Looking to the future of energy efficiency markets and programs

Part Three in a series where ACEEE examines the most effective roles for energy efficiency programs and market-driven solutions in scaling deployment of energy efficiency. To read Part One click here. For Part Two, click here.

My first blog post addressed the false dichotomy of choosing between energy efficiency programs and market-driven solutions, pointing out the successes and limitations of market-based solutions and the need for markets and programs to work together in order to maximize societal benefits. My second post reviewed the history of efforts to increase reliance on market-driven solutions, finding success in a few market segments, difficulties in some other market segments, and a tendency to focus on “low-hanging fruit.” However, the clean energy landscape is changing, and new approaches can and are being tried that may potentially have better outcomes in the future. In this final blog post in the series, we’ll explore recent developments and potential opportunities ahead, including both market-driven opportunities and opportunities for market-driven solutions and energy efficiency programs to work together.

Much has changed in energy efficiency and related markets in recent years, and further major changes are likely. New technologies and services continue to be developed, and new players enter the market every year. Recent developments include many new intelligent efficiency opportunities and the growing saturation of smart meters that make a wealth of new information available to customers and those who serve them. New firms are offering behavior-based services and nurturing interest in new financial products, such as those from green banks and from private firms. The utility industry is also going through profound changes, which could affect how energy efficiency services are offered. And proposed new regulations to reduce carbon pollution from existing power plants will likely increase the need to capture as much energy efficiency savings as possible.

In this environment, it is useful to divide energy efficiency opportunities into three segments: (1) those in which markets are largely functioning well, and in which only limited energy efficiency programs are needed; (2) those in which market barriers are particularly large, and in which programmatic support is likely to be needed for the foreseeable future; and (3) a large in-between category, in which it is appropriate to experiment with new approaches in the hope that many will work, but with the expectation that some will not.

Where market-driven approaches are largely functioning well

There are some market segments where market-driven approaches are doing well. Energy service companies (ESCOs) have refined their service offerings for the so-called “MUSH” market (municipalities, universities, schools, and hospitals) and now are doing nearly $6 billion a year in business, primarily in energy-saving performance contracts (ESPCs) that guarantee a level of savings, often for ten years or more. Energy-efficiency programs can sweeten ESCO offerings by encouraging ESCOs to go broader and deeper with their energy efficiency retrofits and to reach some customers they might not reach on their own, particularly customers somewhat smaller than those they normally serve. A 2014 Lawrence Berkeley National Laboratory study found that 36% of ESCO projects involve energy efficiency program incentives.

ENERGY STAR® now certifies more than 70 different energy-consuming products, identifying roughly the top 25% to receive the ENERGY STAR label. More than 85% of consumers recognize the label. Market penetration ranges from about 1% (for electric water heaters) to nearly 100% (for some categories of televisions) with the average roughly 50%. Most of these products receive promotional assistance from energy efficiency programs but not direct incentives. However, a companion program, ENERGY STAR Most Efficient, recognizes the very best products on the market and needs help from energy efficiency programs, both promotion and incentives, to encourage both sales and increased product offerings.

Very large industrial customers often have in-house energy managers who are able to effectively manage a firm’s energy use and identify promising projects. Allocation of capital to fund energy efficiency programs remains the primary barrier to greater implementation of these projects. Energy efficiency program incentives, either in the form of cash or in-kind services can be a major inducement to move these projects up the list for project funding. For these large customers with well-established internal programs, self-direct programs have proven effective in providing incentives to customers for their internal energy management efforts.

Areas for experimentation

A number of additional market segments and services could potentially be attractive for market-focused strategies, although for many of them there are also significant roles for energy efficiency programs. Examples include:

ESPCs in Large Commercial Facilities and New Takes on the ESCO Model. ESCOs see substantial opportunity to serve the large commercial market, applying lessons they have learned in the MUSH market. The development of insurance products to manage risk around these types of projects could provide comfort to more building owners and ESCOs around deeper retrofits. The Vermont Energy Investment Corporation (VEIC) has also established a low-profit limited liability company (L3C), Commons Energy has developed a Public Purpose ESCO that hopes to address underserved markets including small- to mid-size multifamily affordable housing.

