Levelised Cost of Electricity – a Few Thoughts

Following on from the previous article regarding the misuse of metrics, this article is a guest post by Keith Pickering. More of his analysis and commentary can be found at Daily Kos.

A few thoughts on LCOE, Levelized Cost Of Electricity.

The first thing to realize that LCOE is, and always has been, an investment tool, designed for investors, to aid investors in energy markets make investment decisions. And when LCOE is used for that purpose, it is (usually) appropriate.

The problem comes when we want to use LCOE to make public policy decisions, which can (and usually do) have a different set of decision parameters than financial investment. One obvious difference is in asset lifetime.

For example, the US Energy Information Agency publishes LCOE estimates every year, and while they do a pretty bad job of explaining how they compute things, one thing they do say is that for all energy types they use a lifetime of 30 years. Why? Because banks don’t make loans for longer than 30 years, that’s why. Now if you’re considering whether to loan money to an energy project, that 30 year lifetime makes perfect sense. But if you’re planning an energy infrastructure for half a century or more, the 30-year lifetime in your LCOE calculation will systematically undervalue long-lifetime assets (like nuclear and hydro) and systematically overvalue short-lifetime assets (like wind.) Using a 30-year lifetime implies, essentially, that generating assets with a lifetime of more than 30 years will have zero asset costs during their lifetimes beyond loan payoff. Essentially that pretends that the electricity cost would *drop like a stone* to extremely low levels at the 30 year point. But those really low future electricity costs are *never reported* in LCOE; the assumption is just left out there, unmentioned.

Another thing to realize is that a key component in all LCOE calculations is the “discount rate.” Basically, the discount rate is the annual rate of return investors would expect to get on a properly valued asset. If the discount rate is high, investors want their money back right away. High discount rates value the present highly, while discounting the future strongly. High discount rates therefore penalize technologies that rely heavily on long-term fixed assets (once again, hydro and nuclear.)

Discount rates are used elsewhere too, for example in computing the Social Cost of Carbon (SCC). If you’re taking the long view, a low discount rate values the future more highly. For that reason, climate hawks like to use low discount rates when computing SCC, because that computation raises carbon cost. The carbon we emit today will continue warming the earth for centuries, and will continue to cause damage for that entire time. The lowest possible discount rate will capture (some of) that future damage and value it when computing SCC. The US government currently uses a 3% discount rate when computing SCC. And even that may be too high, when you consider the entire lifetime of CO2 in the air.

To be consistent, then, us cliamte hawks should also press for an equally low discount rate when computing LCOE; that is the socially responsible way to value the future in the face of long-term climate change. But EIA uses a Weighted Average Cost of Capital (which is the discount rate by another name) of 5.5%, nearly twice the rate used in computing SCC. That doesn’t mean it’s wrong; for an investment tool, it’s appropriate. But again, if you want to use LCOE for policy purposes, there are other things to consider.

The investment management company Lazard publishes their own LCOE results every year, and every year the low-low LCOE of wind is caressed and trumpeted by certain wind-loving types. It’s no coincidence that Lazard is heavily involved in wind energy stocks, and has skin in the game as far as wind energy is concerned. The Finnish blogger Jani-Petri Martikainen has already cataloged some of the many thumbs Lazard puts on their scale to favor wind, and it’s no surprise that jacking up the discount rate is one of them: Lazard’s rate is a whopping 9.6%, which immediately rockets high-asset technologies (like hydro and wind) way up in price. Then they lower their LCOE (for wind only) by assuming hugely unrealistic (55% !!) capacity factors for wind. The net result is that Lazard’s bottom-line wind numbers look about like EIA’s (so they can reassure their customers that they’re doing it right) while all other technologies are way too high. It’s utterly deceptive, but they apparently hook the investors they’re trolling for.

Another good LCOE resource is the OpenEI Transparent Cost Database, which is a meta-analysis of everybody else’s LCOE, but with homogenized parameters for tax rate, discount rate, and capacity factors for the various technologies. Unfortunately it looks like it hasn’t been updated in more than a year now, but it does have everything spreadsheeted out, which lets you examine the calculations and play around with the assumptions. With OpenEI’s standard parameters, nuclear already looks appropriately cheap, even in the first thirty years. And if you count the second thirty years of expected plant life, it’s no contest.

The Hornsdale wind farm in South Australia operates under a tariff agreement with the Australian Capital Territory worth $77 per megawatt hour. In the absence of this arrangement, it would derive revenue from selling Large-scale Generating Certificates as the majority of incentivised renewable generators do in Australia. Stage 2 was completed in 2016, adding 100 megawatts for $250 million. For comparison, the cost of the first 100 megawatt stage at Snowtown in the same state in 2008 was $220 million – practically the same, adjusted for inflation. The impact of adding to so much wind capacity on system strength in South Australia, as identified in the Finkel Review, is not accounted for in the tariff. However, Hornsdale stage 2 is trialing a method to supply Frequency Control Ancillary Services to the market.

