Climate Change Adaptation Lessons from Freezing Texas

This blog post will sketch out some optimistic economics 101 lessons for how to reduce the risk of future Texas power blackouts without building a single new power plant.

In an economy that features no battery storage technology, a blackout occurs when at the given price of power — aggregate demand exceeds aggregate supply.  Such a shortage can arise on a very cold day if most heating is fueled using electricity and if any of the up and running power generators such as wind turbines reduce their aggregate supply of power.

Rolling blackouts injure energy consumers because a key input in daily life (electricity) is unavailable at random times and this causes pain and inconvenience.   Backup power generators and home Tesla battery systems represent two free market solutions here.  

What are other adaptation strategies that would reduce the risk of power blackouts during extreme weather events?

First, a state’s PUC could build in “fat” so that it has access to extra power generation and transmission capacity on extreme weather days.   Due to climate change past histograms of winter and summer weather are likely to understate the likelihood of extreme weather days going forward.  We know this and the planners should engage in some robust supply design to be ready to deliver more power during extreme events.   

An alternative to this robust “supply” margin is to take a look at aggregate demand.

I am fan of the following opt in critical peak pricing incentive approach to reducing the aggregate demand for electricity during peak times.

In a state such as Texas, the electric utilities should use their Big Data administrative data bases to profile which subset of their residential, commercial and industrial electricity consumers are major consumers of power and which have observable attributes that suggest that they are price responsive.   For example,  an office building that is closed at night could shut off all of its lights during those hours.  It won’t bother doing so if the price of electricity is low.

So Step #1: the utilities profile consumers and identify high baseline consumers whose attributes suggest that they may be responsive to an “opt in” incentive program.

Step #2:  Invite the subset identified in Step #1 to participate in the following critical peak pricing (CPP) program; “Customer, we will pay you a flat fee of $F per year. In return , we the electric utility have the right to raise your electricity price per KWH by X% on 14 days per year”.

Note that this is an OPT IN program. Nobody’s freedom is impinged upon. You can say “no thanks”.   Economics teaches us that some economic agents are always at the margin and will sign up. The utilities can raise $F until enough customers opt in and accept the offer.  $ does not grow on trees. The utility will have to incorporate these new fixed costs into their base costs of doing business.

What is the gain from having a large number of new CPP customers? 

On extreme weather days, the Texas utilities declare a CPP day and the subset of consumers now face much higher power prices and as we know from the law of demand — they consume less power.  Read Frank Wolak’s 2011 paper.  

Step #3;  The electric utilities can use their “Big Data” before and after the introduction of CPP to see if the aggregate demand for electricity becomes less responsive to extreme cold (so the slope dElectricity/dCold weather  shrinks in size.  This is aggregate evidence that the microeconomic incentives are causing aggregate adaptation.

In aggregate in this case, there will be NO BLACKOUT!!!  Econ 101 ideas matter and improve our quality of life when we allow prices to signal scarcity.

The news gets even better here.  The media is reporting that few homes in Texas have winter insulation because people do not expect it to be cold.   Households who sign up for CPP will have an incentive to install insulation for extreme winter and summer temperature because they will anticipate that they will face extremely high electricity prices a few days a year.

Who has the expertise in Texas to install such insulation?  As aggregate demand for insulation rises due to CPP,  young people in home construction and repair will invest in these skills and a new market in resilience will arise.

This theme of market making fueling adaptation is a major theme of my 2021 Yale Press book Adapting to Climate Change. We are not passive victims and we can adapt at ever lower cost if we use free markets and price signals.

A good economics student might ask; “why don’t you raise electricity prices during peak demand times for everybody?  Why do the CPP customers clear the market by doing all of the adjustment?”   I am sympathetic to this point but in 2021 there is a deep concern about protecting the purchasing power of the poor and middle class.  Such income concerns are used as an excuse to not allow prices to float and reflect scarcity.  CPP is an opt in program where those who are most able to cope with price changes raise their hands and reveal themselves.  That is the definition of an “opt in” program.  Politicians are always quick to step in and be a “hero” protecting their voter base from “price gouging”.  Anticipating this point, CPP avoids this issue by selectively raising prices for the increasingly scarce good and focusing the price increase on those who have developed a knack for coping with the price increase (i.e people who have installed insulation in their homes).