Shareholder Incentives for Utility-Delivered Energy Efficiency Programs in California

Abstract

The State of California has committed an unprecedented sum of $2.2 billion in ratepayer funds to utility-delivered energy efficiency programs from 2006 through 2008; the State finalized in 2007 the determination of the shared-savings incentive mechanism for the 2006-2008 programs and beyond. This study seeks to examine whether the adopted incentive mechanism would ensure an efficient delivery of the programs, and what reforms, if any, could be proposed to meet this end. We develop an economic model for the implementation of the programs, in which a regulator adopts an energy savings target and a shared-savings incentive mechanism before a utility firm proposes program funding, gets it authorized, and begins to manage it. The study reveals that each utility firm requires a certain minimum incentive rate to ensure that the firm will be encouraged to achieve the energy savings target, eventually bringing non-negative bill savings to its customers. It also reveals that depending on market and regulatory circumstances, a higher-than-minimum incentive rate can be warranted to achieve not only a greater net social benefit but also greater bill savings for customers. Model-based analysis of California energy efficiency programs suggests that a higher-than-adopted incentive rate is warranted and that social efficiency would be improved by customizing incentive mechanisms for individual utilities and updating them on a regular basis.

Keywords: Energy Efficiency, Utility Regulation, Shareholder Incentives, Shared Savings Incentive Mechanism, Ratepayer Funds

JEL Classification: D42, D61, H41