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Policy and regulatory framework: actions and milestones


Collaborating on a policy and regulatory environment that supports smart grid investment is perhaps the single most important task for all stakeholders in the electricity sector. A lack of collaboration has already led to problems in demonstration and deployment projects. As with most policy issues, the key is to find the right balance in sharing costs, benefits and risks. The responsibility for achieving this balance lies with regulators and, in some cases, legislators, but must include input from all stakeholders.

Key policy questions that regulators must answer include:

• How should smart grid investment costs be recovered? If shortfalls in benefits occur, how should they be shared between utilities and consumers?

• How can additional services (such as balancing, demand response, energy retailing) be enabled by new regulations and smart grid technologies?

• Should electricity rate options be compulsory or voluntary?

• Should vulnerable customers be protected from the possibility of higher bills? If so, how?

• Should advanced technology investments such as smart grids, which carry the extra risk of technology obsolescence, be treated differently from other utility investments?

• Should some customer groups less able to participate in dynamic pricing be excused from bearing the extra costs of smart grids or being subject to new service conditions? If so, what can or should be done for these customers?

• What is the impact of differing tariff structures between interconnected regions?

Electricity system and market operation can benefit from the deployment of smart grids, but regulatory changes are required to ensure that all stakeholders – especially consumers – share the costs and the benefits. Many of these issues have not yet been examined in detail yet, so as well as offering solutions to certain issues, this section will indicate where more work is needed.

Cross-sector considerations

Unbundling and liberalisation of the electricity system has increased the institutional and market complexity associated with system planning, operations and services. Functional unbundling and new operating entities have complicated ownership and operations, which are often under different or dual regulatory jurisdictions, and have added uncertainty as regards delivering needed investment. Under these conditions, there are increased barriers to the demonstration and deployment of smart grids, and an increased need to address these across all sectors, rather than only at the sectoral level. Smart grids costs and benefits can be more easily shared if they are considered across all sectors.

As discussed earlier, cyber security is a key issue as the deployment of increased ITCs introduces new vulnerabilities to the system. These must be proactively addressed across all sectors of the electricity system as opposed to simply meeting regulatory requirements. This will require increased effort for regulators, system operators and technology providers.

Electricity generation sector

The deployment of variable generation is expected to increase to over 20% of overall supply in many regions (with some regions significantly surpassing this level), supported by government policy and regulation, at state, provincial and regional levels. Regulatory mechanisms need to be developed to encourage business models and markets that enable sufficient flexibility required by variable generation deployment to ensure reliable system operation. Markets must be transparent to allow asset owners and third parties to enter and offer conventional as well as innovative solutions to provide such flexibility. More effort is needed in demonstrating and verifying the interactions between well-known and established approaches (such as peaking generation plants) and other flexible approaches (including expanded DR applications), along with market design refinements that enable continued innovation.

A new factor in recent years in the electricity generation sector is the rise in the number of electricity consumers who produce small amounts of electricity at or near the place of consumption – often referred to as “prosumers”. Management of this sort of distributed generation can be better enabled by smart grids, through increased information, and creation of beneficial market and regulatory structures. Many policies and regulations have been established globally to support this type of generation, such as feed-in tariffs and accompanying grid interconnection policy. But this will need continuing evaluation to ensure the maximum amount of customer-sited generation at lowest cost can be deployed, with consideration to all electricity system stakeholders.

The deployment of smart grids may have a negative impact on some types of generation. As global electricity demand increases, smart grids may slow demand growth by enabling more efficient system operation but are not likely to significantly decrease the use of existing assets to meet power needs. On a regional basis, certain assets may become redundant as smart grids are deployed, because of decreased electricity demand, shifting demand profiles and new approaches to increase system flexibility or provide ancillary services. As smart grids will enable increased DR and electricity storage that reduces the need for peaking generation, identification of possibly redundant assets should be carried out at the earliest possible point in smart grid deployment to allow for appropriate planning and cost/benefit analysis. Regulatory treatment of such stranded assets is well developed, however, and existing regulatory structures can be used to facilitate loss recovery

Transmission networks

Investment in the smartening of transmission networks is occurring around the world. Many transmission systems already use some smart grid technologies and are operating robustly, allowing for adequate competition among generators and therefore ensuring appropriate electricity prices. Other transmission systems are plagued by congestion and concerns over ageing infrastructure.

