Copyright © 2009 The Brattle Group, Inc. Antitrust/Competition Commercial Damages Environmental Litigation and Regulation Forensic Economics Intellectual Property International Arbitration International Trade Product Liability Regulatory Finance and Accounting Risk Management Securities Tax Utility Regulatory Policy and Ratemaking Valuation Electric Power Financial Institutions Natural Gas Petroleum Pharmaceuticals, Medical Devices, and Biotechnology Telecommunications and Media Transportation DYNAMIC PRICING The Top 10 Myths Ahmad Faruqui, Ph. D. University of Texas Austin, Texas April 7, 2011

2 University of Texas at Austin 1. Customers don’t respond to dynamic pricing (DP) Median result is between 14% and 18%

3 University of Texas at Austin 2. Customer response does not vary with DP ♦.♦.

4 University of Texas at Austin 3. Customer response does not persist over time Several recent DP pilots have specifically tested the persistence of customer response when events are called across two or three days in a row and found persistence At least two pilots that have run for multiple years have tested persistence across years and found persistence Two utilities in Arizona have observed persistence in customer response to time-of-use rates across decades

5 University of Texas at Austin 4. Enabling technologies don’t do much Median result is between 34% and 38%

6 University of Texas at Austin 5. DP will hurt low income customers

7 University of Texas at Austin 6. Customers have never encountered DP The plain old parking meter Tolls on selected bridges Daytime parking in large cities Sporting events Airline fares Hotels Rental cars Cell phones

8 University of Texas at Austin 7. Customers don’t want DP Only in the case of electricity since they don’t know what it is and tend to associate it with high prices and price volatility When they are asked if they want it, in focus group settings or telephone interviews, the majority say no When they have lived through it, either in full-scale programs or in pilot settings, the vast majority say yes

9 University of Texas at Austin 8. DP does not work in restructured markets It has been tested and offered in a variety of markets The most recent examples come from Connecticut, the District of Columbia, Illinois and Maryland

10 University of Texas at Austin 9. DP pilots are invalid because of selection bias In the best pilots, treatments groups were picked randomly to be representative of the population at large Control groups were selected to match the control groups Difference-of-differences estimation methods should net out any residual bias Analysis of pilots in CT, MD and IL shows that even when the control group is excluded, and a within-subject design is used to estimate DP impacts, they stay unchanged

11 University of Texas at Austin 10. It is much better to pursue direct load control Direct load control (DLC) only applies to customers who have air conditioning or water heating; other end-uses in the home are not incentivized to respond during critical events Payments are made whether or not events are called and without smart meters, it is hard to verify that the controlled load has actually responded Traditionally, direct load control is only triggered by reliability events In general, DP can yield higher load responsiveness than DLC and can be triggered by either economic or reliability events

12 University of Texas at Austin References ♦ Faruqui, Ahmad, “The Ethics of Dynamic Pricing,” The Electricity Journal, July ♦ Faruqui, Ahmad, Peter Fox-Penner, and Ryan Hledik. “Smart Grid Strategy: Quantifying Benefits.” Public Utilities Fortnightly, July ♦ Faruqui, Ahmad, Ryan Hledik and Sanem Sergici, “Rethinking pricing: the changing architecture of demand response,” The Public Utilities Fortnightly, January ♦ Faruqui, Ahmad, Ryan Hledik, and Sanem Sergici, “Piloting the smart grid,” The Electricity Journal, August/September, ♦ Faruqui, Ahmad and Sanem Sergici, “Household response to dynamic pricing of electricity–a survey of 15 experiments,” Journal of Regulatory Economics, October 2010.

13 University of Texas at Austin Biography Ahmad Faruqui is an expert on the customer-facing aspects of the smart grid. He has performed cost- benefit analysis for electric utilities in two dozen states and testified before a dozen state and provincial commissions and legislative bodies. He has designed and evaluated some of the best known pilot programs involving dynamic pricing and in-home displays and his early experimental work is cited in Bonbright’s canon. He was assisted the Ontario Energy Board in evaluating the provincial deployment of time-of-use pricing and the Alberta Utilities Commission in responding to a ministerial inquiry into the smart grid. He is currently assisting the Saudi Arabian regulator in developing a Kingdom-wide plan for introducing demand response. During the past two years, he has assisted the FERC in the development of the “National Action Plan on Demand Response” and in writing “A National Assessment of Demand Response Potential.” He co- authored EPRI’s national assessment of the potential for Energy Efficiency and EEI’s report on quantifying the benefits of dynamic pricing. He has assessed the benefits of dynamic pricing for the New York Independent System Operator, worked on fostering economic Demand Response for the Midwest ISO and ISO New England, reviewed demand forecasts for the PJM Interconnection and assisted the California Energy Commission in developing load management standards. His report on “The Impact of Dynamic Pricing on Low Income Customers” was published last fall by the Institute for Electric Efficiency. The author, co-author or editor of four books and more than 150 articles, papers and reports, he holds a doctoral degree in economics from the University of California at Davis.

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