Wednesday, November 17, 2010

The market incentive problem with smart meters

There is a fundamental incentive mis-alignment problem with any smart meter installation program. In order to realize their full benefits, smart meters need to be able to service both consumers and the utility through the price and consumption signals respectively. The utility should be able to effectively allocate supply and consumer be able to optimize usage.

However, while the former is easily achieved by mere installation of smart meters, the later requires going beyond. In fact, from the consumer's side, the inevitable last mile gap emerges. Though, they have access to consumption and price signals, they neither have the infrastructure to make it cognitively salient nor act on them.

Consumers can respond to the price signal and manage consumption only if they have the systems to track their consumption. They should have access to devices with real-time displays of not only total consumption (and pricing), but also those of their appliances. Further, they should have systems that enable them to automatically respond to higher consumption or prices by disconnecting part of their load.

Therefore, the smart meter becomes meaningful for the consumer only if the displays, network software, and internal wiring are made available. But the meter manufacturer does not supply these devices nor do the utilities have any direct interest in providing them. And, in view of the expenditures involved, the consumers will rarely install on their own.

In fact, smart meters without its accompaniments leaves the consumer as the loser. The meter manufacturer sells his product and the utility improves its grid-management efficiency. The consumer is left with higher bills!

In the absence of effective policies to address this market failure, we can be sure that the initial rounds of smart meter installation programs will not yield the desired results. While helping utilities with supply allocation, it will do little towards demand management. In the absence of consumer support, given the expenditures involved (front-loaded costs and back-ended systemic benefits), smart grid projects will come up against the usual opposition to any new intervention.

What are the possible solutions? Just as energy efficiency ratings have now become commonplace with electrical appliances, it is imperative that newer generations of equipments come with real-time power consumption displays. Smart meters could be bundled with consumption and pricing display LEDs. Over time, the home electricity wiring should be configured and attached to the smart meter with default provisions that trips-off one or more phases when either the consumption or the price breaches a pre-defined threshold.

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