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25 February 2015

Caribbean renewables: Who pays? How much?

While the drop in the global oil price has given some temporary relief to islands in the Caribbean which spend 7-12 per cent of GDP on imported fuel, it is not time for complacency.
 
The rapid deployment of small-scale self-generation observed in many parts of the Caribbean in recent years has started to reduce dependence on fossil fuels, as well as provide self-generating customers with a more affordable energy supply. This is an exciting development for the region, and there is a strong desire among Caribbean governments, regulators and industry to further tap into the region’s significant indigenous renewable resources, reducing oil imports and creating a more sustainable economy. However, the rapid deployment of renewables is challenging the existing utility business model and with it the relatively immature regulatory frameworks in the region. It is these pressures on the existing utility business model that, ironically, could represent the greatest threat to further deployment of renewables in the Caribbean, which in turn, could represent a significant lost opportunity for the region to set itself on a more sustainable long-term path.

The existing business model for electricity utilities in the Caribbean typically comprises single vertically integrated companies tasked with investing in and maintaining generation, networks and providing supply to end customers. Utilities recover both their fixed and variable costs through a tariff on end customers on a ‘cost-plus’ calculation. Two common forms of tariffs can be distinguished: Net metering (utilities purchase the excess power from self-generating customers at the same rate they charge for consumption) and Net billing (a self-generating customer pays for its demand at the full retail rate, including fixed costs, and then sells its excess electricity at a predefined rate). Each of these tariff approaches provides different incentives to customers and utilities. For example, by minimising costs to self-generating consumers, a net metering arrangement may encourage more renewable deployment. With net metering, however, as the volume of self-generation on the system increases there may be a risk of under-recovery of fixed costs for utilities, which may lead them to set a lower limit to renewables penetration than the grid can tolerate. In this scenario, an approach more akin to net billing may be necessary, even if it could somewhat reduce the incentives for self-generation for some customers. In addition, tariff mechanisms may also have to include a ‘demand charge’ to reflect the backup capacity costs, based on the customer’s potential contribution to peak demand.
 
So what are the key principles underpinning these challenges? The answer is probably two-fold. First, the tariffs for self-generation should create the right incentives for efficient renewable deployment, while ensuring that utilities can recover their fixed costs. Second, the existing ‘cost-plus’ regulatory framework may also need to evolve to more of an ex ante incentive-based framework to ensure that customers pay no more than necessary for shared services. While these principles could form the basis of this change process, the precise institution and/or mechanism through which change is achieved will inevitably vary across individual Caribbean countries.
 
Read more on tariff principles for self-generation and other key challenges in the Caribbean discussed at the fifth Regulatory Forum held in the British Virgin Islands on September 24th 2014 in the Thinkpiece prepared by Baringa for the UK Foreign Commonwealth Office.