Monday's posting on the environmental aspects of the leveraged buyout of TXU by Kohlberg Kravis Roberts (KKR), Texas Pacific and their private equity partners generated a number of comments. They raised some interesting questions about the risk to Texas consumers posed by the cancellation of 8 of TXU's 11 planned coal-fired generating plants, and of the potential to meet those needs through a combination of renewable energy and greater efficiency. These questions can't be addressed without looking at the supply and demand trends in Texas, along with the state's plans for increasing the contribution of power from renewable sources. On balance, this deal isn't necessarily worse for Texas consumers than the status quo, while it's clearly better for the environment.
The Texas electricity grid is more isolated and self-sufficient than most of the regional grids in the country, with limited inter-connections to neighboring grids. Although that limits the flexibility of ERCOT, the Texas grid operator, to deal with unanticipated problems, the sheer size and geographical diversity of the Texas electricity market, which accounts for about 9% of US electricity generation, makes these concerns more manageable. ERCOT's relative isolation also makes it easier to assess the impact of future changes in supply and demand.
In a recent presentation to the Texas legislature, the head of ERCOT summarized historical supply and demand trends and laid out ERCOT's latest forecasts. They reflect the rapid disappearance of a generating surplus that as recently as 2002 provided a 35% cushion of spare capacity. ERCOT projects that this reserve margin will fall below their desired 12.5% minimum by 2009, even with projects for more than 3,000 MW of new capacity already permitted. Based on their forecast, Texas could have an actual supply deficit by 2015, if nothing were done to address this.
The other key fact that emerges from these figures is the state's heavy dependence on natural gas for power generation. Nationally, coal accounts for 50% of our electricity supply and natural gas only 19%. In contrast, Texas relies on gas for 70% of its power needs. Now, since it produces a quarter of America's natural gas from onshore and offshore sources, Texas isn't about to run out of this fuel. However, the price Texans pay for gas reflects national markets, with gas from Texas supplying industry and consumers in many other states. Barring a dramatic shift in federal policies on access to gas reserves, gas will never again see its $2/MMBTU price level of the 1990s. The current futures market reflects prices ranging from $7 to $9 over the next five years, and the economics of unconventional gas drilling, which accounts for a growing share of US supply, sets a floor price of around $5/MMBTU. Nor will LNG provide much price relief at these levels. So not only does Texas face a shortfall in generating capacity, but it is over-exposed to the high cost of natural gas for power generation. Against this backdrop, it's understandable that TXU would have wanted to make a big switch to coal.
But coal is not the only possible answer to this problem. As the state's own Energy Conservation Office indicates, Texas leads the nation in its potential for wind, solar, and other renewable energy. Last year Texas surpassed California in installed wind power capacity, with 2,370 MW. Texas has also established a Renewable Portfolio Standard (RPS) for electricity generation. Under this RPS, Texas utilities must derive 2,000 MW from renewable energy by 2009, 5,000 MW by 2015 and 10,000 MW by 2025. The 2015 figure equates to less than 7% of forecasted demand, even ignoring the lower capacity factors for intermittent sources such as wind and solar. As long as Texas has sufficient capacity from nuclear, coal and efficient gas generation to meet baseload needs, it's hard to see why most of the additional generation required couldn't come from more renewables. Efficiency investments that help to slow the growth of both peak and baseload demand will make that task easier.
In addition, with a national cap on greenhouse gas emissions looking increasingly likely--if not before the 2008 election, then soon after--it's not obvious that coal-fired power generation would remain cheaper in the long run than some of these low-emission alternatives, particularly wind or even nuclear power. Weighing all these factors, Texas consumers probably won't get much relief on electricity prices in the future, regardless of changes in the generating mix. If KKR and its partners fulfill their promises about adding renewable energy capacity and promoting efficiency, then at least from a supply and demand perspective, Texas need not be any worse off than under TXU's previous plan for a new fleet of coal plants, at least some of which would likely never have been approved or built. And in the process, the growth of the state's greenhouse gas emissions should slow significantly.
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