Travis Kavulla Explains Why Electric Bills Shot Up

There's an incredible amount of focus on the grid this days. That's notable because for a long time, the grid was hardly of any interest. For years, load growth was flat. It was a sleepy market. And in fact, because it was sleepy, regulators and politicians and private companies started focusing on phasing out the dirtier parts of energy production. Now things have flipped. Prices are on the rise. Load growth is on the rise. And everyone's tying to figure out how we're going to attach all of these AI datacenters to the grid. On this episode, we speak with Travis Kavulla, the vice president of regulatory affairs at NRG. Prior to his current role, Travis served for eight years on Montana's Public Service Commission, and therefore has a good feel for what drives prices in both regulated and competitive electricity markets. He explains the factors that have pushed electricity costs up, particularly since the pandemic, and the calculations that have to be made to plan for the future burdens that will be placed on the grid.

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Episode Transcript

Speaker 1 (00:03):
Bloomberg Audio Studios, Podcasts, Radio News.

Speaker 2 (00:18):
Hello and welcome to another episode of the Odd Lots podcast.
I'm Joe and.

Speaker 3 (00:23):
I'm Tracy Alloway.

Speaker 2 (00:25):
Tracy, it's been too long since we've done an electricity
great episode.

Speaker 3 (00:28):
I've been avoiding it on purpose, Joe. I, in all honesty,
I really find this particular market slash issue a difficult
one to talk about because it's impossible to talk about
it in broad terms, and I know on odd thoughts
we try to avoid doing that generally, but even in
an hour long podcast, even with multiple episodes, we could

(00:49):
do an episode for each electricity market in the United
States and still only scratch the surface, right, Like you
have to talk about regulated monopolies versus competitive markets, and
then you have to talk about what's an independent system
operator and what's like, well, what's Texas? That's all about Texas?

Speaker 2 (01:08):
What is Texas?

Speaker 3 (01:09):
What is Texas?

Speaker 2 (01:10):
What is Texas? Would be its own episode, but yeah,
that's right. You ask a question to a grid expert
and their first thing and they're like, wait, are you
talking about a competitive market or regulated market here?

Speaker 3 (01:21):
That's always a meter basis or unmetered or I don't know.

Speaker 2 (01:24):
Yeah, behind the meter, et cetera. Yeah, But anyway, obviously
with the sort of Ian Dunning who we recently had
Hudson River Trading, he was talking about how, you know,
their main constraint is power and that's just a small,
a very small in the grand scheme of things user
of AI services. We're talking about using AI and high

(01:45):
frequency trading. And he said even more than chips that
the power constraints are their biggest constraints right now. And
so I do think that one thing we have to
think about is, especially how long can this AI boom
go on? Is what's it going to get all of
this AI activity on the grid, Like how constrained is it?

Speaker 3 (02:04):
That's right, And we also recorded that episode with Sager
and Jetty and we were talking about the political controversy
surrounding AI, and obviously power consumption is a big one
of those. At a time when electricity prices have already
been rising, is AI only going to drive them up further?
Although that said, you can't even say that electricity prices

(02:25):
have been rising because in certain states they've actually been
going down on an inflation adjustment basis. But even that
is a nuanced picture.

Speaker 2 (02:32):
But by and large, especially since the pandemic. Really by
and large we have seen faster than normal increase in
electricity price inflation, and we have the big AI question.
So we really have to figure out a how is
all of this new data center capacity going to come
onto the market, Who's going to apply the generation? And

(02:52):
then who is going to bear that cost? Is it
going to be the consumers who are already generally speaking
across several markets seeing their bills go up.

Speaker 3 (03:02):
If we have to talk about this rubber band ball market,
then I'm glad we at least have the perfect guest
to do.

Speaker 2 (03:10):
That's im say we do, in fact have the perfect guest.
I'm very excited to say we're going to be speaking out.
Someone been trying to get on the podcast for a
little while, Travis Cavula. He is a VP of regulation
at energ Energy. He's also been on a public commission
in Montana, so he knows that side of the business
in terms of how prices are set in those regulated

(03:31):
monopoly markets. He is also an academic. Travis, thank you
so much for coming on Outlaws.

Speaker 4 (03:36):
It's great to be here. Thank you.

Speaker 2 (03:37):
We're really excited about this one because there's so many questions,
why are we talking to you? What do you give
us the sort of brief intro of what you do
and what your background is, so that our audience has
some idea of why are the perfect guest?

Speaker 4 (03:50):
Sure?

Speaker 5 (03:51):
So I spend my time on regulatory affairs at a
company NRG. We're a big producer of power. We sell
power to end use customers. That's permitted by law where
competition exists in the power and gas markets. So we've
got about eight million end use customers. And previously I
was the head of the Montana Public Service Commission, the
rate setting body for regulated utilities in the state. I

(04:13):
head it up an organization that represents state utility commissions
at the national level called NAYRUK, and I teach a
little bit on the side at University of Chicago's Hair
School of Public Policy, of course on utility regulation and
electricity markets. So I spend my time thinking a lot
about what goes into customer bills, both the stuff that
we can control being a company that is a provider,

(04:34):
and also stuff that are sort of upstream costs of
goods sold that appear on my company's bills, the sort
of polls and wyers charges, that go into people's bills.
So basically, you know, there's two parts of people's bills,
the commodity and the regulated grid charges that get the
commodity to you, and both of those are subject to
some form of regulation in this industry.

Speaker 2 (04:56):
Yeah, Tracy, when we were in Chicago recently for a
live episode, I met one of Travis's students there and
he's like, you got to talk to Travis. Travis is
the man that will explain all these things. So Glamor
finally making this happen.

Speaker 4 (05:11):
I'm high rating for that's important from.

Speaker 2 (05:15):
Rate by professor.

Speaker 3 (05:16):
That's right. Okay, so no pressure Travis.

Speaker 4 (05:18):
All right.