Smart Buildings and Smart Manufacturing. Sensors, controls, software, and data analysis are being used to optimize buildings and manufacturing. For example, new smart building services can help optimize building operations, saving 10% or more in some applications. There are similar opportunities in manufacturing. Payback periods are commonly only a few years, and can be expected to decline with time. Energy efficiency programs can help to encourage initial installations and document benefits, but over time, vendors may be able to sell these services without incentives, particularly in large facilities. Likewise, new smart thermostat products can optimize heating and cooling based on current weather and a household’s patterns. Heating and cooling energy savings of 10% or more have been documented in a few studies, although more data are needed. Sales are growing, but due to the high purchase cost, marketing has so far targeted upscale consumers. Upscale markets could flourish, although energy efficiency programs are likely to be needed if more downscale consumers are to enjoy the benefits as well. Integration of these thermostats with other sensors and controls could enable truly smart homes and businesses.

New Financing Strategies. There is a lot of creative activity happening to develop new financing strategies that hopefully will have much broader appeal than past programs. For example, on-bill finance and PACE finance have received a lot of buzz in the last few years for their ability to attract secondary markets, and for their potential to serve traditionally harder-to-reach markets. In a few cases thus far, PACE in particular has achieved significant market penetration. For example, Renovate America’s HERO Program has used PACE in California to finance approximately 25,000 home upgrades and has completed two rounds of securitization. It is important to note, though, that many entities realizing success with financing are also leveraging ratepayer incentives. In addition, there are new private sector start-ups that are closing deals, including Noesis, Kilowatt Financial, Joule Assets, and SparkFund. And, multiple states have started green banks to explore new models for delivering energy efficiency across multiple market sectors.

Home and Building Rating and Disclosure. Developing standardized energy efficiency ratings for homes and buildings, and disclosing this information to potential purchasers and tenants, can make it much easier for shoppers to consider energy efficiency as they make purchase and lease decisions, creating an incentive for home and building owners to improve efficiency before they sell or lease. Quite a few cities have established commercial building disclosure programs. Residential programs are also offered, but thus far are more limited.

Energy Use Feedback and Data. Providing consumers with information on their energy use and how it compares to peers has been shown to reduce energy use about 2% for monthly mailed reports, and by roughly 4% when feedback is in real time. Such approaches have also been used to reduce demand during peak times by an average of 3% without incentives. So far these efforts have been primarily offered under contract with utilities, but private firms could potentially offer these services if either they receive performance incentives from utilities, or if energy pricing is structured in ways to reward consumers who purchase these services. More broadly, with much more data now available from smart meters, and increased attention on ways to glean insights from “big data,” there should be many opportunities for both utilities and contractors working with customers to extract targeted information on specific opportunities for saving energy, and for targeted marketing of these opportunities.

Jointly Marketing Efficiency and Solar. Quite a few firms are aggressively marketing photovoltaic systems. A few of these, such as Solar City, are also marketing energy efficiency services, both as a way to increase bill savings and as a way to reduce system costs, since when loads are smaller, systems can be smaller. We see this trend growing.

Electric and gas vehicles. Electric vehicles generally use less energy per mile traveled than gasoline and diesel vehicles, even when considering the full fuel cycle, including energy losses at the power plant. As a result, while purchase costs are high, operating costs are generally lower, even after allowing for the fact that electricity is generally more expensive per Btu of energy than gasoline. Likewise, natural gas vehicles also generally have lower operating costs, due to the lower costs of their fuel, although their efficiency is similar to gasoline vehicles. We see growing efforts to promote these technologies, including by vehicle manufacturers, other private service providers, governments, and utilities. For example, the California Public Utility Commission originally asked utilities to not build charging stations in order to leave this field to private vendors, but recently reversed course, concluding that utilities have an important role to play in the development of this market.

These are just a sampling of potential areas where it is worth experimenting with market-oriented approaches but also where energy efficiency programs can perhaps partner with service providers in order to achieve savings while also providing valuable services to customers. If I were to revisit this topic in a few years, I am sure there would be additional examples to add, as the market for efficiency services is currently very dynamic.

Where market barriers are large and energy efficiency programs are clearly needed

Other market segments are likely to continue to be reliant on energy efficiency programs for at least quite a few years, although market-driven strategies can also play a role. At the top of this list are programs for low-income households, where, without significant incentives, energy efficiency actions are likely to be limited. The barriers to energy efficiency in low-income households include limited income to pay upfront costs and poor credit histories, making loan approval difficult.

