New York State's 'Energy Czar’ Richard Kauffman Re-Envisioning Industry

Richard, as the chair of energy and finance for New York Governor Cuomo, you’re known as New York State’s “energy czar.” Elaborate on your responsibilities.

Richard Kauffman: I often say that I hope it works out better for this czar than for the other czars!

The governor called me after Superstorm Sandy and said that the electricity sector was still operating in the vinyl-record age, during the era of the iPod. He then created this position.  

I have responsibilities for several government entities involved in energy and the state—including the Department of Public Service, which is a regulator, and the New York State Research and Development Authority (NYSERDA), which currently spends close to a billion dollars on renewable energy and energy-efficiency programs in the state. NYSERDA includes the Green Bank, as well.

My responsibilities also include the Long Island Power Authority, which is one of the largest municipal utilities in the country, and the New York Power Authority, which produces almost 20 percent of the power in New York State.

Last year, you were quoted as saying: “I’ve been a cleantech investor, so I know that the issues are less about technology—although we certainly need more innovation in technology… The real problem is that there are tons of market constraints and market failures that prevent solutions from coming to life.” Is this definition of the problem still accurate?

In terms of utility incentives, utilities only get paid for returns on their investments in capital. There may be many opportunities with technology that have long-term benefits but would be a current expense, would reduce the quantum of capital expended, or would have a very short, depreciable life. In all three of those cases, there’s an economic disincentive to embrace new technology. It’s not that utilities are intentionally doing something that’s wrong—it’s just part of being a regulated business. They understandably want to optimize their returns in accordance with the rules.

For example, IBM runs TV ads about smart-grid software, but it’s not clear that there’s an economic incentive for a utility to purchase that software. Similarly, there’s lots of good technology, but there’s no real utility incentive for helping to stimulate energy efficiency. That speaks to the broader point about the relationship between regulatory incentives and policy development in establishing markets.

One of the things we’ve done in New York—we followed the lead of California in this case—was to provide a 10-year commitment to the solar industry rather than a stop-start approach. That gave the solar industry enough line-of-sight to be willing to make commitments to the market to build scale. With scale, there’s reduction of costs. If government can set up policies that lead to market development, that can lead to more adoption of technology and lower cost. 

The electric industry is clearly in transition. You have said that utilities have changed little over the years. Recently, expert panels worldwide have been addressing the industry’s “death spiral.” New York State, with the leadership of you and the governor, have authored a new strategy for spurring clean energy innovation, connectivity, and distributed energy.  It’s called Reforming the Energy Vision (REV). Could you share the initiative’s goals, priorities, and approach?

I don’t necessarily see a utility industry “death spiral,” but more of a zombie scenario. Regardless, we do need to move on this because the trends are inexorable.

It’s true that the cost of centralized production and distribution continues to go up and the cost of distributed solutions—solar, batteries, fuel cells, and combined heat and power—goes down, against a backdrop of flatter, declining load growth from consumers overall. That’s a challenge for the utility industry.

If we don’t change things, it’s likely that customers with the wherewithal will increasingly adopt distributed solutions. For other customers, costs will continue to go up just to run the system and maintain the infrastructure. There will be a dynamic wherein utilities have to keep asking for rate increases, and understandably, regulators may feel reluctant to grant the full amounts, as it’s the consumer who will have to pay. At the margin, quality of service will suffer. With higher costs and service deterioration, other customers will migrate away, continuing the cycle. It doesn’t mean that utilities go out of business, but it does become more difficult to begin making the investments needed to rebuild the system. And under that dynamic, it’s going to be more and more difficult for utilities to attract talent into the industry.

The wireline telephony business is a useful analogy. Customers with a wireline phone pay more and more for less and less. Equity issues emerge, as well as foregone economic growth. Most seriously, in the case of utilities, we’re losing time in terms of carbon-emissions reduction.

These trends are shifting customer desires toward more control and independence. There’s also a restless pool of global capital that’s looking for yield, which gives rise to very competitive, alternative, non-utility sources of costs of capital. You have the imperative to deal with climate change. These forces are not going to go away.

In New York, some of the utilities think we’re doing something to them, but all we’re trying to do is creating a policy environment that gives us an opportunity to shape our future destiny, rather than having fate just hand it to us.

How are you and Governor Cuomo using state authority to change how energy in New York is moved, generated, and consumed? 

I’ll talk about those efforts as three different pillars.