Speaker 3 (05:18):
So you were talking about the wholesale cost of the
thing that goes across the wires and the polls and
all of that. So that's electricity versus the actual transmission system.
One thing that we hear whenever this topic comes up
is it's not necessarily about the wholesale cost of electricity.
It's the cost of actually maintaining and expanding the grid.

(05:40):
How much truth is there to that? If you're going
to pinpoint the dominant factor behind higher electricity prices right now,
is it the wholesale price or the actual cost of transmission.

Speaker 5 (05:52):
Yeah, it's kind of the scope of time that you
choose to evaluate, but you know, just to give you
kind of a benchmarking. You know, if you looked at,
say the New England power market over the last twenty years,
which sort of is the beginning point of the restructuring
of the industry and the introduction of competition in a
place like New England, the actual commodity cost would have

(06:14):
fallen by about fifty percent on an inflation adjusted basis,
whereas on the same basis, transmission costs would have increased
something like nine hundred percent now from a very low
level to a much more substantial level. But then if
you drew that comparison in another market, say the mid Atlantic,
over a shorter period of time, like year over year,

(06:35):
you know, the grid costs would not have risen substantially
in a year, but power prices would have. And that's
really just because the commodity works on more fundamental kind
of supply and demand balance. You know, scarcity will drive
up prices relatively rapidly, and then an oversupply that occurs
when the market is moving back toward equilibrium will drive
prices down rapidly. Whereas those regulated set of costs that

(06:57):
attached to the transmission and distribution systems. You know, those
are still cost plus regulated industries, and they have a
funny way of working monodirectionally up over the course of time.
But these do things trade off against one another. You know,
you need to invest in transmission in order to facilitate
the efficient delivery of electricity. You need to invest in

(07:17):
it in order to open up regions for low cost
renewable energy production. So they do have an interactive effect,
but they're regulated in a very different way, and both
of those land on consumers bills. I think the easiest
way to understand this is that, you know, consumers in
a sense had maybe been as a result of the
regulated charges the proverbial frog and gradually warming water, and

(07:39):
then when you finally enter a commodity supercycle, people can
have the sense that, oh wow, someone just ratcheted up
the heat on this pot. But both of those are
contributing factors and they require sort of different structural approaches
in order to reckon with them.

Speaker 3 (07:56):
Jo, this is my perennial frustration talking about electricity prices
and the electricity system in the US, which is you
cannot talk in generalities, right, there are different types of
regulations for different entities. There are different regulations for each state.
Basically there's you know, the New England system, then there's
the West Coast, and then there's Texas, which is its
own special entity. You kind of have to talk about

(08:18):
every single market in isolation, which is difficult even on
our long podcasts. So that's going to be the caveat
throughout this conversation.

Speaker 5 (08:26):
I think it's idiosyncratic and it's funny because at the
same time restructuring and competition was introduced into this industry,
it was also occurring in things like telecom. Telecom, you know,
was substantially deregulated and federalized. At the same time, states, however,
were left to make their own decisions about the power sector,
and as a result, you really have a huge patchwork

(08:48):
quilt of state and federal regulation and different industry models.

Speaker 4 (08:52):
It's true.

Speaker 2 (08:53):
I have another really rudimentary question, I guess what are
we even talking about when we talk about competition in electricity?
You know, I don't get to choose which wire I
get into. There's one utility I have the option from.
Sometimes there are these people on the street, and they're like, oh,
sign will you sign up for clean power or something
like that, and they try to get me to do stuff.

(09:15):
But I don't really understand how that works, because I
don't understand how electrons can be directed to anyone's home.
So I'm always very skeptical of it. What do we
talk about when people talk about a competitive market.

Speaker 5 (09:25):
Yeah, so think of the electricity system as sort of
a chain of links. Upstream, you've got the power generators,
and then after that you've got the high voltage transmission system.
It patches into a substation that steps down the voltage
to a lower level. That's what we'd call the distribution system.
And then there's a meter hanging on the side of

(09:46):
your home, and beyond that meter, you are the consumer
of electricity. The most upstream the generation and the most
downstream retailing have been opened in some states to competition,
and I think it's fairly intuitive what that means. For
generation power plants are owned by private investors who make
investments in them. Those power plants compete against one another

(10:09):
in auctions for electricity and to sell their power to
wholesale off takers. Some of those off takers then are
the retailers of electricity who sort of buy an upstream
supply of goods and then use the regulated poles and
wires and pay regulated rates to deliver that commodity to

(10:29):
you at your home. So some of the value proposition
of what you're experiencing as a potential retail customer and
a competitive market is your product selection. I mean to
give an example, a retailer came to me and marketed
me a five year fixed price for electricity. Last year,
I bought it. I locked in a rate, I'm insulated
from upstream changes in wholesale market volatility.

Speaker 4 (10:52):
As a result, that's.

Speaker 5 (10:53):
Generally the value proposition of competitive retail. Though in places
like Texas, you're also seeing product differentiation, and that has
a ring of telecommunications and data competitions sort of like
more apps. As part of your retail electric supply service,
people selling you smart thermostats or residential batteries that can
be packaged onto your retail electricity supply plan to sell

(11:16):
back to the grid, help manage your costs upstream to
stabilize pricing. But that's the paradigm of competition in this space.
It's a regulated system in the middle with competition on
the edges.

Speaker 3 (11:28):
Can we back up for a second and go back
to that big restructuring of the market, because I have
a feeling this will help us understand our current situation.
But what was the problem that we were trying to
solve back then? You know, people have short memories. A
lot of people would say that our electricity system right
now has its own special problems, and they would forget

(11:49):
that there were previous problems that this system was meant
to address.