Even as transmission systems are being smartened, new transmission capacity and interconnections with other electricity systems are also needed. Deploying new transmission is often complicated by the unbundled and liberalised nature of electricity systems and by lengthy approval processes. Some countries now investing in national scale transmission systems (e.g. China), are not experiencing these issues and have been able to deploy modern transmission systems very quickly, defining smart grids as “strong and smart grids” and making use of modern HVDC technologies.

Other countries could benefit from greater regional assessment of the current status and future requirements of transmission systems, to identify technology applications and requirements for additional capacity and interconnection. Such assessments can lead to new technical and regulatory solutions that optimise the operation and planning of existing systems, enabling the deferment of conventional investments that may be hindered by long approval processes or local opposition. To enable efficient operation today as well as accommodate future changes, government and regulatory policies must allow timely and adequate transmission system investment; inadequate investment brings risks of higher costs in the future and of system failures.

Distribution networks

The smartening of distribution networks can bring significant benefits to operators and customers, but requires considerably more effort than smartening transmission networks. Distribution networks have many more nodes to be instrumented and managed, and ICT requirements are much higher. Distribution systems connect to nearly all electricity customers (excluding large industrial customers connected to the transmission system), as well as distributed generation, variable/ dispatchable resources and new loads such as electric vehicles. Smart grid technology must be strategically deployed in order to manage this complexity, as well as the associated costs, to the benefit of all stakeholders.

Market unbundling has changed the ownership and operating arrangements of distribution networks and, in many countries, the role of the distribution system operator (DSO). In some countries, an electricity retailer or energy service provider entity is placed between the customer and the DSO. Smart grids enable increased interaction between DSO and customer through the provision of real-time energy usage information and pricing, which are important new tools for both DSOs and retailers. Experience gained through pilots and demonstrations can be applied to develop new business and market models for DSO/retailer-customer engagement. The most important aspect in the development of needed regulatory, business and market models is that benefits and risks associated with the deployment of smart grids must be shared with other stakeholders – upstream with other system operators and generators as well as downstream with end-users. Business models without shared costs and benefits will not be successful. Additional policy and regulation will be needed for DSOs to manage and utilise these relationships to meet system investment needs.

Smart grid, smart consumer policies

Electricity is consumed by a range of customers, including industrial, service/commercial and residential. In industrial and sometimes the commercial sectors, customer knowledge of energy management is high and technologies to enable demand response or energy efficiency are well known, mature and driven by cost savings. However, this is not the case at the residential level, where there is a need to rapidly expand business models, analysis and communication to enable much greater residential customer interaction with the smart grid.

Compared with customers in other industries, such as telecommunications, travel and retail, electricity consumers are typically not provided with either the service options or pricing information needed to manage their consumption. Providing these options and information can help costumers become smarter while delivering significant benefits to grid operators, including reduced costs. Smart grid customer policies fall into three groups: consumer feedback, pricing and customer protection.

Collect best practice on consumer feedback and use it to improve pilot projects

The principle behind consumer feedback policies is that making energy more visible enables customers to better understand and modify their behaviour. Consumer feedback can be provided across a continuum, from a monthly bill to instantaneous read-outs of consumption and prices, some of which are quite costly. A balanced and effective consumer feedback policy can be developed by considering: i) What information customers really need to make rational energy decisions? ; and ii) What is the best form and medium to present this information?

Current consumer feedback pilot projects have only been able to motivate and discern short-term behaviour changes, because participants realise that the technology and services provided are temporary. Infrastructure changes, which deliver large and sustainable efficiency and demand response results, are obtained only from long-term or permanent programmes. This is one of many reasons why consumer feedback pilot project results vary radically. The design of pilot projects also makes it difficult to discern adaptive and infrastructure changes, resulting in overestimates or underestimates of long-term results. More rigorous and methodical research and evaluation is needed to identify the optimal method to deliver feedback and to understand better the interaction between consumer feedback and pricing or incentives (financial or other) and the effect of enabling

technologies (e.g. automation) on results. These improved approaches can reduce other issues creating variability in pilot project results, including the prior history of consumer feedback policies, variety in customer types and preferences, and the specifics of the service options being piloted.Additional research in this area should have three objectives: i) identify lessons for policy-makers from social science research on consumer feedback by collecting and comparing the results of advanced metering, real-time pricing and consumer feedback demonstration; ii) outline technologies proven to mobilise sustainable changes in energy consumer behaviour; and iii) establish a community of practice internationally to develop standard methods and analytic tools for estimating the consumer behaviour change benefits of smart grids.

