For all of their positive aspects, one of the truths about most low-carbon energy is that in many regions it isn't cheap compared to fossil-fuel competitors. For the most part, renewables have a hard time competing directly with fuels or electricity generated from fossil resources. There are a couple of reasons for this, of course - many renewable technologies are not as mature, so costs have not yet stabilized (although the costs of wind and solar photovoltaics have declined rapidly in recent years, so the date of 'maturity' may well be nigh). The other reason is that the social costs of some harmful pollutants emitted when fossil fuels are burned for useful energy are not reflected in the price of the fuel itself or the price of the final energy output.
One solution to this problem is to place a price on pollution, which would make non-polluting alternatives look more economically attractive. The United States and many other countries actually do this with some types of pollutants - sulfur dioxide and oxides of nitrogen, for example. The European Union (and some areas of the U.S.) impose a price on carbon dioxide emissions through a system of tradeable emissions permits. Whether those prices are sufficiently high as to reflect the true social cost of pollution is subject to a lot of debate, some of it quite heated. But in concept, it is possible to level the playing field by taxing or pricing pollution.
We'll talk a bit about taxes in this lesson but will spend more time on the other alternative, which is to subsidize or incentivize energy sources that don't pollute. Many jurisdictions actually do a bit of both. The motivation for these subsidies can be as much about politics as environmental quality - in many cases renewable energy subsidies are a form of industrial policy, meant to promote growth in a specific sector (like wind or solar), rather than about reducing pollution per se. These subsidies and incentives can take several different forms, from providing payments for each unit of energy generated to lowering capital or financing costs for new investments.
Our focus here is really on how these subsidies and incentives affect the financial analysis of power plants. We won't go too deeply into the mechanisms behind each specific type of incentive program, nor will we talk too much about how effective the incentive programs might be. (Another course offered through the RESS program, EME 803, touches on these issues.) We'll also limit ourselves to those types of incentives that directly affect project financing or financial analysis. There are a very wide variety of policy options, apart from direct taxes, subsidies or incentives, that can have the effect of shifting investment decisions towards renewable energy.
By the end of this lesson, you should be able to:
- describe the mechanisms by which tax credits, feed-in tariffs, rebates and loan guarantees all lower the cost of low-carbon energy resources as compared to fossil resources;
- describe in words how a tax on carbon-producing energy can be equivalent to a subsidy for low-carbon energy;
- demonstrate this same equivalency mathematically using the LCOE formula;
- illustrate the impact of different types of subsidies and incentives on the pro forma financial statements for a renewable energy project;
- use the DSIRE website (dsireusa.org) to gather information on available subsidies and incentives for use in a pro forma financial analysis.
The best external resource for this lesson is the Database of State Incentives for Renewable Energy (DSIRE). This is a fairly comprehensive online resource for information on renewable energy incentives, sponsored by North Carolina State University. As of this writing, the DSIRE website is undergoing some pretty major revision but still offers very good and current information on specific programs within the U.S.
A big focus of this lesson is on the markets for Renewable Energy Credits, which are tradeable certificates generated by renewable and alternative energy projects constructed under state renewable portfolio standards, which set quotas for electricity generation from alternative energy sources. The National Renewable Energy Laboratory publishes an annual summary of the REC market, which is very well done.
Section III of the following reading (available on Canvas) contains a reasonably good description of how renewable portfolio standards work in a number of different states:
- S. Blumsack, A. Kleit and B. Idrisu, "The Cost of the Alternative Energy Portfolio Standard in Pennsylvania"
What is due for Lesson 12?
This lesson will take us one week to complete. Please refer to the Course Calendar in Canvas for specific due dates. Specific directions for the assignment below can be found within this lesson.
- Submit a word-processed document with the answer to the Lesson 12 question to the Lesson 12 Drop Box.
If you have any questions, please post them to our Questions about EME 801? discussion forum (not email), located in the Lesson 00 module in Canvas. I will check that discussion forum daily to respond. While you are there, feel free to post your own responses if you, too, are able to help out a classmate.