Speaker 5 (11:52):
Yeah, I mean, it's kind of haunting. It's funny you
should ask that question, because the problem it was meant
to address is that regulated utilities, which used to own
this whole chain of links on a consolidated, vertically integrated basis,
bet wrong very badly on the amount of demand growth
in the sector, and they put themselves out there building

(12:14):
power plants that were intended to be included in what's
called their rate base, on which they earn a return
and are able to charge off those costs to a
captive set of customers. When they bet wrong on the
demand that would ultimately materialize on the system, they found
themselves well over their skis in the amount of power
generation that they either had built or were in the

(12:34):
process of building. At the heart of regulated utility economics
is this division problem where kind of a total system
of fixed costs is the numerator divided by the denominator
of throughput. So these regulated utilities were adding handsomely to
the numerator. The denominator wasn't propping up that, and the
result was that division problems, spitting out a price that

(12:58):
was escalating higher and higher. Some utilities, at that point
their state regulators said you've been imprudent. We're going to
not allow you cost recovery because you've been imprudent. They
went bankrupt, but that was the exception to the rule.
Most of them allowed those costs to be recovered from
a captive customer base. But some of those states also
pass laws that said, let's never do this again. There's

(13:19):
no reason why we shouldn't have power generation invested in
to meet the levels of demand needed on the system.
Be a function of investors' competitive bets in the market,
and so in about you know, call it a third
of the states, but accounting for more than half of
the power sold. That's now the business model where companies

(13:40):
like mine are, you know, have to make guesses about
what the demand is going to be and try to
sign up customers to voluntarily contract with us to produce
revenue for the power generation we might invest in. And
for the rest of the country. It still works by
you know, people like me wearing my former hat, you know,
as as the chairman of a utility commission, like guessing

(14:02):
what the future is going to be and charging off
the costs of those guesses to a monopolized customer base.

Speaker 2 (14:23):
Let's talk about your former hat, because one of the
things you hear about is that the utilities have this
incentive to overinvest because that might help determine what they're
allowed to charge on a going forward basis. But why
don't you sort of talk about your former hat and
the basic role you played, how you thought about decision making,
and how we are to understand what the world looks

(14:46):
like from the standpoint of someone sitting on the regulatory commission.

Speaker 4 (14:50):
Yeah, well, you're number one.

Speaker 5 (14:51):
You're absolutely correct about the incentives at play under the
style of economic regulation that is widely used really without
exception the United States to regulate the monopoly industries in
the utility sector. The companies earn a return that is
sort of announced and advanced by their state or federal
economic regulators based on the amount of capital they've invested

(15:15):
in the system. So spend more, make more has some
paradoxical effects where the most amount of profit a utility
will ever make is in the first year that it
owns a particular asset, and then when they own it
free and clear, they actually earn zero profits, so sort
of an inversion of the cash flow paradigm that you
would expect out of competitive businesses. Regulators also establish the

(15:36):
depreciation life span for rate making purposes of regulated assets,
which has some interactive effects with that model. So that's
basically the grist in the mill of what state regulatory
utility commissions do. They determine the amount that is quote
unquote used and useful in service to customers of the
capital investments that utilities have made. They also establish an

(16:01):
allowance for so called prudently incurred expenses the O and
M on the system around which the utility earns no margin,
just gets a recovery of those costs, and that also
has the knock on incentive of if I'm a utility
and I look at a problem that I have to solve,
I will always want to solve it with capital investment.

(16:21):
I will never want to solve it with opex, you know.
And because that one earns return, one does not. So
ordinary trade offs that would occur in competitive businesses between
capex and opics tend not to occur in the regulated sector.
Other countries have done this a different way and have
tried to establish more of a performance based framework of
regulation that rewards utilities with profits based on outcomes. But

(16:45):
you know, the United States has never got there for
a whole variety of frankly dumb reasons. So that's the
way those sector is regulated. It's weird to have a
sector that is really regulated according to early twentieth century
standard that's trying to serve a modern economy.

Speaker 4 (17:02):
To be fully candid.

Speaker 3 (17:03):
With you, yeah it does feel that way, doesn't it.
So again I said in the intro, I do not
know much about the electricity market. I feel like I'm
constantly struggling to try to understand it. But one thing
I do know is that a lot of the electricity
companies seem to complain for years and years and years
that loads in the US had actually been either declining

(17:23):
or stagnant. Now we have the situation where everyone is
talking about data centers coming on stream and they use
a lot of electricity, so loads are finally rising. Shouldn't
this be a good thing for the electricity company. Shouldn't
they be celebrating they have extra money to spend on,
If not opics, then capex.

Speaker 5 (17:42):
Generally yes, And it's true that for most electricity markets
in the United States it's been fairly flat. In the PGAM,
the Pennsylvania New Jersey Maryland market that stretches from Washington,
d C. To Chicago, they last recorded a record peak
demand in two thousand and six. They'll in all likelihoods
set a demand next year twenty years later in twenty

(18:02):
twenty six. Some markets, like Texas's ERCOT market have been growing,
but it is definitely the exception to the rule. Most
of these people less set a record demand. You know,
before the period of offshoring and de industrialization of industries
that use a lot of electricity, and that actually facilitated
the kind of turnover of capital from colt gas and

(18:25):
to renewables a little bit as well in a lot
of these places. But net of net, you know, that
was kind of neutral or even a little bit negative
in terms of the total installed generation capacity was kind
of managing to even in terms of generation capacity editions,
and then in terms of like, shouldn't they be celebrating, Yes, definitely.
Everyone in the sector, my business and the regulated utilities

(18:48):
are excited about the prospect of growth. They're also nervous
about whether or not this growth is real and to
what magnitude. Part of what makes it a little worrying
is that ordinarily electric city demand growth would be a
composite of growing demand from many different end use applications
that would kind of diversify the risk of betting on

(19:09):
growth here, it's like a one or a zero. You know,
if you take out the data centers, the sector is actually,
you know, pretty stable in terms of electricity demand. If
you add the data centers, the sector is really poised
to grow a heck of a lot. And when you
look at the projections of the grid operators, I mean,
just to put some numbers on this, the market PJAM

(19:32):
in the Mid Atlantic that I was referring to, it's
currently about one hundred and sixty thousand megawat market. It's
projecting to add forty thousand megawatts by twenty thirty. The
URKAT Texas market, you know about eighty five thousand megawats
right now. Its latest projection is up to nearly one
hundred and forty thousand megawatts by twenty thirty. Now, that's

(19:53):
like adding a California to Texas in terms of electricity
demand in five years. And that's not going going to
happen because it can't. It just, I mean literally could
not occur. But therein lies the problem is like what
are we actually investing toward and what are the regulatory
policies that can essentially help call the question on the

(20:16):
amount of off take that will actually materialize from AI
so that then capital investments can propagate throughout the supply
chain to end up serving them. That's really the fundamental
question that policymakers, utilities, and competitive providers like US are
trying to deal with.