Other challenging market segments include rental housing and small businesses. Rental units face the split incentive problem, where landlords have little incentive to invest if tenants pay the energy bills, and tenants have little incentive to use energy smartly if the landlord pays the bills. If buildings are rated on energy efficiency, and this becomes a factor in leasing decisions, then landlords will have some incentive to improve their units, although outside of high-rent buildings, there will likely be a long-term need for best-practice energy efficiency programs.

Likewise, small businesses can be hard to reach as owners and other decision makers generally have little time or expertise to consider energy efficiency opportunities; plus, marketing costs are high per unit of energy saved. So far, the most effective approach for this segment has been "direct installation” energy efficiency programs (see section starting on p. 186), where specific services are offered, and all the owner has to do is say “yes.” Noesis has done some small-commercial projects, working through contractors and providing financing, but thus far many of these projects are lighting only, and their large commercial projects significantly outnumber their small commercial projects.

Markets and energy efficiency programs working together

In most market segments there is a role for both market strategies and energy efficiency programs, with the relative mix of each varying by market segment. Of the areas discussed above, markets are ultimately likely to dominate in the large MUSH market, but help from programs will likely continue to be needed for smaller facilities. After the market develops further and benefits are clearly demonstrated, smart-building and smart-manufacturing systems may do well without incentives, particularly for large facilities, and as prices come down, medium-sized facilities may also benefit. For smart thermostats, markets may dominate for upscale homeowners, but programs are likely to be needed to promote their use for households where the high upfront cost is an issue.

For energy-efficient equipment, ENERGY STAR can generally promote equipment of above-average efficiency, but for the very best equipment, more active promotion from energy efficiency programs will be needed, helping to grow availability and market share until those levels can become the ENERGY STAR standard, and ultimately, levels mandated by minimum efficiency standards. A similar situation exists for new construction, where modest efficiency improvements can be encouraged by ENERGY STAR homes and LEED certification, but more extensive improvements, such as net zero energy homes and buildings, will need more active assistance from energy efficiency programs, such as providing technical assistance to architects, engineers, and developers on state-of-the-art design practices.

For existing single-family homes and small/medium-sized businesses, both markets and energy efficiency programs have important roles to play. Contractors often sell efficiency services to these markets and have achieved some success, but energy efficiency programs can substantially increase the number of customers who purchase these services and can also increase the depth of savings. For these market segments, neither the market nor efficiency programs can do it all, and new creative approaches are needed. To note just one potential approach, Nate Adams, founder of Energy Smart Home Performance, has proposed that programs just pay per unit of energy saved and leave all other details to the market.

Experimenting, but not gambling, with energy efficiency savings

Much of this blog post talks about new market-based approaches that show some potential for achieving energy savings and other benefits. I strongly encourage experimenting with these approaches, but we should be careful not to phase out proven, more traditional approaches until new approaches are proven to achieve similar participation rates and savings. If we phase out programs prematurely or rely on approaches that are less effective than current programs, the result will be less energy efficiency savings and more need to rely on new energy supplies. As discussed in the first blog post in this series, energy efficiency is generally the lowest cost resource. It helps keep energy bills down, and helps meet environmental objectives, such as reducing greenhouse gas emissions. We do not want to sacrifice these important objectives. Therefore the measuring stick for both programs and markets is to maximize the amount of energy savings that can be achieved at a cost below that of new power plants and other energy resources.

Conclusion

Clearly, markets are a major component of the success of today’s energy efficiency efforts, and can probably play an even larger role going forward. This post points out some potential market opportunities over the next five years or so; in the longer-term even more may be possible, although it is hard to predict where. The fundamental question in this debate, though, is not which policy works best, markets or energy efficiency programs, but how to build a mutually cooperative strategy, taking the best from markets and energy efficiency programs.

In addressing this question, two overriding issues apply, regardless of the market segment or service in question. The first is: Which approach is most cost-effective for a given market? Our research shows that right now, most traditional energy efficiency programs are hard to beat. The second is a question of reach: Which approach is more likely to scale to meet the breadth of the potential efficiency market, and which approach can reach the depth of consumers in any given segment? So far, the answer seems to be mixed. Finance and other market-based approaches can leverage resources to reach a scale that traditional programs may have trouble achieving, while those same market approaches may be fundamentally incapable of reaching the full spectrum of energy consumers—a critical consideration, particularly where ratepayer funds are being deployed. At the end of the day, the winning strategy will be the one that takes the best from markets and energy efficiency programs in order to maximize benefits to all ratepayers and to society as a whole.