Short Term Electricity Prices Mask Long-term changes

I don’t often like to discuss short term prices of energy! Why? Because short term changes tend to mask the real problem. Prices of electricity tend to rise over the long term, despite sometimes changes in the costs of fuel types creating periods of cheaper electricity. This for example is what was happening in 2015-16 when gas prices due to locally fracked gas were still worth extracting (as gas prices were relatively high globally). These periods over the very long-term – which is more like 30 to 40 or even 60 to 70 years according how you decide to measure them – are mere blips in a trend where energy prices in general double every 10 years. This is a rise of 7% a year.

How to Understand Price Rises in a Whole new Way – the Rule of 70

Before I discuss price rises, it’s rather nice to know a little mathematical trick that can come in handy, not just for visualising price rises, but also investments things like solar energy – where you save or make money! The trick is known as the Rule of 70. It works like this: any percentage rise is in fact a measurement of a doubling time if applied consistently over a period of time. (Anything that doubles over a period of time is known as ‘Exponential growth’.) For example, 7% per year, for 10 years, would mean that the prices were doubling every 10 years. We calculate that by dividing 70 by 7 = 10. Likewise if the rate rise per year of food say 2% per year, then food would double in price every 35 years (that is 70 divided by 2 = 35). You can also apply this to things that fall in price that are measured by percentage. Thus let us say that net immigration is falling by 1% per year. That would mean that every 70 years (70 divided by 1) net immigration is halving. That doesn’t mean we’ve ended all immigrants arriving in the country. It just means the rate at which they arrive is has slowed down considerably over a lifetime. In a nutshell if you want to know the doubling time or the halving time of any given percentage, take 70 and divide it by the percentage rate rise.

The Growth Factor over 70 years

Another way to look on rate rises is known as the “growth” factor. (It might be “decline” factor, again they work the same way!) If you know the percentage rate rise (or decline) you can calculate how much it will grow (or decline) over a period of a human lifetime: 70 years. This is rather interesting because it tells us about things like population growth and its impact on demand for electricity, fuels, food, housing, jobs, medical facilities and water and sewerage treatment plants. Let’s take a look at the growth factor over 70  years of a rise in population of just 2% per year. Here you need to remember a bit of high-school mathematics. To calculate this growth factor over 70 years you take the number 2 and raise it the power of the percentage rate rise in question, which in this case is 2. That equals 2, because 2 x 2 = 4. Now imagine a city in the USA that has a rising population of 4% per year over 70 years. That would 2 to the power of 4, which is 2 x 2 x 2 x 2 = a growth factor of 16. In a single human lifetime, this city would require its city bosses to plan to meet sixteen times the demand they have now. That’s sixteen times the amount of sewerage treatment plants required, sixteen times the amount of food, housing, water, work, road network, medical care, jobs and electricity demand. Just imagine that? A human lifetime isn’t very long in the bigger scheme of things. You only know that when you get older!

Let’s run the Calculations!

Right, so we’ve covered why long-term growth rates when expressed like this are extremely interesting. Now let us turn to short-term electricity rate rises and use them to extrapolate forward to the long-term. Of course in reality things don’t work quite like this, but it’s an interesting exercise! Here are some examples of electricity price rises in 2017:-

The EIA has announced that in the first half of 2017 the average electricity prices are rising for most of the USA. Only 6 States were experiencing lower prices. The increase was just 3% per year. If that continued for a long-term you can now calculate the time it would take to double that amount if it stays the same and the impact over a human lifetime: the growth rate 70 years from now!

The doubling time of 3% per year is 70 divided by 3 which equals 23 years. I wonder if salaries in an increasing robotic world will rise by this amount? (Historically as more women work, we have doubled our workforce, thus lowering the amount the business owners have to pay, and it gets worse if they go abroad, where they can pay Chinese and Indian people really low wages!)

If this continued over 70 years then it would represent a growth factor of 8 times the amount now. Make what you like of that, but I’d imagine that wages won’t keep up with energy prices, food prices or any other commodities we buy, especially as other nations like China, India and Africa start to modernise. The demand for dwindling resources will surely hit a buffer sooner or later. When this happens we won’t know, but that for now is not the subject of this blog! I’m just trying to awaken the sleeping giant called the USA to how rate rises have long-term impacts.

Here’s a good one for you as an exercise. In some areas of the USA the demand of medical services is rising at about 4%, but the supply to meet that demand is hardly rising by 1%. This is measured by monetary demands, rather than actual caring. I’ll leave you to work that one out.

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Why are electricity prices rising in the short term? Why do they rise in the long-term?

Let’s tackle the first question: mostly it is always due to rising fuel costs for generating power. Generally electricity producers use gas as their base load price. (More on that on our Finance for Renewable Energy Course – click here for more details on how to do that course.) Natural gas in the first half of 2017 averaged $2.52 per million British Thermal Units. This was 37% higher than in the first half of 2016. Coal prices were down by about 2% over the same period. However, power utilities are spending more on infrastructure for the transmission of energy. That will continue to be the case. That’s why many people are trying to work out what type of micro-renewable energy system they should utilise to reduce their fuel bills, and whether they can link up with a local mini-SMART grid or just a larger SMART grid to sell their excess energy. You can find out how to work what type of energy system is useful for your business or home by doing our Micro-Renewable Energy course for Beginners – click here for more details.

Residential electricity bills also reflect usage. This was down by about 2.5% from the first half of 2016 due to milder weather than in 2016. This reduced the need for heating, so cut the heating bills between January and June 2017 by an average of $104 per month.

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Exponential Growth

Let’s now play with these figures a little more. Let’s say the average cost of a typical home’s electricity is about $1400 per year. (If you want to, obtain your own figure and apply that in the same way I’m going to do here!) What happens if your bill of $1400 per year if it rises by 2% per year? Imagine you are right now 20 years of age. We’re going to look forward like time travellers. If this was the case then in 35 years your bill would be $2800. In another 35 years ,when you are 90 years of age (people are living longer) it will be $5600 per year! We guess that your income and then your pension also rose to take care of this cost! However, historically, electricity prices have been rising by 7% per year. If that continued, by the age of 30, you are paying $2800, by 40 you are paying $5600, by the age of 50 you are paying $11200, by 60 it’s $22400, by 70 it’s $44800, by 80 it’s $89600 and by 90 it is a whopping $179200. I’ll leave you to calculate what happens to our doubling time and growth factors for say a rise of 3.5% per year (which is probably a good estimate of long-term prices of electricity as we switch to more renewable energy systems and nuclear power.)

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The great thing about this calculation is that if that was true, YOU WOULDN’T HOPEFULLY NOTICE IT UNLESS WAGES, INCOMES and PENSIONS FAIL TO RISE AS WELL, because everything else would rise at the same time. This is known as the ‘magic of inflation’. It is what scientists who favour synthetic fuels as a substitute fuel for oil and gas are hoping will magically disguise the problem humans face in the future, when oil becomes scarce or unacceptable due to fears about making climate change worse, or plastic pollution for that matter! (Oil makes plastic. We’re now all eating some micro-fibre plastics from our food. No-one has a clue as to what the effects on the human body those actually have!) They might however be totally wrong. As the world demands more energy, what happens if corporations fail to be able to meet that demand because of the rising prices of ever scarcer materials and diesel oil becomes too expensive to utilise? That’s the subject of our third course – click here for more details.

 

Bibliography & References

EIA https://www.eia.gov/todayinenergy/detail.php?id=33052

 

 

 

 

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