Speaker 2 (20:34):
Those numbers are absolutely staggering the idea of adding California
size demand to Texas in just a standpoint of a
few years. When you say you don't think those numbers
can happen, what is the constraint is it on the
generation side in a market like Texas or if we're
talking about what any other region, or because I think

(20:55):
it's pretty easy to set up, you know, solar farms
or whatever. Texas seems pretty liber with what kind of
how easy it is to plug into the grid or
is it in a state like that there isn't the
transmission capacity even if you can stand up the production.

Speaker 5 (21:09):
Yeah, it's I mean, it's a little bit of everything,
everything from stuff that isn't you know, on the power
sector side of the fence line in terms of actually
being able to construct data centers and you know, their
chips and the fiber optics that would back them up.
And then on our side of the fence, you're right
getting access to the grid through interconnection, getting all the

(21:32):
equipment that you would need to tap into the grid.
We're talking about, you know kind of grid step up generators,
step up transformers and stuff like that. Joe, I know
that's topic near and dear to you from listening to
the pot over the years. And then it is the
power equipment in terms of like gas turbine availability. You know,
solar panels probably aren't going to do it for you
given the demand for you know, kind of consistent power

(21:54):
production off of these data centers, but they are helpful.
So it's just the magnitude.

Speaker 4 (22:00):
There is a dilemma.

Speaker 5 (22:01):
And you know, right now, if I were to place
in order for something like you know, a generator's step
up transformer, you know, pre COVID, it would have been
maybe like twelve to eighteen months. Now we're talking about
three to four years for a spoke piece of equipment
whose specifications are only available to me after the local
utility the Polls and Wires company tells me what my

(22:24):
interconnection study looks like in terms of grid availability in
our connection to the system. So that that's one, you know,
and RG is lucky enough to have some gas turbines
lined up for delivery you know, later in this decades,
so we would be able to facilitate some of this investment.
But if you were going to get in line right now,
that too would be a process that would take several years.

(22:44):
Some of it's the availability of equipment, and some of
it is a natural pacing of steps in the kind
of quasi regulatory process to get projects online. It would
be better, I think one of the interesting policy innovations
that's out there is if you had kind of more
of a market to make use of the scarce remaining

(23:06):
headroom in our system from sort of a grid interconnection
point of view without tripping into having to build a
bunch of capital investments in polls and wires. But you
know that's not the way the regulatory model is set up.
You know, right now we have a paradigm where final
power generator I kind of knock on the door of
the local utility and say, hey, you know, I want
to build a power project at this place. Can you

(23:28):
study it for the sake of its interconnection to the grid.
They come back with a study and I don't like
the number, I don't like the specs, and then I
submit another study and we iterate. So it's a time
consuming process sometimes to develop these projects, and there probably
needs to be avenues that are more coordinated between the

(23:49):
demand and supply side. And even if you don't, you know,
even if you certainly shouldn't functionally reintegrate the utility business model,
but there does need to be more coordination between the
blue on the polls and wires and the people who
are doing the generation. And that's kind of a missing
link right now in this policy landscape.

Speaker 3 (24:07):
Other than sheer volume of power needs, I guess sheer megawatts.
Do data centers have specific energy needs in terms of
I don't know the type of electricity. I would assume
a megawat is a megawat, but what do I know?
But maybe in terms of timing and things like that,
are there sort of operational considerations that are unique to

(24:29):
data center's electricity consumption versus say an industrial factory or
US turning the lights on when we get home.

Speaker 5 (24:38):
Yeah, So, I mean the first experience, you know, at
any scale that anyone seemed to have with computing technologies,
you know, were kind of you know, cloud based servers.
And then really on the other side, like crypto mining
facilities and both of them data centers. But the two
could not be more different, right, I mean, doak and

(25:01):
it becomes uneconomic at a certain strike price for cryptocurrency
to continue mining. And so it's a highly flexible load
that drops off the system when conditions become tight in
an electricity market, and we see that all the time
in Texas. On the other hand, for you know, cloud
services that are providing kind of real time instantaneous hosting capabilities,

(25:24):
you know, they kind of need they have a very
high what's called load factor of their power consumption. They're
drawing from the system on a relatively consistent basis, and
of course they need to be highly reliable. You know,
they can't really be interrupted without having cloud fare or
aws interruption style problems, so very different. And you can
look back to analogues of you know, other industrial customers,

(25:47):
you know, aluminum smelters, high load factor when they were
doing the batching of smelting, couldn't be interrupted. Paper mills,
maybe you could interrupt them. So the industry has some
like kind of learnings from this and have been markets
designed around the flexibility of demand to try to do
for the power sector what previously happened to say, the

(26:09):
airline sector, which had used to have, you know, a
very low load factor, and then after restructuring and deregulation
in the seventies, suddenly everyone's you know, everyone's airplanes ended
up full, you know, and two full in some cases
where you know, people get bumped and compensated for it.
So we've yet to achieve that though in the power sector,
where load factors continue to be you know, fifty sixty

(26:32):
seventy percent, so there's a lot of headroom during certain
hours and very little headroom during other hours. So kind
of the primary question in terms of the network economics,
is if you end up with a bunch of high
load factor data center customers, the type that can't be interrupted,
how do you get them online without tripping into a

(26:53):
bunch of necessary capital investments to serve that last few
percent of hours where they're demand needs to be served
in firm or can you source flexibility out of the
system somewhere else, like from residential air conditioning or something
like that. That's a question again, that's very important to
figure out. People have kind of issue spotted it, but
we've really yet to solve in any meaningful way. The

(27:15):
markets like Texas are kind of geared towards solving it
in more of a free enterprise premise. Other markets seem
to be struggling a bit.

