Green Energy Shock: Canadians Confront Climate Policy

By Allen Brooks -- September 14, 2016

“Ontario’s government signed contracts with wind generators that guaranteed them 13.5 cents per kWh. Solar generators actually get paid more. So with the Hourly Ontario Electricity Price at around 2.5 cents, someone has to pay for the 11-cent subsidy for wind power. Therefore, the more renewable power generated, the greater the Global Adjustment Tax becomes.”

The love affair between U.S. President Barack Obama and Canada’s Prime Minister Justin Trudeau is largely based on their symbiotic view of climate change and the need to radically alter their respective economies to prevent the hypothesized damage. Some of the Canadian experience with green energy and its cost pre-date Trudeau’s rise to power. Much of the experience comes from power market machinations conducted in the province of Ontario.

Alberta Downturn, Climate Taxation

The most recent Canadian green energy shock is occurring in the province of Alberta where the New Democratic Party (NDP), led by Premier Rachael Notley gained political office a few months ahead of the national election that brought Mr. Trudeau into office. The NDP’s agenda was left of center and heavily focused on changing the province’s natural resource-based economy, raising taxes, and implementing a green energy agenda.

The oil industry downturn arrived shortly before the NDP assumed power and has slammed the province’s economy, while generating knock-on economic impacts on the nation’s economy. Alberta’s economy is estimated to experience a 1.9 percent contraction in 2016 after shrinking by 4 percnet in 2015, but the nation is expected to post a 1.5 percent gain in gross domestic production (GDP) this year after reaching only a 1.2 percent growth in 2015.

The continuing global economic weakness may prove to be a further drag on Canada’s national economy, although the rise in global oil prices may assist Alberta’s economic recovery.  Now, however, Alberta is facing a huge potential problem with the cost of its electricity that could further penalize future economic activity in the province.

In late November 2015, Premier Notley announced that the government would raise the carbon tax in the province from $15 per ton to $20 effective January 1, 2016, and then raise it again in 2017 to $30 per ton. The applicability of the tax was also extended, meaning that households in the province would likely find that their heating, electricity, and transportation costs increase by $470 in 2018 assuming they use the same amount of fossil fuels as they did in 2015.

The far-ranging climate policy, besides raising the carbon tax for the first time in eight years, also included a cap on oil sands emissions, a phasing out of coal-fired electricity generation and an emphasis on wind power. It is aspects of the electricity plan that have now come back to bite the NDP, causing them to run to the courts in an attempt to have judges bail out incompetent bureaucrats.

The phaseout of coal-fired electricity generating plants was scheduled for 2030, but now that date has been moved forward. The cost of operating these coal-fired power plants is rising due to the carbon tax hike and the mandated increase in efficiency targets for large carbon emitters. Low natural gas prices have further undercut the plants’ economics. The new carbon tax is estimated to push the carbon cost for electricity from about $2 a megawatt hour in 2015 to $21 in 2017.

At the same time, natural gas-powered plants are generating electricity at considerably lower prices. The result is that while coal-fired plants could sell their electricity for $49 a megawatt hour in 2014, that price was down from $80 a megawatt hour in 2013.  This year that same megawatt hour of electricity can only be sold for $16, seriously damaging the economics of electric contracts tied to the earlier megawatt prices.

Power Purchase Arrangements

After discussions with the government, four power companies, with existing power purchase arrangements (PPAs) with the province’s Balancing Pool to purchase electricity produced by these expensive coal-fired power plants, decided to hand them back. The companies elected to exercise a clause in those agreements to hand back the PPAs that was allowed if a change in law made them “more unprofitable.” The companies have estimated that the value of these PPAs is $2 billion.

A recent report by two Canadian university economists, one of whom was a chair of the Alberta advisory panel that helped develop the revised provincial climate policy, claims the cost of the PPAs is overstated by $1.4 billion. We aren’t going to get into the numbers debate. Suffice it to say that the cost impact is large. It will show up in the form of higher monthly utility bills for households.

Furthermore, one of the entities owning a PPA is the Calgary municipal electricity company. It pays its dividend to the City of Calgary and that is used to help fund budgetary commitments such as subsidized transit passes for low-income residents. That flow of funds will disappear, negatively impacting the Calgary budget and likely residents’ tax bills.

The comedy in this episode is that the Alberta government has filed suit against the power companies, asking the court to void the provision in the PPAs that allowed the companies to return the agreements if changes in law negatively impacted the PPAs’ profitability.

