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MIT idea: Reward solar generation instead of installation

Instead of paying generators a flat rate for every kilowatt-hour, how about an output-based approach that rewards production?

In an interdisciplinary MIT study titled “The Future of Solar Energy,” leaders in technology, policy and economics evaluated multiple options for stimulating the United States solar industry.

The authors asserted the current regime of subsidies at the federal, state and local levels is inefficient and has resulted in broad market failure.

While a comprehensive carbon policy would be optimal, direct grants and subsidies that reward generation instead of investment represent a second-best option for stimulating solar growth.

Although the report’s conclusions have been met with criticism from groups such as GW Solar Institute, other experts have welcomed the recommendations.

Policy designs can increase demand for solar

“We ought to have mechanisms in place that subsidize production directly to level the playing field,” said Francis O’Sullivan, director of research and analysis at MIT’s Energy Initiative.

“Currently, a large solar facility that is very well-engineered and optimized will receive substantially less subsidy per kilowatt-hour of production than a rooftop system installed in a high-cost state like Massachusetts.”

O’Sullivan said that if the goal is to increase low-carbon electricity generation to displace fossil fuels, policies should aim to maximize output for every government dollar invested. Unfortunately, net metering, accelerated depreciation and the investment tax credit (ITC) have not had this effect.

The report explained that with net metering, residential and commercial solar producers are paid retail electricity rates while utility-scale projects get the lower wholesale rate. Because per-watt installed costs are higher for small projects than for larger ones, the ITC and accelerated depreciation effectively provide more subsidies for these less-efficient generators.

The MIT study also argued that the ITC does not incentivize producers to locate in areas with high solar exposure or to operate assets as efficiently as an output or price-based subsidy such as a feed-in-tariff (FIT) would.

In countries such as Germany, FITs are often passed on to electricity consumers, creating further motivation to reduce energy consumption. Equally important is that such subsidies are not subject to the high transaction costs that eat away at tax-based credits.

However, instead of paying generators a flat rate for every kilowatt-hour (as with a FIT), the experts suggested an output-based approach that rewards production more when it is most valuable, such as during peak demand.

The report urged that if an output-based subsidy is not possible, Congress should replace the ITC with direct grants to increase transparency and efficiency.

However, if the tax-based incentives must remain, mechanisms such as the master limited partnership (MLP) should be made available to the solar industry to eliminate reliance on the tax equity market.

In a counterargument in support of the ITC, James Mueller, director of research for GW Solar Institute, said, “Unlike other proposed measures, the investment tax credit supports emerging technologies, geographic diversity and a more equitable distribution of taxpayer dollars.”

Mueller also said the MIT report combines pragmatic and political realities in a non-systematic way: “Its recommendation to reform net metering policies sooner rather than later, for example, rests on an argument of political expediency instead of its actual analytical results.”

Mueller said this stance contradicts the authors’ support for outcomes such as decreased grid congestion and reduced need for new capacity — all benefits of distributed generation that stem from net metering.

With debate ramping up ahead of the ITC’s scheduled step-down in 2017, now is a critical time for stakeholders to influence future policy.

Financial innovations hold promise

Despite the above policy challenges, the MIT study emphasized that financial innovation continues to unlock new sources of cheap capital for solar. It cites yieldcos, asset-backed securities (ABS), MLPs and real-estate investment trusts (REITs) as the most promising financial tools, although the latter two are not yet available to solar developers.

O’Sullivan said that all of the above mechanisms are allowing investors to get more familiar with the risk profiles of the technology, which will continue to open up access to more capital at lower cost.

“Taking several hundred basis points off the cost of capital will greatly enhance the competitiveness of solar, which will build more confidence in the technology and greater interest from utilities,” O’Sullivan said.

While O’Sullivan declined to speculate on when solar MLPs may materialize, he said he is confident that the days of simple net metering are numbered. He said that this issue and the political uncertainty around retail solar regulation pose significant risks to the residential industry, which must continue to innovate to stay ahead of impending changes.

Expansion of government-funded R&D

The report also called for expanded government funding for research into new solar technology. Instead of focusing support on soft cost reduction and manufacturing innovation, the Department of Energy (DOE) should prioritize “fundamental research to advance high-potential, high-risk technologies that industry is unlikely to pursue.”

The report noted that 80 percent of the Solar Energy Technologies Office (SETO) budget was dedicated to core photovoltaic (PV) and concentrated solar power (CSP) technology programs in 2010. By 2015, that number had fallen to just 33 percent. Instead of supporting these already-established technologies, the DOE should concentrate on research aimed at a paradigm shift for solar.

“There has been a refocusing of funding toward non-core technology areas. Many of these issues are of commercial concern to entities in the industry, which are actually incentivized to work on them themselves,” O’Sullivan said. While he praised the DOE’s support of incremental cost reduction for existing renewables, he said its approach has been too conservative.

According to the report, a mere 2.2 percent of solar projects funded through the agency’s loan guarantee program are currently in default. Of note is that many DOE-funded projects greatly have exceeded the size necessary for effective pilot-scale technology demonstration.

“The department has become, effectively, a big energy banker,” O’Sullivan said. “By supporting 10 or 15 novel projects at $20 million or $30 million each, we could learn much more than by supporting one or two very large projects at $1 billion each.”

Among the most promising new technologies cited in the report are thin-film solar cells based on abundant materials such as perovskite. Pilot-scale facilities that can prove new CSP systems also should take priority.

O’Sullivan said the report is not meant to be a harsh critique of the DOE’s strategy. On the contrary, the scale and commitment of the administration’s support has been extremely helpful in establishing the current renewables portfolio.

“However, we believe that the distinctive impact that the department can have would be better served by the modifications that we recommend,” O’Sullivan said.

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