Speaker 2 (27:39):
It's funny to think about getting an alert on your phone.
It's like GPT six is completely against training run. Sorry, no,
we would like you to turn down your air conditioning
right now. No, I don't know if that would happen.
But the part of the reason everyone's interested in data
centers period, well, there's a lot of reasons, but people
are worried when they hear these numbers. They're like, oh, am,
I as the consumer. Let's say I lived in Texas,

(28:01):
which I sometimes have am I as the consumer going
to in some way or another, be paying the price
for this massive expansion of demand thanks to data centers. Intuitively,
it seems like, well it shouldn't be. They could pay
for their own electricity, they can pay for their own upgrades.
But how does this massive increase in demand play out

(28:22):
from the sort of the ratepayer perspective.

Speaker 5 (28:25):
Yeah, so we go back to the kind of segmentation
between the regulated grid costs and the commodity costs. In
answer to that question. On the commodity side, you know,
this tends to be a marginal cost pricing environment where
if you have demand growth outstripping supply editions, the system

(28:48):
becomes tighter, the supply curve moves up for the kind
of last unit that's necessary to serve demand, and its
marginal costs in a very real way dablish the clearing
price that all demand has to pay unless and to
the extent to they are bilaterally contracted with some kind

(29:09):
of hedging instruments, which everyone should be. No one should
be in an ideal market exposed to that spot price.
But we find that many people are for a variety
of reasons. So some policy interventions that people have contemplated is,
you know, usually we would let these markets kind of
equliberate on their own. We would expect sort of organic

(29:30):
growth to be met with organic supply editions. Here people
have observed, like, wow, this demand growth seems really out
of scale with what the markets have organically been able
to achieve. Maybe we should have a requirement to just
bring your own generation. You know, we're not going to
let the power markets on a forward traded basis send

(29:52):
the right signal and hope that enough generation shows up
to serve this demand. As sort of part of the
social license or even a four normalized regulatory requirement for
them to get online, you've got to show us the
megawots that you bring on in the system. So that's
one of the debates. On the other side of the ledger.
The regulated costs, that too can be a problem usually,
and again this division problem of network economics. For the

(30:14):
regulated costs, if you're adding to that denominator of throughput
at a rate that is higher, then you're adding to
additions to the fixed costs of the system. Everyone's rates
go down produces a lower quotient, which is the price
of grid consumed electricity. The problem here is that in
a kind of an inflationary environment for all the materials,

(30:38):
the transformers, the cabling, everything that goes into the polls
and wires, if you're adding demand and you're not just
using headroom that already exists on the system, if you're
not increasing that capacity factor on the system, if you're
tripping into a lot of new capital expenditures, then even
if you're adding demand that's paying regulated rates, it may

(30:58):
not be enough to offset at the total amount of
expenditures incrementally you're making on the system. So there's policy
interventions there too, where you can try to directly assign
the costs that are caused on the grid back to
the data centers. But those are pretty nascent approaches, and
some of the ones that have been tried are kind
of aiming at the wrong thing. So a lot of

(31:19):
policy work remains to be done here. And all of
this is kind of a political debate where you know,
a lot of state governors, the people who are really
the ones kind of in charge of, you know, with
their state utility commissions, setting these policies, they simultaneously want
the economic development of data centers, but they don't want
any negative externalities around reliability, affordability, clean energy and all

(31:42):
those things trade off against one another. But you know,
political actors will want to maximize all of those variables,
which is not possible in the current environment.

Speaker 3 (31:51):
Can I ask a very basic question, and I'm struggling
to think of a way to frame it that doesn't
sound like I've just taken an elderly family member to
a medical office or something. But what is a node?

Speaker 5 (32:05):
A node usually would be a place like a substation.
It is the place on the physical grid at which
electricity is bought and sold. It's a physical destination on
the grid. When we say nodal markets, which is a
way to describe electricity markets, we're referring to markets where
electricity is priced on a so called locational marginal price basis,

(32:30):
and the LMPs as they're called, are based on physical
destinations on the grid called nodes. I'm just estimated, guess here,
but a market like Texas will have a few thousand
nodes at which electricity is traded on an individuated price basis.

Speaker 3 (32:48):
That seems like such a weird way of doing it
to me, and I'm sure there are very valid reasons
for doing it in this way, But like nowadays, given
all the data at our disposal, given the rise of AI,
can't we work out some sort of average cost across
the system. It seems really weird that we're taking it
at like physical points, although I guess you know there
are plenty of commodities that do trade based on particular locations,

(33:09):
but it just seems strange to me.

Speaker 5 (33:11):
Well, it is important that you have nodal pricing in
the system only because it sends a powerful price signal
for the accurate location of necessary power generation. There are
certain markets, I'm thinking of Alberta, some of the European
markets that actually do establish a zonal price across their

(33:32):
entire market. But there you end up with power plant developers,
you know, who develop wind in a particular area far
away from demand to capture the average price, but then
that energy ends up being undeliverable because there are transmission
system constraints and congestions. So the nodal pricing formulation is

(33:54):
intended to reflect a market that, unlike the stock exchange,
isn't just trading bits of data to represent kind of
paper securities. It in a very real way, is meant
to simulate a kind of flow of electrons on a
system constrained basis, And then it provides valuable information too,

(34:15):
because if you continue to see locational marginal prices you know,
in one place that are very high and twenty miles
away they're very low, that's a signal to the people
who plan the transmission grid that hey, you know, we
should probably build a transmission line here, because the addition
of the transmission line will be the thing that flattens
out that price differential and creates a market that looks

(34:38):
more like a you know, a copper plate rather than
two separate swimming pools.

Speaker 3 (34:44):
Interesting. Just to be clear though, if I want it
to be public enemy number one, could I build a
gigantic data center next to a locational marginal price point
node and affect the cost of electricity for you know,
a greater area.