The clause is being referred to as the “Enron clause” and being sold by the government to the province’s residents as a tarnished act because an email written by an Enron employee in 2000 suggested that the provision needed to be included in the final PPAs.  Based on a conversation with one of the PPA negotiators, the clause was well-known to all parties and was not “sneaked” into the agreement at the 11th hour.

However, it is on the basis of the email that the Alberta government is claiming the clause was introduced at the last minute and therefore was illegal. The government’s media campaign is attempting to show the public that the bureaucrats had done nothing wrong; it was the bad companies who did an illegal act.

That argument misses the point on several bases. First, had the bureaucrats read the PPAs, they would have known of the existence of the clause and its potential impact. Secondly, there is nothing illegal about a party exercising its rights under a properly executed contract, especially after the government acted in a way that made the economics of coal-fired power electricity plants more uneconomic.

Finally, it was the existence of that contract clause that convinced the PPA buyers to enter into the contracts initially, which have enabled Alberta households to receive C$4.4 billion in credits on their utility bills since 1999.

We have no experience with Canadian courts, so we don’t know whether judges are ideologically-bent rather than adherents to the law. If the latter, then there will be no case, as the companies are certainly allowed to exercise their rights as defined by the contract. However, if judges are ideologically driven then it is possible the companies’ rights will be circumscribed by some social well-being mandate. The bottom line is that when politicians are driven by ideology, their employees (bureaucrats) will do whatever it takes to carry that ideology into effect.

In this case, that drive resulted in the bureaucrats failing to perform the necessary due diligence by examining the legality of their actions. Increasingly, these episodes are appearing in actions dealing with climate change. This should not be a case of acting and then asking for permission.

The electricity situation in Ontario is not quite the same, but it flows from the same vessel of ideological purity. The wholesale price for electricity in the province, called the Hourly Ontario Electricity Price (HOEP), has fallen over the past decade from 5 to 8 cents per kilowatt hour (kWh), to now below 3 cents and often as low as 2 cents, all thanks to the shale gas revolution. While this should translate into lower power prices in Canada, a hidden tax for renewable power actually drives electricity bills to high levels.

Global Adjustment (GA) Tax

The Global Adjustment (GA) is the tax levied on electricity purchases to cover the subsidies for green energy. In 2009, when the Green Energy Act was passed, the HOEP was about five cents per kWh. As the subsidies for wind and solar generators kicked in, the GA jumped from zero to about 3.5 cents per kWh. Today, the GA is about 9.5 cents per kWh, and in April it rose above 11 cents, three times the HOEP.

How did this happen? Ontario’s government signed contracts with wind generators that guaranteed them 13.5 cents per kWh.  Solar generators actually get paid more. So with the HOEP at around 2.5 cents, someone has to pay for the 11-cent subsidy for wind power. Therefore, the more renewable power generated, the greater the GA becomes.

The perverse nature of the GA is demonstrated by the fact that if consumers are good students of their power usage and electricity demand falls, renewable power output doesn’t decline. As a result, it will account for a greater percentage of total power supplied and thus the GA charge will grow reflecting the greater subsidies. The power situation is further complicated by the fact that the province, due to its generous renewable fuels subsidies, often exports power to the United States at a loss.

Going back in history, the Ontario power structure was initially adjusted toward a competitive marketplace before climate change policies took over. A report last December by the province’s Auditor General (AG) showed that actions such as the conversion of the Thunder Bay coal plant to biomass, using imported wood as a fuel source, will result in electricity costing $1,600 per megawatt hour (MWh). The report also cited a hydropower plant being constructed at $1 billion over the initial cost estimate and thus raising the cost of hydro power to $135/MWh.

The AG report also took issue with the province’s emphasizing conservation while encouraging more renewable energy generators. The result is a substantial surplus of generating capacity within the province that forces it to sell its surplus power at a lost and boosts consumer power bills. As power is exported below cost, other generators are paid not to produce power. From 2009 to 2014, Ontario had to pay generators $339 million for not producing 11.9 million MWh of surplus electricity.

So while Ontario residents actually have the lowest cost power in decades, their bills are the highest they have been due to their power industry being restructured to deal with potential climate change issues, and their bills are on track to rise further in the future.

Now, Albertans may confront a similar situation as the incompetence of their government has led to households having to pay for the losses on the PPAs being handed back by the companies who have seen the economics of their power contracts impaired in the name of climate change.  That might be acceptable if the action was not done through carelessness or incompetence.  However, when ideology blinds people to reality, incompetence should not be rewarded.