One pillar relates to changing regulatory incentives, as I’ve discussed. We’ve said to utilities that their job, in addition to providing electricity, is to build an operator platform with a greater focus on improving the capacity utilization of the system. Utilities are going to be required to shape the load, to integrate distributed resources where it makes sense for the system as a whole, to procure more energy efficiency and demand response, and to build a platform to enable more competition around customers. We’re going to need competitive markets to find distributed solutions around customers, because customers will be able to find those projects in a more nimble and efficient way than a utility can. Competitive markets, in drawing innovation for and around customers, can figure out what customers want from this distributed energy technology. Distributed energy can reduce customer bills not only by increasing the capacity utilization of the system and deploying more energy-efficient technology, but also because its location around customers provides the opportunity for improved value in the electricity service. That can lead to new services.

Looking back to the beginning, Edison thought that the electricity system was going to be only about lighting. It has turned out to be about much more than that. Distributed solutions offer opportunities for additional services that can provide greater comfort, healthcare, convenience, and transportation. And it’s going to be market participants—innovators—that will be able to deliver those kinds of solutions.

The new regulatory construct is underway. On July 1, the first dozen demonstration “utility of the future” projects were filed with the Department of Public Service, and since then, seven have received the green light to move forward. The dozen filed is the largest number that has ever been presented anywhere, by the largest number of utilities. Almost all involve a utility partnering with a third-party service provider. They all provide additional value to customers in some way related to energy efficiency or distributed generation. If this first round is successful, the intent is to roll them out one after the other across the state.

The second pillar relates to changing the paradigm of how we support renewable energy and energy-efficiency projects in the state. Up until now, we have been in the resource-acquisition business, like utilities across the country. We’re given ratepayer funds, and then we administer programs that give out rebates for new appliances or light bulbs. These programs have taken us to a certain level, but they have a long way to go.

70 percent of the houses in New York State are more than 70 years old. Under the Residential Energy Efficiency Program, public dollars go toward an audit and depending on your income, up to 20 percent of the cost of the project is paid for by a grant. At the current rate of penetration of these programs, it will take 500 years to retrofit the housing stock in New York. The utilities do not get a return on the energy efficiency programs they administer.

We have to ask: Is there a better way than being in the resource acquisition business? When you’re in the resource acquisition business, you become the market, and the market organizes itself around trying to get grants. We’re restructuring programs at NYSERDA and at the utilities to do things so they are enablers of markets, rather than becoming the market. We’re trying to find out where there’s a gap in the market where public dollars can be used to unlock it. In some cases, that’s going to mean continuing to provide support until an industry gets scale. In other cases, it could be training or financing.

NY Sun is a good example. The industry will be off of all public support well within 10 years—even though we don’t have the same solar resources that exist in California! (We have winters…) The long-term commitment in the form of $1 billion over 10 years provides clarity to the industry so that it can make the investment to reduce soft costs. A state—even one the size of New York—is not going to have a big influence on hard costs, but we can have a big influence on soft costs, which include customer acquisition and financing.

New York Green Bank is another example. It doesn’t follow the same philosophy—it’s not in the subsidy business. NY Green Bank is trying to fill in where there are gaps in financing markets. The market may be looking for a subordinated debt product, a longer-term debt piece of paper, or just a warehouse facility. By filling in this market gap, we get more leverage on those kinds of rate-payer dollars than we do on traditional grant programs.

Finally, the third pillar is use of government assets—ourselves—to help stimulate market activity. The New York Power Authority’s work with our K-Solar program enacted last summer is a good example. The Power Authority has said to any interested school district that it would do a feasibility study to see if solar made sense on a school roof. Over a thousand schools have signed up. I’d guess that a thousand schools do solar in 40 percent of the school districts in every county of the state.

This is a good program. In the past, it would have stopped there. But now, we’re linking this activity with our solarizing programs—using the school as an anchor to the local community—to lower customer-acquisition and installation costs due to the very large scale. When you compare that to the regulatory initiative, then we can figure out how large the community solar system should be—because we have many areas in the state that are a bit grid-constrained. This can also provide benefit to the grid as a whole.

The July issue of TPR carried an interview of Hudson Company’s David Kramer highlighting Cornell Tech’s Passive House residential tower on Roosevelt Island. What, similarly, are state buildings being asked to do through BuildSmart to improve energy efficiency?

BuildSmart is administered by the New York Power Authority. It began as an executive order signed by the governor.

BuildSmart is an example of how we can use state buildings to create standards the private sector can use. State buildings can be a test-bed for new technology. Because government isn’t always a commercial customer, we’ll be reaching out to private-sector building owners that have an interest in particular technologies so that they can be early adopters, as well. That’s one way we can leverage the BuildSmart program and government buildings to help more broadly adopt innovative technology.