Speaker 5 (35:00):
Yes, you absolutely could, And in fact, I mean I
know of at least one example. You know, North Dakota
is actually a good example of this. A place that
is doesn't have a lot of robust transmission infrastructure does
have a lot of renewable resources that cause and those
renewables are almost kind of dumping on the market in
a way that causes the energy price to go down

(35:23):
and even negative at times in North Dakota. And you know,
some of the first data centers that we've seen in
this wave of expansion chose to locate in North Dakota
because they had access to wholesale prices that were lower negative.
They were just following the price signal. And so there's
you know, there's certain data centers out there that are
literally being paid to consume electricity because there's such an

(35:44):
oversupply and so little transmission into the area.

Speaker 2 (35:48):
I you know, I got to ask this question on
a podcast recently and I didn't have a good answer,
and I so now I want to ask So you mentioned, Okay,
all these different pieces of electrical gear, they're in short supply.
You might not be able to get some key equipment
until twenty thirty. Is it strain going to ease at all?
Is there any additional capacity coming on the market. When

(36:09):
I was asked this, I like sort of like hesitated.
I was like, well, maybe they're not sure about the future,
so they're like reluctant to do the capital expending involved.
But do you think there's any like is capacity growing
for some of this core infrastructure As far as you
can tell.

Speaker 5 (36:23):
My impression is yes. I mean you've seen public announcements
from the largest gas turbine manufacturer, ge Vanova about new
manufacturing base editions, you know, some of the transformer equipment
as well. I think you're seeing some incremental investment in.
You're certainly seeing power generators like NRG, you know, take

(36:45):
positions in lining up their optionality to have power projects
that can be deployable to either the Texas market or
the mid Atlantic market, depending on where consumer demand actually arises.
So I think there is some development in that market.
I will say, I think what people are waiting for.

(37:05):
You know, everyone looks around the supply chain and you
know is reasonably asking, well, who's got the deep pockets here?
And then everyone turns to big tech. You know big tech.
Obviously if they signed a power purchase agreement for fifteen
years or even less to take power at a certain price,
some of this supply chain would fall into place pretty readily,

(37:25):
I would say. And so people are kind of waiting
in a sense for big tech to make those big
bilateral contracting moves that would serve to propagate sort of
rationality around response to the perceived demand up and down
the supply chain. And I think that's kind of the
leading indicator to watch for in the sector. How many

(37:49):
of those contracts are actually being signed.

Speaker 2 (37:52):
Big tech is just going to do everything. They're going
to build nuclear plants, so they're going to build their
own ships, and they're going to build their own fabs,
and everything will be this entire ecosystem that it is
just alphabets from down the line. I want to go
back though, to something you said, which is that part
of what's tricky about the data center thing is that, Okay,
here's this big boom in demand, but it's not because
of like general like trend economic growth. And you could

(38:15):
be perhaps that a year from now or six months
from now or tomorrow, people say, oh, I want to
slam the brakes on AAI spending. We're not getting this return.
Fears of a bubble, you know. Fourth I talk to
us a little bit more. Howady commissions are dealing with
this risk and this very binary state of planning.

Speaker 5 (38:34):
Yeah, so commissions at the state level have dealt with
this in a very different way. Some of them have
candidly and regulated utilities themselves have said we want no
part of this risk. Like we're a small MidCap utility
and someone is knocking at our door asking us to
invest in power generation that would be like a third

(38:55):
of our total existing balance sheet that's remained stable for decades.
We're just not doing it. You can get on our grid,
and you can pay the cost to get on our grid,
but in terms of power generation, you've got to bring
your own project. We're not involved in that. Other utilities
that have larger balance sheets, the Southeastern utilities, are using
their regulated balance sheets to build out generation and supply

(39:17):
data center customers. Devils in the details on those heavily
redacted commercial agreements that would I would desperately love to
see about the degree to which they protect consumers. And then,
of course, the other side of the industry, the competitive industry.
You know, it's companies like mine and data centers that
enter into commercial agreements for the purchase and sale of power,

(39:38):
and neither of those parties have recourse to a captive
base of customers. So they could go bust, we could
go bust. It's not going to you know, be skin
off the teeth of a set of quote unquote ratepairs.
Again on the grid costs, it's about whether or not
state commissions, and in this case of federal regulator, the
Federal Energy Regulatory Commission, are going to style take or

(40:01):
pay contractual agreements to require large data centers that come
onto the grid to essentially collateralize a revenue stream associated
with the incremental costs of developing the grid to serve them.
And so far there seems to be relative unanimity that
that is the right way to go in order to

(40:24):
protect legacy customers. But again, the devils in the details,
and I have a problem with some of the math
that's being done in those regulatory approaches. So it's not
as if this problem is invisible to the people who
are economically regulating this industry, but they are trying to
in a very real way. They are trying to figure
it out on real time, and I'll be the first

(40:45):
to say their solution set is far from perfect.

Speaker 3 (40:48):
So just on this note, it strikes me that the
difficulty in the system, I mean, setting aside the patchwork
of fifty different states all having their own different regulations,
like the heart of the difficulty in the current system
is we're trying to preserve the market signal for further investment,
but also smooth out some of the volatility so that

(41:08):
Joe and I don't have to spend an inordinate amount
of time thinking about what is like the most cost
effective time to blow dry our hair or do our
laundry or something like that. So we're kind of trying
to have our capitalism cake and eat it too. Cake italism,
cake italism. That kind of works. What is your platonic

(41:29):
ideal of a electricity market. Do you have one, either
in the US or elsewhere in the world that you
would say, look, here is a system that actually manages
to do both these things.

Speaker 4 (41:42):
Yeah, man, I love that question.

