The economics of providing electricity to consumers using wind and solar energy has changed in the past year with rising natural gas prices. This piece was inspired by a Sierra Club Facebook post pointing me to the NextEra Investor Conference a few weeks ago. Much has been written about the need to accelerate the transition of the electricity grid from fossil fuels to renewable energy. Much has been written about the various subsidies given to both renewable energy and fossil fuels. The regulations, the mandates, the laws and the lawsuits. All that discussion is important. But that’s not what this article is about. This article is about how market prices are changing the economics of producing electricity. I will cover a brief high-level history of solar and wind power generation in America. When wind and solar came on the scene some 20 years ago, they were used as experimental power generation for only three reasons.
- Some were heavily subsidized.
- Some were because the entity just wanted to do it for the environment or the off-grid benefits, knowing the costs would be higher.
- Some, like Germany, knew it didn’t make economic sense, but they wanted to cut costs for future customers and they were unselfishly willing to pay that higher cost for the small current environmental benefits in the hope of substantial future environmental and economic benefits. It resembles That investment is now paying off†
Card courtesy of Lazard.
A few years ago, the dramatic declines in both wind and solar costs of electricity generation meant that renewable sources were in many places as cheap or cheaper than fossil generation. This worked great to encourage some limited renewable projects. But utilities still faced the significant drawback that solar only worked during the day and wind power could be intermittent in places where wind sources vary from day to day. These intermittent problems don’t have much of an effect when the renewable power is a small percentage of the grid, but as the percentage gets higher, it causes more problems. Now, on the current news – the price of natural gas, which has been a very popular energy source to replace coal for electricity generation, has about tripled.
Chart courtesy of NextEra.
As a result of looking at current and future costs, NextEra agreed to go net zero for scope one and two emissions by 2045. Why are they making this commitment? Sure, one reason is that they want to help the environment, want good publicity, and respond to the pressure to produce cleaner electricity. But as they explain in the chart above, a major reason is that the economy has changed dramatically in the past year.
In Florida, unfortunately, inflation has increased the price for producing electricity in all alternatives. But it has not affected all forms of electricity generation equally. Natural gas generation has been influenced by inflation to a much greater extent than solar and wind. What does this mean? For an economist or an MBA or a decision maker at a utility company trying to find the most economical way to produce electricity in a growing demand environment, that means financing more growth in wind, solar and batteries.
Until recently, it did not make sense to shut down properly functioning power plants with a usable life (not for economic reasons, perhaps for environmental reasons), although it did mean more investment in new renewable power plants. Since many plants are designed to last 30 years, that means you only replace about 3% of your power plants per year. Add to that that you have another 2% population growth and 2% extra demand from electric vehicles and the electrification of homes. That’s only about 7% per year, even with 100% renewable energy for new power.
It is now cheaper to build wind and solar power than to use existing old power plants
But what has changed over the past year, looking at the prices they analyzed above and assuming those numbers are reasonable prices going forward (which may or may not be a valid assumption), is that it may now make sense to good natural gas plants that you just built a year ago with renewable power plants. Now I wouldn’t tear them down – you can just put them in the mothballs and run them 10 days a year if needed.
A lot of research is also being done by NextEra and others to convert these plants to hydrogen instead of natural gas. Initially as a blend, but ultimately 100% green hydrogen made from solar energy and water. I spent years in microeconomics learning that it’s all about marginal costs. If the cost of people and fuel for that natural gas plant exceeds the cost of wind and solar with battery backup, it makes sense to close the natural gas plant and ignore your sunk costs.
I think we all know that wind, solar and battery backup have very low operating costs. Why? Because they have no fuel costs. And the human costs are relatively low, as there isn’t much to do with solar energy, other than washing the panels every now and then. What costs a lot for wind, solar and batteries is the cost to buy and install them. Once installed, they are very cheap to run. One possible fly in this ointment is that when you have assets such as wind, solar and batteries that have high initial capital costs but low operating and maintenance costs, those assets are more attractive in a low interest rate environment. It is clear that interest rates are going up this year and are expected to rise significantly more. If you raise the interest a few points, that adds about 10% to the cost of wind and solar, but with wind and solar costs being 53% and 48% lower, respectively, they’re still way ahead.
Card courtesy of Lazard.
Lazard did a similar analysis 9 months ago and found that while costs vary widely based on many factors, in many cases it became economical to shut down coal and nuclear plants, and in some cases it even made sense to shut down gas-fired combined-cycle plants. close plants. Not much has changed for coal and nuclear in 9 months, but natural gas prices are up about 80%, making faster shifts from gas-fired power plants to solar power generation economically viable.
Card courtesy of Lazard.
Chart courtesy of NextEra.
Conclusion
A few more new gas generating facilities were built before this price change took place, but if utilities act rationally and notice how profitable NextEra has been in leading the switch to renewable energy, higher natural gas prices would not only affect all new electric plant construction — it could replace existing ones. coal, natural gas and nuclear power plants should accelerate significantly based on price alone.
It depends on whether people are convinced that these natural gas prices will remain high or that the high prices are temporary. I believe that drilling activity is still quite low, so prices are likely to remain quite high for a significant period of time. Of course, even if you want to replace all those legacy installations with wind and solar, it will take many years to do so. Anyway, today marks an important milestone in the transition to renewable energy. This is one of the industry’s first acknowledgments that wind and solar are not just cheap enough to outperform new power plants; they can start disrupting recently built modern factories in good condition!
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