One final word about cost. You often read about some contracted electricity price for some new installation (typically solar) that is impressively low. These Power Purchase Agreements (PPAs) are common in the industry, but you should be aware that PPA price is always lower than LCOE. That’s because a PPA does more than transfer energy: it also transfers risk, from the seller to the buyer. If you want to build a new generator (of any type), you’re taking different financial risks: the risk that the project will never get built, and the risk that you won’t be able to sell the electricity, or not for the price you need. Banks understand these risks and set the interest rate on the loan accordingly. When a PPA is signed, the first part of that risk (that it won’t get built) has already passed, because as a general rule a PPA isn’t signed until the generator is already built. And when a PPA is signed, the second risk component (not being able to sell it, or for the right price) has also been eliminated. With a newly signed PPA in hand, the generator owner can re-finance his loan to a very, very low rate, because at that point the risk is almost completely gone. The buyer of the electricity (the other party in the PPA) has assumed the risk that the price he’s paying on the PPA will be lower than the price he could have gotten elsewhere on the wholesale spot market. Because the buyer is assuming that risk, he expects a lower price than he otherwise would have gotten; and because the seller is shedding that risk, he’s willing to sell at a lower price too. Generally, a PPA price is about what LCOE would be if the discount rate were close to zero.



Many thanks to Keith for this clarifying commentary. I added the description of Hornsdale wind farm to help illustrate it with real world Australian context.

For the reasons mentioned above, and as it’s so heavily relied on by anti-nuclear campaigners, I avoid using Lazard’s analysis on this blog. But its latest edition included this piece of important guidance which many would be wise to take on board.

Even though alternative energy is increasingly cost-competitive and storage technology holds great promise, alternative energy systems alone will not be capable of meeting the baseload generation needs of a developed economy for the foreseeable future. Therefore, the optimal solution for many regions of the world is to use complementary traditional and alternative energy resources in a diversified generation fleet.



Worse The Devil You Know

South Australian will have a Royal Commission into the nuclear fuel cycle. If this speaks to something in you, whether it is interest or apprehension, my best advice is to get a copy of this ebook:

For the price of saving one large takeaway coffee cup from landfill you can enjoy an accessible primer on attitudes to nuclear power and the actual hazards of reactors and radiation. Geoff Russell’s central premise is the valid comparison between nuclear energy (mistrusted and considered exceptionally dangerous) and passenger aircraft (commonplace and used by almost everyone in developed nations, despite considerably more accidents). Why is it that a plane crash can dominate the news but we still board our flight the next day, while the mere thought of a reactor going wrong somewhere – whether it’s even been built or not – leads some folks to reject essentially every aspect of commercial nuclear power?

But, says the nuclear opponent,

Almost all air travel is after an individual’s own choice. Therefore, people choose to accept or reject the risk, personally. In the unlikely event they are otherwise harmed by a plane, the operator will pay compensation, and there will be little doubt whether they were harmed. Airports are good neighbors, with convenient parking, restaurants, displays, artwork, places to observe take-offs and landings, etc.

Few people have a choice of electricity source or what kind of power plant will be built near them. Therefore, most people cannot choose to accept or reject the risk, personally. In the unlikely event they are, or believe they are, harmed by a nuclear power plant, the operators are unlikely to pay compensation,* and there will be much legal debate over whether or not they were harmed. Nuclear power plants may have a visitor center, but good luck getting close enough to observe operations.

Gotcha? No, because the distinction is illusory and just serves to perpetuate nuclear exceptionalism. We can treat the idea of everyone deciding not to board their flight after the fifth (Sixth? Tenth?) plane crash for the year as totally unrealistic. More fundamentally, though, the comparison dishonestly focuses on only one aspect of energy production – living near a plant and using its electricity – which applies equally to technology other than nuclear, with the tacit implication of exceptional hazard.
Thus, if we let it, it avoids the actual point: to compare the hazards we accept with the ones we don’t, and explore the actual risk involved. After all, the risk of your particular plane meeting a fiery end is tiny. So what might be the risk of a nuclear accident actually harming you? What is the nature and magnitude of that hazard? And what are the hazards of the alternatives?

In August 2012 41 people died and 80 were injured as an oil refinery blazed away in Venezuela.[1]

In July 2013 a 74-car run away freight train carrying crude oil derailed in Quebec. 47 people were killed and the town was half destroyed.[2]

In May 2014 a Turkish coal mine collapsed and 301 miners died.[3]

In January 2015 a propane gas tanker exploded outside a Mexican hospital. The building was utterly destroyed, 2 infants and a nurse were killed. Another nurse died in the act of rescuing babies, and a fifth victim died later from injuries.[4]

All of this happened because of one mundane fact: hydrocarbons are inherently combustible and dangerous. People are pretty careful with them most of the time, but we use so much of them. We effectively have no choice about it.

Every one of these deadly disasters has occurred since the March 2011 Touhoku earthquake devastated large sections of Japan and led to a series of nuclear accidents. No one was killed by radiation and it is not expected to effect the public at all. But in the time since, Japan has relied heavily on expanded imports of the very fossil fuels at the heart of the accidents listed above.

