seem unrelated to “Popes” and “Robes”, I think it is not. The fact is that the demand for clean energy is growing rapidly – for all sorts of reasons.  Businesses are being created and consumers are expecting more options when it comes to how they consume energy.  Clean energy is part of a strong, national social and economic “revolution” (maybe not so unlike same-sex marriage?) that I believe is likely to overwhelm politicians and a lethargic regulated electricity sector.  The pathway to reducing emissions and transforming our energy economy toward a more climate friendly direction is becoming clearer and stronger.  It cannot be reversed.

Popes, Robes and Paychecks all seem to be leaning toward a more climate friendly future.

Southern Cooking

When considering where in the country renewable energy is thriving, one might be inclined to point to California or Hawaii or maybe Massachusetts or Iowa.  That would be fair, given those are examples of places where clean energy today has the biggest footprint.  But to get a confirmation of the fact that renewable energy will play a bigger and bigger role in our energy future, take a look at the Southeast.  Long considered the land of God, Guns and Fossil Energy, the South is changing.  In South Carolina and Georgia, the last year has seen laws passed and deals cut to open markets to renewable energy — and solar in particular.  In Florida, a constitutional amendment ballot is being considered that will open that state to distributed energy options like rooftop solar.

These states all have something in common that makes the changes happening there surprising — they are all states that rely on the 20th century model of vertically integrated monopoly electric utilities.  There is little or no market competition for the generation or delivery of energy.  The incumbent utilities all operate on the traditional model of a single provider building centralized generation assets (largely coal and gas) and transmitting and distributing that power to customers at rates designed to return the utility’s investment with a regulated profit.  Consumers have little choice in the matter.

Perhaps the most fascinating political aspect of these changes is that they were driven not just by environmentalists but by conservative activists.  The South is the birthplace of the “Green Tea” movement — Tea Party-inclined conservatives who are asking the basic question — why is the government telling me that I do not get to choose how and from whom I buy energy? Consumers have choices in a free market when it comes to buying almost anything else.  Add to that the fact that many are attracted to self-sufficiency of self generation (such as by installing solar on their rooftop), and the conservative argument for solar becomes more clear.

Last week, Southern Company — the dominant investor-owned utility system in the South — announced that it would now get into the rooftop solar business.  “[Y]ou can call Georgia Power [one of Southern’s companies], and Georgia Power will arrange to get a solar panel on your roof” said Southern CEO Tom Fanning at the Company’s annual meeting. Certainly, Southern now has little choice given a law passed (unanimously) by the Georgia Legislature earlier this year.

But there is more (and less) going on here.  First, the glass half-full: the move into distributed generation by an old-school player like Southern flies against the narrative of most of the regulated utility sector, which is that distributed generation is disruptive to their management of the grid, shifts costs to non-solar customers, and is otherwise a threat to basic business model that built America’s electricity system.  It also is an acknowledgment of the rapid decline in the costs of solar.

On the other hand, what is happening in Georgia and other southern states is short of what both free market conservatives and solar advocates really want — unfettered competition for the supply of energy choices.  The question is not just whether I can call Georgia Power to get my solar; but can I call a whole bunch of suppliers and have them compete for my business. This is precisely the question before the North Carolina legislature, which is considering a bill which will allow for full competition for the provision of distributed energy services.  Southern’s regulated utility sister company Duke Energy is, so far, vehemently opposing that bill.  Duke and Florida Power and Light are taking the same position in Florida.

But progress is progress.  Whether you think solar will help fight climate change or whether you just don’t like the government telling you what to buy, from whom and at what price, the winds of change are blowing — even in Dixie.

The Big Disconnect

There is little doubt that the most direct way to get private sector companies to change behavior to lessen climate impacts is through strong and binding legal/regulatory requirements. This has been the main focus of many climate activists and their policy maker allies for decades – and by and large, the wait continues. But short of legal requirements, perhaps the most effective influences on corporate governance and behavior are the demands and expectations of the capital markets – as VantagePoint Managing Director Steve Dolezalek put it recently: “[U]ntil you convince the financial markets of something, you’re not going to change behaviors at a meaningful scale.” Over the past decade, many corporate leaders, academics, commentators – and even the SEC (to a point) – have preached that climate change is a central business issue that impacts company value. The main focus of these discussions has been around two types of climate risk. First, a changing climate characterized by more extreme weather threatens property values, access to key natural inputs like water, and the resiliency of supply chains. Second, governmental responses to climate change are proliferating and new regulatory structures can limit markets for some products (like inefficient appliances or high global warming potential refrigerants), increase energy costs, force changes to industrial processes, or otherwise force changes to business as usual practices. Unilever CEO Paul Polman has stated that climate change costs his company more than 200 million Euros a year. Many leading companies, including Unilever, Walmart, Dow, NRG Energy, Dupont and others have made significant investments and changes to business practices in order to limit their exposure to climate risks – and to seek competitive advantage by making such changes.