Automated demand response

Many analysts believe that the full potential of smart grids can only be realised by creating a seamless and automatic interconnection between the network and the consumer installation – either by using some end-use devices that are pre-programmed by the consumer, or by using automated building management systems. Feedback with the customer would occur automatically within consumer-set parameters, in an extension of the feedback policies discussed above. There is a significant amount of research being carried out on processing and automation technologies that enable homeowners, building managers and business operators to programme end-uses to automatically adjust consumption and demand according to price or other signals. The potential for automated end-user demand and efficiency response are considerable and have been already proven in some situations. In California, several energy providers have collaborated with factories and building owners to configure energy management systems to curtail discretionary loads (lighting, elevators, heating, ventilation and air conditioning) whenever hourly prices exceed preset levels.

Smart grid and smart metering pilot projects on automated demand response and energy efficiency offer best-practice lessons that need to be collected and incorporated into pilot programmes. There is significant interest in extending successful approaches found in the industrial and service sectors to the residential sector, but many aspects need to be investigated. Key research questions include:

• Is there an optimal mix of consumer feedback and automation technologies?

• What is the impact of ICT choices on automated DR?

• Which types of automated DR designs are most useful to different types of customers (households, businesses, industry)?

Determine best practice pricing policies

A range of pricing options can reflect actual generation and delivery costs, from static (non-time differentiated) to real-time pricing. The capability to deliver dynamic rather than static pricing is an important benefit of smart grids, but has raised fundamental questions about energy prices, including whether they should reflect real costs in real time, provide customers with choice and eliminate cross-subsidies. Dozens of smart customer pilot projects around the world have shown that time-differentiated pricing can reduce peak demand by an average of about 15%; adding technology on the customer side of the meter can more than double these impacts (Faruqui, 2010). This research shows a relationship between information and consuming behaviour, with more detailed and more frequent information yielding greater efficiency improvements and peak demand reductions.

The benefits to be delivered by smart customers who respond to pricing signals make up a large part of the business case for smart grid deployments. For example, the United Kingdom’s national smart meter rollout is expected to reduce domestic electricity consumption by 3% and peak demand by another 5%, generating almost half of the USD 22 billion annual estimated savings – providing benefits to both consumers and utility stakeholders. Electricity providers in California and elsewhere estimate that demand response and energy efficiency benefits made possible by smart customers will be one-third to one-half of total benefits from smart grid deployment.

With flat-rate pricing, common to most retail markets globally, customers are charged the same price for electricity throughout the day and the evening. The result is that customers are overcharged for some electricity (typically at nonpeak times) and undercharged for some electricity (typically during peak times). Such pricing does not encourage customers to shift demand to different times, thereby reducing stress on the infrastructure when needed, but does provide a simple cost structure. The other end of the spectrum is real-time pricing, in which electricity is priced based on actual costs of generation, transmission and distribution. There is no overcharging or undercharging for electricity, but consumers may not be able to reduce electricity demand during peak times and therefore risk incurring higher costs. A third option for retail customers falls between these two extremes. Time of-use (TOU) pricing mechanisms take advantage of the general predictability of electricity costs on a daily and seasonal basis. TOU pricing also reduces the risk for customers by providing certainty.

In deciding pricing policies for smart grid deployments, regulators must consider not only the pricing programme, but also the approach taken to communicate and deliver such changes to the customers. The following questions need to be considered:

• Should dynamic pricing be the default service or an optional service?

• Are there better alternatives to dynamic pricing that can yield equivalent demand response benefits, such as peak time rebates or direct load control, which may be easier to understand and less controversial?

• How much time differentiation in prices is needed to deliver demand-response benefits?

• What transitional policies are needed to help overcome customer inertia and risk aversion?

Transition strategies and policies are especially important considering opposition by some consumer advocates to smart metering deployments and associated pricing changes

More research is needed to examine how time differentiated pricing can best induce behavior changing effects, taking account of such factors as the rate difference needed and the optimum number of time zones for consumer communication. Transition strategies to be studied include consumer communications schemes, shadow pricing, bill protection mechanisms and two-part rate designs

Develop and implement consumer protection policies

The main consumer protection issues associated with smart grid deployments include: i) privacy, ownership and security issues associated with the availability of detailed customer energy consumption data; ii) customer acceptance and social safety net issues associated with new types of rates, especially dynamic pricing; and iii) consumer protection issues associated with remote disconnection functions made possible by smart grids. These consumer issues should be addressed within the overall context of smart grid design and deployment planning; otherwise there is a very real potential for some customers to react adversely or even be harmed.