Their use and hazards are so thoroughly normalised that I bet you didn’t remember even one of the location names in which they occurred.^



1. http://decarbonisesa.com/2012/08/27/venezuela-oil-refinery-explosion/
2. https://en.wikipedia.org/wiki/Lac-M%C3%A9gantic_rail_disaster
3. http://www.abc.net.au/news/2014-05-17/turkey-coalmine-collapse-fire-delays-rescue-work/5459882
4. http://abcnews.go.com/International/wireStory/mexico-hospital-orderly-dies-raising-gas-blast-toll-28775844

* Compensation is quite forthcoming for the last accident.

^ Neither did I.

(What if the oil industry had to take the sort of global action as we expected from the nuclear industry?)

Am I a Feminist?

By way of Atomic Insights, I have now seen Margaret Thatcher’s address to the UN General Assembly on the issue of climate change.

It brought to mind a much more recent speech by another high profile British woman on an equally important issue.

Or is it equally important? Equal rights for both sexes, versus action on maintaining a human-livable biosphere? Well, I think so, but that’s because I think it all comes down to energy supply – and specifically for rich countries, wherein civilised debate over minutiae of feminism and equality in general is as ubiquitous as reliable and affordable electricity, maintaining the quality of this supply is paramount. But don’t just take it from me:

Women’s participation in modern civilisation is unparalleled in history and should be celebrated; this must be expanded, at the same time as any backward step should be fiercely opposed. In the absence of informed national policies that ensure appropriately clean and reliable energy for the future, will noble causes such as feminism advance… or contract?



I Could Be Arguing In My Spare Time

This morning on Seven Network’s Weekend Sunrise my friend Ben Heard went opposite radiologist and treasurer of the Medical Association for Prevention of War’s Peter Karamoskos, ostensibly to debate the merits of starting to move ahead with nuclear power as part of Australia response to carbon emissions.

Ben was allowed to summarise some of situation first, but unlike the previous encounter, his opponent seemingly had no interest in the matter at hand, instead citing international estimates from the IPCC (which calls for an end to fossil fuel use by 2100) of global proportions of electricity use. He even argued with Andrew O’Keefe who tried valiantly to rerail the context: electrical power in Australia. The unstated implied doubt was obviously that addressing the carbon emissions from electrical generation may not be worth the effort, but when Ben was allowed the opportunity to disagree – and explain that this logic also undermined any reason to switch to renewable energy technologies as well – his opponent interrupted with flat-out umbrage, and continued to interrupt at every opportunity. It was becoming clear what his agenda was. Decarbonising Australia’s electricity, as is the aim of every proponent of every ultra-low carbon energy source, will cut a third of our nation’s carbon footprint. It is ridiculous for anybody to downplay that, especially with the potential future demand (and necessity!) for desalination and rechargeable electric vehicles.

This leads to the other point of contention, what we could call a classic, and it was raised purely to run down the clock: lifetime emissions. Ben’s opponent’s organisation flatly opposes nuclear power – unlike the previously cited IPCC:


But of all the excuses provided, lifecycle emissions were stressed the most, on the basis of debunked studies. The IPCC source does not cite them. They were widely criticised years ago, with far better studies now available, plus in-real-life experience – and nuclear opponents know that. It was when “Sovacool! Sovacool!” was being hollered across the studio link – which would mean nothing to almost everyone out in TV land – that it became crystal clear that only one guest was there to engage in mature debate.


Read that caption again.

The patient hosts were genuinely interested in the perennial issue of nuclear waste, which is of course fuel for future reactors, as South Australia’s peak business lobby group understands far better than the sort of NGOs who worry loudly, publicly and incessantly about it. But Ben was interrupted on that one, too.

For What It’s Worth

This is the text of a physical letter I have sent to each candidate in my state electorate ahead of our March election. The version sent to my incumbent representative was reworded and hand-written.

Dear ____,

As a relatively informed voter concerned primarily with the medium- to long-term environmental and economic welfare of our state of South Australia, I consider Business SA’s timely proposals for future prosperity to be of considerable importance. Chief among them, the establishment of a nuclear sector, properly regulated, in such a uranium-rich region as ours will open a wide range of opportunities for economic development. The timing is good, with establishment and expansion of modern, safe nuclear power expected in many other countries in coming years, and many decades of knowledge of an international, mature industry to draw on.


I wish you all the best in the coming election, and regardless of outcome I hope that you might at least acknowledge the relative importance of this opportunity. Support for nuclear among South Australians is gathering undeniable momentum as more people utilise online resources, track down the most authoritative information and question the default anti-nuclear status quo. While our state can still anticipate substantial benefits from expanded gas and metals extraction, further development of our uranium resources will at the least provide a greenhouse gas-mitigating source of energy for other, nuclear-equipped countries, and at best fuel our own domestic, emission-free nuclear capacity in the future. If such generating capacity is planned carefully, moreover, the addition of desalination and synthetic fuel manufacturing will further enhance our energy security.

I have studied the matter in the years since concluding my university career and am so far personally convinced that it is vital for our long-term prosperity. The effective federal prohibition of nuclear development needs to be repealed, at the very least, and sober analytical debate free from appeals to emotion and stale propaganda must start this year.

I thank you for your time.

_________, PhD.