But here’s The Big Disconnect – mainstream financial markets do not seem to care. For better or for worse (and usually it’s for the worse) management is forced to be responsive to the questions and demands of analysts and investors on a quarterly basis. Management compensation is often tied to share price and analysts and investors are not translating mitigated climate risk or proactive “climate competitiveness” investments into equity value. Earnings calls rarely elicit questions about climate risk broadly, or even more specifically about energy productivity, fossil fuel reliance, or extreme weather vulnerability. If a company like Unilever faced a 200 million Euro annual liability for anything other than something called “climate change”, could one imagine an analyst not asking about it? Of course there are activist investors (an increasing number) who do care and who do ask and who do make investment decisions with climate considerations in mind. These groups, like CERES Investor Network on Climate Risk (INCR), represent sizable and increasingly important voices in the investor community — but they remain a distinct minority. The mainstream sell-side analysts and financial markets are the dogs that didn’t bark.

Why the Big Disconnect? There are many theories and potential explanations (not among them is that climate is not financially relevant). It could be that analysts and investors are fully aware of climate risks and opportunities, but given liquidity and short- termism they don’t care; they will sell when the climate chickens start to come home to roost. Maybe. But I think we are giving the mainstream mind too much credit. Short-termism is very real, but it doesn’t, for example, prevent analysts and investors from approving of a company’s R&D expenditure plan if they think it will yield competitive value in the future. Or, it could be that mainstream market players just don’t have the information they need. This is likely closer to the truth and its why there has been increasing focus among activists and activist investors to get companies to disclose more information about greenhouse gas emissions and climate risks. This in part the theory behind the very successful Carbon Disclosure Project (CDP) which has signed up a sizable portion of the Fortune 500 to report GHG emissions and other climate and sustainability related data.

But the Big Disconnect remains; demand is not keeping up with supply. The answer does not lie in convincing the mainstream markets that climate change is the world’s preeminent threat. We shouldn’t care whether they care. The answer may lie in presenting what is considered essentially “non-financial” data in a form and in a language that is familiar to mainstream investors. We want them to consume financially-relevant data as they typically do; we just want them to see climate related risk and opportunity as just another data point that helps them do their job better. When unenlightened self-interest becomes a tool in the climate debate, we will have made progress.

Sustainability and the Changing Hearts and Minds of Consumers

Financial Time’s columnist Gary Silverman isn’t directly commenting on sustainability in his piece “Activists in the Boardroom” (http://tablet.olivesoftware.com/Olive/Tablet/FTUK/SharedArticle.aspx?href=FTU%2F2015%2F05%2F09&id=Ar01403 ), but he comes pretty close to it and presents a way of considering the role of sustainability in the face of the “Millennial Economy”. His premise is that the leaders of Starbucks and McDonalds are adopting an Obama 2008 approach to governance – a mix of social activism and unbridled optimism. I think the direct connection to Obama is a bit of a reach and really just a hook for the article. But the indirect linkage makes sense: millennials make consumption choices according to a broader array of preferences — and in response to new channels of communication — than previous generations. Starbucks is driven in part by Schultz’s personal agenda, but its high profile social agenda aligns with the need for the brand to stay relevant with millennials. It’s a natural evolution. For McDonalds, it’s different and more along the lines of a revolution. The company is struggling, has changed CEOs and is looking at a weakening position as millennials make up a larger and larger share of their target customer. McDonald’s problem is twice as hard as Starbucks — it has a brand/image problem and a product problem. Starbucks really only has the former (millennials like coffee). But there is a common lesson for any consumer product company: talk to consumers via channels they rely on and respond to, and talk to them about not just your products, but the larger array of factors that impact consumer decision-making.