Speaker 5 (41:44):
I mean, I will say that one of the real
flaws in the US electricity system is that it is
not as robustly a two sided market as you would
hope for. It's still demand. It just exists on the system.
It's coming onto the system based on people's on the

(42:05):
supply side guesses about what will happen, and then the
supply side is expected to solve all of it. There's
very little in the way of demand elasticity, and that's
been for a variety of historical reasons. I mean, the
first and most obvious one is that you didn't even
have the technology in the form of advanced metering infrastructure
to understand when people were actually using the power in

(42:28):
relation to a highly time variable set of upstream costs.
Now you do have that. You are also increasingly having
the software that allows financial settlements on the part of
the people retailing electricity to end use consumers to be
settled on the basis of that advanced metering infrastructure's actual
meter reads so on a time interval basis. And finally,

(42:51):
because you shouldn't have to think about when you're going
to blow dry your hair, you have a significant amount
of device automation in the form of smart thermostat, battery storage,
electric vehicles, manufacturing, and industrial processes which can be sort
of a set it and forget it to automatically respond
to high prices to try to increase the system's load

(43:12):
factor and avoid using electricity at very high cost times.
So that is just starting happen in the American electricity sector.
I would tend to look to the UK and Australia
as places that have gone a bit ways further in
trying to solve that problem and embrace the inherent flexibility

(43:35):
of a system as versus the United States, which is
kind of stuck in this sort of supply does something
to demand framework of industry. So that's definitely on my
It's always on the top of my homework list, if
only because I think a lot of people are thinking
about solving this problem highly conventionally with supply editions, which

(43:55):
is going to be really important. But that demand flexibility
comp is actually essential to get to a market that
looks like every other efficient and competitive market in the world,
which has two sides to it.

Speaker 2 (44:09):
We've been telling you a lot about sort of the future,
looking forward and figuring out, you know, how that we're
going to get all this new capacity on to the market,
et cetera. Let's look at the last several years, like
what happened. Part of the reason we're even having this
conversation is because electricity bills are on people's minds, right,
and they've been high, and it's a little unclear like
how much of this is just keeping up with inflation.

(44:31):
I presume that, like grid maintenance is actually straightforwardly in
effective labor costs and inflation, et cetera. One thing we
do know, however, is that the pace of electricity price increases. Really,
since the pandemic seems to have been a level step up.
What's driven that? How would you characterize the last several
years of electricity prices and perhaps the role of load

(44:53):
growth in driving those increases.

Speaker 5 (44:55):
Yeah, so so far load growth is really not the
contribute to what has happened here is almost an awakening
to the fact that we had, already, without any more
load growth, a less reliable system than we thought we did,
and that's due to a variety of reasons. You know,
we retired a lot of coal, which you had a

(45:18):
lot of emissions, but we replaced it with a bunch
of natural gas. That created a you know, a sort
of more of a dependency on an interrelated network system,
the gas supply and pipeline system, which, while usually very
robust and very economically efficient, in winter conditions where there's

(45:39):
a lot of residential heating drawn, that system can show frailties,
and so market operators in these electricity markets sort of
de rated the value of that capacity in how they
set up these markets, which meant effectively a sort of
administrative withdrawal of supply from some of these markets similar

(46:00):
to that renewables were seen not as a one to
one replacement for reliable generation in the parts of the
country the middle of the country, especially where they were
heavily invested in, but they were really being leaned on
as an effective substitute for more dispatchable power. And I
think everyone in the back of their head knew that

(46:21):
wasn't the case. But only recently, as things have gotten tight,
have people begun to do a lot of hard math
around it. And then finally, you know, we've just seen
a few really traumatic winter storms, in particular, one in
the East and one in Texas that have sort of
reshaped the way in which the people who have responsibility

(46:43):
to operate the grid think about the operational posture and
need for reliable resources on the grid. And so there
were a variety of regulatory changes that were made that
had net of net the effect to tighten up the
understanding of what generating capacity was available in the system

(47:04):
relative to a base of demand that really didn't change.
But suddenly, because of all of the retirements that had
happened of coal and older gas due to economics as
well as environmental regulation, we suddenly found ourselves pretty tight.
And then this demand growth started to happen, so we
were not particularly well positioned for the present moment of

(47:26):
demand growth. We'd already driven the system to Some might
call it a tight and efficient system if you had
demand growth that was level, but it was not well
situated to pick up tens and tens of new gigawatts
of demand.

Speaker 3 (47:41):
I have a hypothetical question, but just as a theoretical exercise,
if we are all in the pursuit of cheap and
plentiful energy, and if as part of that pursuit, you
could choose between two options. You could either wave a
magic wand and get a bunch of nuclear reactors scattered
around America, or you could wave ad and get huge

(48:01):
advances in battery technology across America. Wish of those would
be most conducive to having that cheap and plentiful energy supply.

Speaker 5 (48:11):
Yeah, I mean, I'm going to make a lot of
my friends unhappy with this one, but I'd probably go
batteries and storage. I think there are some natural economic
advantages and wide swaths of the country for relatively affordable
even without subsidies, solar production in particular, and batteries seem
like a pretty good natural match to that. It really

(48:34):
has been in the kind of Texas story to date,
the pairing of batteries and solar together with natural gas
additions that have supported really the only electricity market that
has been growing without data centers. So I would take
that as the leading indicator. That's not to speak ill
of my friends in the nuclear bro community. I hope

(48:57):
that technology pantses that seem to be occurring in the
small modular space come to fruition. I just so far,
I don't see a lot of people laying down serious
capital on that from a commercial perspective, but I do
see people laying down money on storage.

Speaker 2 (49:15):
I just have one last question, and it's kind of cheating.
I'm actually this question. I'm kind of going to have
you do our work for US et cetera. You know,
I'm trying to think of a really good title for
this episode. But if you look out over the next
five years, you know, you mentioned adding a whole California
to Texas. How are you thinking about the scale of
the challenge overall that the US electricity system, that the

(49:39):
grid overall really faces in this moment? Like how big
is it that everyone from companies like yours to the
various utility commissions. Like, how big is this a challenge
going to be?

