The right to continue to consume? – Energy Institute Blog

Historical baseline allocations can improve acceptance of emergency policies or lock in unfair resource allocations.

The price of a commodity may rise because inputs make it more expensive, or there is a shortage (real or artificial) in supply, or society realizes that the commodity is bad for the environment and imposes pollution taxes or new regulations. Whatever the reason, high prices mean consumers who use a lot of goods are the hardest hit. The standard economist’s response to this effect is a shrug. When it comes to fairness, the government’s job is to help those who are disadvantaged, not to cushion everyone from changes in market prices.

But this view is not universally accepted. Some argue that breaking away from the status quo makes the change inherently unfair. This notion of “status quo fairness” — that change is unfair because it makes a group of market participants worse off — is of remarkable importance, no matter how unjust the status quo or the process that led to it. injustice.

So people have been looking for a way to compensate policy losers while still creating better incentives for using scarce, expensive or environmentally damaging goods. An appealing approach is historical baselines: giving customers the right to continue consuming the quantities they bought at the old price level (their historical baseline quantities), but exposing them to higher (or sometimes lower) true market prices, in response to any changes to that price level. quantity.

If energy is your thing, a “historical baseline” might allow paying customers to use less electricity during peak hours. But this approach applies to everything from water allocations to airport landing times to pollution discharge rights. The entire Paris Agreement is premised on historical baselines.

GHG emissions per capita in 2005 (source)

In the purest implementation, the client pays the market price for any increase in the historical baseline volume, but is compensated at that price for any decrease in the baseline. Economists point out that this way, customers would face the true cost of their incremental consumption decisions (up or down), but still be shielded from large price changes in their historical usage.

Of course, if the historical baseline numbers are themselves the result of historical injustice—such as greater water use by those who could afford sprawling estates due to inherited privileges—it might not be very fair to lock in that preferential treatment. Still, if political realities mean the alternative is gridlock, or worse, new policies, allocations based on historical quantities may still hold a lot of appeal.

Should this home accept high water usage benchmarks? (resource)

But there are practical issues associated with implementing policies based on historical baselines. On the one hand, many (most?) customers will feel that their baselines underestimate their future needs. History is never a perfect indicator of future demand: One family finds its electricity needs rise as new members of the family join, while another sees electricity demand drop as kids go to college. I still remember presenting this baseline anchoring approach to a group of Silicon Valley companies during the California power crisis in late 2000 (also during the dot-com bust), and most participants responded that the idea made sense, except for their Business is growing by leaps and bounds. Um……

Another important practical problem is baseline operation, which is an interesting challenge. If baseline anchor allocations are used sparingly and only during unpredictable crises, customers will not have much incentive to increase usage to improve their baseline. But if implemented regularly, they will.

Suppose an unexpected, once-in-a-lifetime world event suddenly makes natural gas (and electricity) more scarce and expensive. The government realizes that high prices will help incentivize consumers to save, but the punitive impact of imposing these fees on all consumption would be devastating for low- and middle-income consumers and could lead to a sharp macroeconomic downturn. You might think that the historical baseline allocation of moderately priced natural gas might be an imperfect but not the worst policy. However, there seems to be very little talk of this approach in Western Europe these days, and instead it is rapidly moving towards price controls on almost all consumption, an approach that would hinder protection and increase the risk of real shortages.

European gas prices (EUR/MWh)

On the other hand, if events (and baseline settings) occur regularly, strategic responses to historical baseline assignments are more likely. If you’ve lived in California for a long time, probably the first example that comes to your mind is water allocation. When the state falls into a severe drought, water restrictions based on historical use appear on the first page of the policy manual. However, anyone who thinks about it long-term will realize that this means that in years when water is less scarce, water conservation has a downside to lowering the baseline.

Then consider electricity customers who pay to reduce consumption when the grid is strained, which happens multiple times each summer. Often, the baseline to measure this reduction is their consumption over the previous few days. Seasoned clients—who do most of the work for these programs—will design consumption algorithms to account for the value of establishing a higher baseline for future compensation. (Just ask the consultants who advise big clients on this “optimization.”) The result is paying to reduce usage that otherwise wouldn’t happen.

The good news is that since these events happen so often, it’s not hard to build a market where clients can buy their benchmarks (called forward contracts) at regular prices before anyone knows when the heatwave is coming. This approach is also resistant to manipulation, as customers are effectively paying a fair price for a higher baseline that reflects the expected cost of providing electricity.

However, electricity markets are stuck in a paradigm of paying for demand reduction from an easily manipulated baseline. It’s actually worse than that, because these plans typically only pay for being below the baseline and don’t charge more for being above the baseline, so they get less of the benefit of reducing demand. As with water allocation, if use is reduced within the time frame for which the baseline is set, there is less incentive to invest in conservation technologies.

Historical baselines are a tool that, in some cases, can help economies manage scarcity in a fair and efficient manner, but they can also lock in an unfair distribution of precious resources. When historical baselines are likely to be most effective, policymakers should aim to use them infrequently and targetedly, while not allowing them to be captured by powerful private interests that achieve the greatest return with the least effort . I hope by the end of this post I can understand why the practical application of historical baselines seems to be a mirror of when it is most valuable, but I still don’t get it. Maybe your comments can fill in.

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Suggested Citation: Borenstein, Severin, “The right to continue to consume?”, Energy Institute Blog, UC Berkeley, November 7, 2022, https://energyathaas.wordpress.com/2022/11/07/a-right-to-keep-sumption/

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