 

For sustainability, arguable the lesson here is somewhat of a mixed bag (but overall good news). Targeting very real consumer decision making factors via information about corporate sustainability actions helps where sustainability has sometimes struggled within companies – drawing a line from sustainability to the top line. I have no problem with a company investing in sustainability for no other reason than because it increases sales – if that is what it takes. The only downside to this approach is that it reinforces the misconception that at its core sustainability is just about marketing. But arming sustainability advocates with an argument for top line value creation — to go along with the easier to prove bottom line value of sustainability actions like energy or supply chain efficiencies and the more inchoate but no less real “brand value” creation argument – is undoubtedly a good thing.

 

Scene Setter: Where I’m Coming From

The world needs another blog like a hole in the ozone layer. Add to that the fact that hardly anyone may ever read this (Hi Mom!), and there are good reasons to keep one’s thoughts to oneself. On the other hand, given that there are vastly more bloggers writing about fashion, celebrities, or dating than there are writing about environmental sustainability and climate, there might be room for one more.

You will not find blind partisan fealty or ideological rigidity here. In fact, hyper partisanship and ideological dogma have been perhaps the greatest obstacles to rational public policy progress commensurate to the challenge and primacy of an issue like climate change. In my quarter century in Washington DC I have seen the honesty and quality of intellectual discourse deteriorate along with the traditions of bipartisan engagement on the issues of the day. Our so-called “think tanks” have largely ceased to be fonts of ideas and forums for debate – except as constrained by a pre-determined ideological or partisan set of sidebars (and outcomes) which drastically limit any actual “thinking” that might otherwise occur.

But while contributions to discourse from the far left or far right have served only to calcify the unproductive intensity and hostility of debates around sustainability and climate change, the answer is not mushy centrism – at least in the form of modest ambition or an unwillingness to aggressively take on opponents of progress. I believe that climate change and the threats to healthy and functioning ecosystems are perhaps the greatest challenges we face as a society.

Putting a livable climate, adequate water and intact ecosystems at risk is immoral in every secular and theological sense of the term. We should expect policymakers to consider such intergenerational morality in their approach to these issues. It is also breathtakingly bad economic policy from anything other than an extremely short term and first-world oriented perspective. It is at this resultant intersection of morality, environmental policy and smart economic policy where these problems need to be solved.

Perhaps further blurring traditional ideological lines, I believe that market forces and even profit incentives are among the most powerful tools we have to address climate change – if we can fix the market failures that make it more profitable to pollute. The incentive of profit and unenlightened self-interest were extremely effective in getting is into this problem; they would be great allies in solving it. When Walmart decides (as it has) that it can save money by instructing its suppliers to reduce packaging, track greenhouse gas emissions and improve energy efficiency, it has arguably a bigger impact on the environment and the climate that the top dozen environmental groups together could accomplish on their best day.

The private sector and the government both have a critical role. The history of the relationship between government and business in the environmental context is one of antagonism. Government sets standards and enacts prohibitions. Good companies focused their energy on complying and bad companies tried to cheat – and when caught, the government appropriately punished them. But in either case, the “environment” was merely a cost to be managed. This system led to great environmental progress in the areas of clean air and clean water. But it has not worked well enough for the climate. Imagine, instead, a market where out-performing one’s peers on environmental values yielded competitive advantage. Then companies would innovate and do what they best in an effort to improve their environmental performance – not just to avoid fines or enhance “reputation” or to attract “green” investors – but because it is the way to be a better and more profitable company. Then the remarkable power of the profit incentive will be aligned with broader goals of fighting climate change and preserving natural resources.

We are actually beginning to head in that direction and in this blog I will talk about many good examples. Milton Friedman famously mocked “corporate social responsibility” (CSR) by saying that “[t]he ‘social responsibility’ of companies is to increase profits”. The evolution of corporate sustainability – which is NOT the same as CSR – is leading us to a place where Milton Friedman is being proved to be both right and spectacularly wrong. Increasingly, companies are realizing that the way to increase profits is by being a sustainable company, reducing environmental impacts, and minimizing climate risk.

But the private sector left entirely to its own devices will not get us where we need to go to address climate change and related environmental challenges in a way that will ensure that our children inherit a an economically and environmentally sustainable world. Policy does matter. Policy must define the guideposts of the marketplace that ensure that social and intergenerational priorities are incorporated into market feedback loops. But policy must also be informed by and encourage the efficiencies that the market can deliver in driving to the mutually attainable goals of economic growth, preservation of natural capital for future generations, and the mitigation of the effects of climate change.

This space will explore these issues and highlight both laudable and wrongheaded practices in the public and private realms as we inexorably seek to reconcile our economic, social, environmental and moral objectives.