Speaker 5 (49:50):
It could be a substantial one. I mean, I think
that AI demand growth for electricity consumption is real. I
also think that that growth needs to pony up financial
commitments to engender capital investments in the power sector that
it intends to rely upon. I think those will be

(50:11):
the table stakes of their social license to operate in
a grid that, even where competition has been introduced, remains
pretty heavily regulated. So I think we're going to get there.
I do think that in terms of the regulatory policy
that I deal with, there's too much small ball thinking
on this, and there's too much trust in the way

(50:33):
we've always done things. It's probably a time to really
have kind of regulatory policy innovations like we've seen with
the FCC regulating spectrum and the deregulation of the airline
industry that tries to allocate the capacity on the grid

(50:54):
to the highest value the people who are actually willing
to pay the most for it, and those payments, which
would likely exceed the incremental cost of serving them, could
then actually be a revenue source back to consumers that
helps on the affordability side. So I you know, it's
almost a call to your listeners that, you know, if

(51:14):
you're doing a mundane corporate job and want to do
something completely different, consider becoming a utility regulator and applying
some market based principles to help solve some of these problems.
Because really, when you think about it, utility regulation they
need to be an agent of capital formation here in
the sector and to clarify this moment in terms of

(51:37):
demand uncertainty. And that is the kind of challenge on
a conceptual basis that we're grappling.

Speaker 2 (51:42):
With Crevis Kavila. You know, we could talk to you
for hours actually just on you know, I have a
million more questions just about specifics from your time in
Montana and how all those things work, but we'll let
you go. Really appreciate your time. Let's do it again sometime.
And I did learn a few things on this episode.
So appreciate you coming on our luck.

Speaker 3 (52:00):
Thank you so much, Thank you so much, Travis.

Speaker 2 (52:02):
That was great, Tracy.

Speaker 4 (52:16):
I really like that.

Speaker 2 (52:16):
I really like the way you put it there in
your question of we want to have a market ish
environment and demand signals are pretty important, et cetera, and
we want capital to flow where it's going to be
profitable and all that, we just don't really want anything
associated with the market.

Speaker 3 (52:34):
Yeah, And I mean the irony is that the market
could be functioning as intended in the sense that a
large consumer of power, like a data center, decides to
relocate itself to a place where energy costs are actually
quite low. Yeah, and then because it does that, it
ends up distributing, you know, the cost of its own
power needs across a wider area. And it all seems

(52:57):
I mean, I'm just going to go back to what
I said earlier. It all seems so convoluted, yeah, and
so idiosyncratic across different jurisdictions. I do actually really respect
Travis's coll Just then, if you're interested in markets and
want to have an impact on people's everyday lives, consider
trying to clean up the mess that is energy regulation.

Speaker 2 (53:17):
But you know, even in the non convoluted version of it,
if we just imagine the platonic ideal of a normal
market and there's this commodity electrons, and it's well, what
if AI is this really valuable thing, and it's more
valuable than blow drawing your hair. I mean, for real,
this could be a thing like you know, we were

(53:37):
talking about making cars or making steel, et cetera. Like, Oh, yeah,
well this is this thing.

Speaker 3 (53:44):
I wasn't going to do it. I wasn't going to
But now I'm going to bring up that time you
wrote that mining crypto could theoretically be a more valuable
activity than running a fridge.

Speaker 2 (53:53):
Well, right, this is the question in a normal market.
The reason why that example seems absurd. I'm glad you
actually brought up because the reason why that example seems
absurd is because very few people could ever wrap their
heads around, well, could cryptomning be more valuable or value
add than running a fridge. That being said, when it

(54:14):
comes to something like AI, there really is a debate,
and some people would say that's a total waste because
AI is just a costly way to make fast poems.
And other people would say, no, this is the fourth
Industrial Revolution or whatever. And so I think part of
the reason we're sort of uncomfortable with the oh, let's
just move the electrons to where they're who's going to
pay for them most is because I don't think a

(54:36):
lot of people there are a lot of people who
intuitively are skeptical that this is a good allocation of
real resources.

Speaker 3 (54:43):
Right, I mean, I think politically, the message that the
cost of your electricity has to go up so that
AI can do its thing, Yeah, you can lose your job.
Is it an extremely unpalatable one.

Speaker 4 (54:54):
No, it's totally.

Speaker 2 (54:55):
It's totally. I think this is why I'm just going
to break a lot of people's brands. But on the
other hand, if we accept that, you know, the belief
that markets are generally good allocators of resources, et cetera,
they're like, well, it's not really our job to have
an opinion on this is a good use. So this
is not a good use. But anyway, I did find
that to be a very interesting conversation. It does seem

(55:17):
like those commissions that have to decide what is an
appropriate amount to spend on upgrades and capacity, they really
have their work cutout for them right now.

Speaker 3 (55:27):
Yeah. The way I would put it is they are
not always the most popular people among their respective jurisdictions,
that's for sure.

Speaker 2 (55:34):
Well, someone has to have the job of doing the
unpopular stuff, right.

Speaker 3 (55:37):
Someone has to have the job of adequately compensating investors
in utilities for the risks that they take on in
providing a necessary commodity for life and the Fourth Industrial Revolution.

Speaker 2 (55:50):
That's right, all right?

Speaker 3 (55:51):
Shall we leave it there?

Speaker 2 (55:52):
Let's leave it there.

Speaker 3 (55:52):
This has been another episode of the Odd Thoughts podcast.
I'm Tracy Alloway. You can follow me at Tracy al the.

Speaker 2 (55:57):
Way, and I'm Jill Wisenthal. You can follow me at
the Stalwart. Follow our guest Travis Kavula, He's at Tkavula.
Follow our producers Carmen Rodriguez at Carmen armand dash Ol
Bennett at Dashbot and Kilbrooks at Kalebrooks. For more odd
Laws content, go to Bloomberg dot com slash odd Lots
were a bit daily newsletter and all of our episodes,
and you can chat about all of these topics twenty

(56:18):
four seven in our discord discord dot gg slash odlines.

Speaker 3 (56:23):
And if you enjoy odd Lots, if you like it
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And remember, if you are a Bloomberg subscriber, you can
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