Standards, and even possibly financing structures, are another way. Every time we have the opportunity to do something with a government building, we want to see how it can create a linkage to help build the private-sector market in energy efficiency. Up to this point, energy efficiency has been a MUSH market. We would like to find opportunities to broaden it beyond that. The Power Authority has the ability to work in any size municipality or school across the state. That breadth gives us the opportunity to build out capabilities for broadening the energy-efficiency market to very small projects. 

Richard, could you describe how the state’s municipal utilities have responded to REV and to your leadership, if they have? 

Long Island was one of the regions most affected by Superstorm Sandy. As a result, we privatized LIPA’s operation. PSEG-Long Island now operates the utility. That remains very much a work in progress. As an island that was deeply affected during Sandy and where the state is the shareholder—there are no public shareholders—Long Island offers an opportunity to advance REV principles. It’s still the very early days, but that’s our intent.

Your past professional experience includes being a partner at Goldman Sachs and serving in President Obama’s energy cabinet. Could you compare your experience at the subnational level in the State of New York to your private sector and federal experiences? What lessons have you taken away in terms of moving forward against true obstacles? 

States have very powerful regulatory authorities over utilities, as well as—in New York—meaningful resources that come from customer collections for programs. We also have a functioning legislature. We have demonstrated in a pretty short period of time that it’s possible to do quite a lot at the state level. Our work over the two years or so that we’ve been here has included NY Sun, the restructuring of LIPA, the restructuring of NYSERDA programs, the launch of NY Green Bank, and the reform of the regulatory process. I could go on beyond that. I would stack that agenda against anything that I have done in the private sector. For those in the private sector who think that you can’t get things done in government, I would say that’s simply not true. We have benefitted in New York from Governor Cuomo, who really likes to get things done, and he’s been a tremendous supporter of our activities.

States and cities have to balance their budgets and deliver services. Fortunately, in many states, renewable energy is not a partisan issue like it is at the federal level. That gives us the ability to get more things done.

I want to be extremely respectful and note that we’re still in the very early stages. While we think we’ve implemented a lot, much of the results are yet to be seen—in contrast to California, which has many, many years of progress in this area. I want to acknowledge California’s leadership, and also thank California for its progress.

California has made it a mission to involve other jurisdictions, including provinces like Québec and other states, in cap and trade and other collaborative policies. Are you finding a New England or Mid-Atlantic state coalition that could partner with New York on many of the reforms you’re advancing? 

Of course, we’re part of RGGI, which has worked out extremely well for the participating states. We spend time, certainly, in collaboration with any number of states. Justice Brandeis talked about states being the laboratory of democracy—and energy reform is an example where there are quite a number of states in the lab. We certainly don’t have all the answers. We’re eager to engage with other states that have done their own experiments and that are interested in what we’re doing. We have conversations of various sorts with close to a dozen states.

Lastly, reform is always iterative. What has your office learned over the last two years that affects how New York is approaching energy industry reform?

We’re aiming for systemic change. It’s sometimes easy to say, “It’s just the utilities that need to change.” We say we want utilities to be more capital-efficient—but they’re not paid for being capital-efficient. We say we want utilities to do more demand response—but they’re not paid for demand response. That’s a matter of compliance. We say we want utilities to help create competitive markets. Understandably, utilities do not want to give up their relationship with customers. It means that utilities need to treat third parties not as competitors, but as partners and customers. This is a big cultural change.

It’s also true that third parties—whether solar, battery, or fuel-cell companies—have to change their approach. They also have to treat utilities as customers and partners, not just as something to get around. Third parties can’t be about only what’s on the customer side of the meter. They have to think about how to build a system that’s going to be good for all customers.

There are still lots of third parties that are looking for grants. Yes, there are some grants, but we have to look at other ways in which government can unlock market barriers. Grants are the easiest thing, but they are not necessarily going to achieve scale.

There are also culture changes required of government and regulators. In government, it’s easier to view a project that’s been built through a grant as a photo opportunity for a government official, as opposed to using those same funds to help stimulate a market. That’s more ephemeral.

Similarly, think about something as prosaic as a traditional integrated resource plan that a utility does with the regulator. That’s a very deterministic approach. It’s not part of an open-source world. The new philosophy we see across many industries now needs to enter into the utility world—not just from the utility standpoint, but also from a regulator standpoint.

Really, systemic change requires a change in culture across all parts of the system. We realized that deeply over the last two years.