Regulations and Incentives Could Greatly Reduce Electricity Blackouts in the Developing World

UMD researcher and colleagues show how poor infrastructure and low capacity are not the primary cause of unstable power supply in India

New study points to policy and market incentives as important drivers of frequent power outages in places like India, where poor infrastructure is often blamed

Image Credit: Eric Parker (Creative Commons)

January 6, 2022 Kimbra Cutlip

Electricity blackouts are more than just an inconvenience. Power outages shut down offices and factories, threaten human health, and lead to economic losses for governments and businesses. But power outages remain a common occurrence in the developing world. Until now, economic researchers have focused on poor infrastructure and limited capacity as the root cause of persistent blackouts in places like India, which is home to the world’s third largest electricity sector.

But an in-depth analysis of the Indian electricity sector over a seven-year period revealed that a poorly structured market which lacks incentives for suppliers and protections against price fluctuations is a major driver of power outages in that country. The researchers modeled alternatives to the current system and found that regulatory changes that require utility companies to meet consumer demand for electricity and provide better incentives for power plants to operate could prevent most blackouts in India.

The paper was released as a National Bureau of Economic Research working paper on January 3, 2022.

“When we ask, why can’t there be 24/7 power in developing countries, the refrain is often that the infrastructure is faulty, electricity theft makes the distribution network unstable, or there are too few power plants. But these factors are only part of the story,” says Louis Preonas, an energy and environmental economist in the Department of Agricultural and Resource Economics at the University of Maryland and co-author of the new study. “What our analysis shows however, is that at least in India, blackouts are often caused by a poorly designed market, where utilities lack the incentive to provide consistent power and face no penalties for rationing power to consumers.”

Establishing a more stable power supply is an important step for economic growth and development in countries like India, where demand for electricity is projected to rise dramatically over the coming decades. This new research may provide a roadmap for progress as more rural areas gain access to electricity and increases in household wealth lead to greater electric appliance usage.

The way the electricity market is designed in India, power plants are only permitted to sell power within strict pre-set contracts with utility companies that then sell the electricity to consumers—municipalities, factories, businesses and homes. Consumer demand for electricity fluctuates dramatically due to weather, day of week and other factors. On cool days, for example, when demand is low, utility companies can buy from efficient power plants at a low cost and sell to consumers at a profit. But on hot days, when more people are using air conditioning and demand for electricity is high, those utility companies must buy from more power plants, some of which are inefficient and charge higher rates. The cost to meet consumer demand goes up, which means a utility company may have to sell at a loss.  

Indian utility companies are not required to meet consumer demand for electricity, so they can choose to not provide power on days when they are less likely to make a profit. As a result, power plant operators make similar decisions. If the utility companies they contract with are unlikely to buy what they produce on a given day, a plant operator can simply shut down and save on operating costs.

Preonas, along with colleagues from Carnegie Mellon University and the University of Chicago, found that eliminating such discretionary power outages by forcing power plants to operate and requiring utility companies to meet consumer demand could substantially reduce the rate of blackouts in India. However, the team also found that, because of power plant inefficiencies, this would increase utility costs far above the cost of using a diesel generator, which is how many Indian consumers currently get power.

 “If we fixed one part of the equation by requiring utilities to provide electricity, consumers would get quite a bit more power,” Preonas explains. “But at an extremely high cost to utility companies. To fix that part of the equation, we need to make this economically feasible so that utility companies are allowed to recoup their costs either through raising rates or through government subsidies.”

Reliability in power supply could also be improved by allowing incentives for power plants to operate. Such incentives could include the ability to sell and trade electricity outside of their fixed contracts with utility companies. The researchers found that power plants often sit idle because the contracted utility was not likely to buy, and the plant was prevented from selling surplus power to other utilities or neighboring power plants that might have been willing to purchase electricity.

The research study was based on Indian government data that tracked the daily activity of every power plant in the country from 2013 to 2019. The authors also digitized data from the Indian power market for every 15-minute interval during this time span. Preonas and his colleagues determined the costs of various types of power outages and compared the results with model scenarios in which some of the shutdown plants remained operational.

 “These market dynamics are going to become increasingly important as developing countries increase their demand for power,” Preonas says. “And as technologies that generate an inherently variable supply of electricity such as wind and solar gain traction in these countries, the problem of rolling blackouts can be prevented if, as our study suggests, energy markets are designed to balance supply and demand efficiently.”

This paper, titled “Blackouts in the Developing World: The Role of Wholesale Electricity Markets” is published by the National Bureau of Research Economics.