Customer data privacy, ownership and security issues are a leading concern of consumer and privacy advocates. Smart grid and smart meter deployments create large amounts of detailed customer-specific information, while energy providers gain a new medium for customer interaction. Policy questions needing attention include:

• Who owns the customer’s data, and how is access to and use of this data regulated?

• Who guarantees privacy and security of customer data (e.g. against risk of surveillance or criminal activity)?

• Will sale or transfer of customer data be allowed, and under what terms and to whose benefit?

• In jurisdictions with retail choice, are measures needed to ensure competing electricity providers have access to customer data on the same terms as the incumbent utility?

Many regions are beginning to address these issues, as evidenced by rules relating to consumer data recently proposed in Ohio and by the European Commission’s expert group on regulatory recommendations for safety, handling and protection of data (part of the EU’s Task Force on Smart Grids), among other projects. The Office of Gas and Electricity Markets (OFGEM) in Great Britain is proposing to have an independent organisation (Data Communications Company) to access and store consumer data, and to disseminate only the basic required data to the relevant parties for billing or usage purposes. Best practices are coming to light in these and other project, and work in this area must continue.

Customer acceptance and social safety net issues

Customer acceptance and social safety net issues are of key concern where consumer advocates warn of rate increases and adverse consequences, especially for vulnerable consumers or those who cannot adjust their usage patterns as a result of pricing. Additionally, smart grids could allow quicker disconnection of service and negatively impact vulnerable consumers such as low-income groups, pensioners and the handicapped. These groups may be disadvantaged by dint of their consumption level or inability to change behaviour, or they may be subject to new rate burdens that are not commensurate with their opportunity to benefit.

The development of smart metering and dynamic pricing technology also introduces new pressures and opportunities for rate regulation. Charging customers the same electricity price all hours of the year when the true cost of electricity changes constantly may not be good regulatory practice – if it is possible to deploy the technology in a cost effective way to reflect these variations.

There is also some evidence that smaller customers, including low-income households, have been paying more than their fair share for electricity, while larger users with big, temperature-sensitive loads may be driving up electricity costs for everyone. From this viewpoint, smart metering and dynamic pricing provide an opportunity to remove hidden rate subsidies that until now have burdened smaller customers. Further, in many pilot projects, including the PowerCents DC project in Washington, DC, lower-income customers have signed up for the programme at higher rates than others, and have responded to price signals.

Further research is needed to identify the full range of consumer protection policies and make recommendations to governments on smart grid related consumer protection issues.

As smart grid technologies are deployed, electricity systems will become more customer-focused, but customer behaviour is difficult to predict. A long term process of customer education and improved understanding of customer response is needed to consolidate technology and user interactions across the electricity system. Energy utilities, regulators and consumer advocates all have a role in building awareness. Ultimately all investments are paid for by customers, so those deploying smart grids should be able to demonstrate clearly how costs will be recovered and how investment will benefit the customer. Customers must be significantly engaged in the planning and deployment of smart grids, at demonstration stage and at full-scale rollout. So far, customers have seldom been at the table during the smart grid planning process.

A positive example of a good customer engagement strategy can be found in ENEL’s Telegestore project in Italy. During the rollout of 33 million smart meters, ENEL dedicated time to educating the public through town hall meetings and discussions with consumer protection groups that had voiced concerns over the collection of data about consumer energy habits. While assuaging people’s doubts, Enel was able to explain that most customers’ bills would go down because of smart meters, helping increase customer loyalty.

The demonstration and deployment of new technologies involves some level of risk. The risk must be analysed and addressed jointly by stakeholders; technology risks can be best addressed by the technology providers and system operators, while policy and market risks must be considered with regulator and customer involvement. By phasing demonstration and deployment carefully while considering and adapting policy, regulation and institutional structures, risks can be minimised and projects will be more broadly accepted. It can be argued that risks associated with smart grid development, demonstration and deployment will be lower than the risk of not addressing the coming changes and needed investment in the electricity system.

Source: Technology Roadmap- Smart Grids

© OECD/IEA, 2011