The economics of providing electricity to wind and solar consumers have changed over the past year with rising natural gas prices. This article was inspired by a Sierra Club Facebook post brought to my attention a few weeks ago at the NextEra Investor Conference. Much has been written about the need to accelerate the transition of the electricity grid from fossil fuels to renewable sources. Much has been written about the various subsidies provided to both renewable energy sources and fossil fuels. Regulations, Mandates, Laws and Lawsuits. The whole discussion is important. But that’s not what this article is about. This article is about how market prices change the economics of electricity generation. I will cover a brief history of solar and wind generation in America at a high level. When wind and solar arrived 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 only wanted to do it for the environmental or off-grid benefits because they knew the costs would be higher.
- Some, like Germany, knew it didn’t make economic sense, but wanted to reduce costs for future customers and were unselfishly willing to pay those increased costs for small current environmental benefits in the hope of substantial future environmental and economic benefits. . Now the investment seems to be paying off.
A few years ago, the dramatic drop in the cost of generating electricity from both wind and solar meant that renewables were as cheap as or cheaper than fossil fuel generation in many places. This has worked well to support some limited renewable projects. But utilities still had to deal with the significant drawback that solar power only worked during the day, and wind power could be intermittent in places where wind sources change from day to day. These occasional problems don’t have a big impact when renewable energy is a small percentage of the grid, but as the percentage increases, it causes more problems. Now for breaking news — the price of natural gas, a very popular energy source to replace coal in electricity generation, has approximately tripled.
As a result of looking at current and future costs, NextEra has agreed to be net zero for Scope 1 and 2 by 2045. Why is it making this commitment? One of the reasons is certainly that they want to help the environment, they want good publicity and they want to respond to the pressure to produce cleaner electricity. But as the chart above explains, the main reason is that the economy has changed dramatically over the past year.
In Florida, inflation has unfortunately increased the cost of electricity generation in all alternatives. However, it did not affect all forms of electricity generation equally. Natural gas production has been affected by inflation to a much greater extent than solar and wind power. What does it mean? For an economist or MBA or energy company decision-maker trying to find the most economical way to generate electricity in an environment of increasing demand, that means funding more growth in wind, solar and batteries.
Until recently, it didn’t make sense to decommission well-functioning plants with a lifetime (not for economic reasons, maybe for environmental reasons), even if it meant investing more in newly built renewable plants. Since many generators are designed to last 30 years, this means you only replace about 3% of your generators per year. Add to that the fact that you have an additional 2% population growth and 2% additional demand from electric cars and home electrification. That’s only about 7% per year, even with 100% renewable energy for new capacity.
It is now cheaper to build wind and solar plants than to run existing old plants
But what has changed over the past year, looking at the prices they analyzed above, and assuming those numbers are reasonable prices in the future (which may or may not be a valid assumption), is that it may now make sense to replace perfectly the good natural gas plants you just built a year ago with the renewable ones. I wouldn’t want to now tear them down — you can simply grease them and let them run 10 days a year if needed.
NextEra and others are also doing a lot of research on converting these plants to hydrogen instead of natural gas. Initially as a mixture, but eventually 100% green hydrogen made from solar energy and water. I spent years in microeconomics class learning that it was all about marginal cost. If the cost of people and fuel for that natural gas plant is greater than the cost of wind and solar with battery backup, it makes sense to shut down 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 cost to people is relatively low because there is nothing you can do with a solar panel other than occasionally wash the panels. What costs a lot of wind, solar and batteries is the cost of buying and installing them. Once installed, they are very cheap to run. One possible solution is that when you have assets like wind, solar and batteries that have high initial capital costs but low O&M costs, those assets are more attractive in a low interest rate environment. It is clear that interest rates are rising this year and are expected to rise significantly more. If you raise interest rates by a few points, it will add about 10% to the cost of wind and solar, but with wind and solar costs 53% and 48% lower, respectively, they will still be well ahead.
Lazard did a similar analysis 9 months ago and found that while costs vary widely depending on many factors, in many cases it was economically viable to shut down coal and nuclear plants, and in some cases it even made sense to close a combined cycle plant. plants. Coal and nuclear haven’t changed much in 9 months, but natural gas prices are up about 80%, making a faster transition from gas to solar generation economically viable.
Before this price change, new gas plants were still being built, but if utilities act rationally and notice how profitable NextEra has been in transitioning to renewables, higher natural gas prices shouldn’t just stop all new electric lines natural gas. power plant construction – should significantly accelerate the replacement of existing coal, natural gas and nuclear power plants based on price alone.
It depends on whether people believe that these natural gas prices will remain elevated or whether the high prices are temporary. My view is that drilling activity is still quite low, so prices are likely to remain quite high for quite some time. Of course, even if you want to replace all those old plants with wind and solar, it will take many years. Regardless, today is a significant milestone in the transition to renewable energy sources. This is one of the first industry acknowledgments that wind and solar are not just cheap enough to outcompete new plants; they can start to destroy recently built modern plants in good condition!
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