Occasionally SRECTrade is asked to defend the efficacy of the SREC system. The harsh drop in SREC prices over the last several months in New Jersey and the long-term outlook for Pennsylvania are sobering examples of SREC market volatility. A recent guest post on Greentechmedia itemized the viewpoint that the structure of SREC markets (in their current form) are detrimental to the distributed solar industry. While we agree that the SREC subsidy mechanism is complicated and can be improved upon we also think SRECs are the best option proposed to date. Like the Winston Churchill quote on democracy we say “SRECs are the worst form of incentive except all of the others that have been tried.”

So far we’ve been presented with two production-based options for subsidizing the solar industry: 1) feed-in-tariffs (FITs) and 2) solar renewable energy credits (SRECs). It is our opinion that non-production based incentives (read grants and tax credits) are a poor method for incentivizing solar as they focus on capacity without regard for long-term optimization and maintenance of the systems to maximize lifetime electricity production.

At their most basic level, FITs are fixed electricity rate guarantees to project owners above the cost of non-solar electricity. FITs typically operate independent of a market. SRECs are a market-based incentive that fluctuate in value depending on supply and demand factors and are traded separately from the actual electricity produced. The idea is that SREC pricing should reflect a market’s need for the subsidy. Below we use some of the concerns we’ve heard voiced about SRECs to underline why they are the best option we have for now.

SRECs Enhance Risk – By definition SREC markets are risky because un-contracted SRECs do not have a fixed price. These risks should be factored into any solar investment in the SREC market states. The problem is that the solar industry ignores huge risks posed by other subsidy schemes and focuses on SREC risk instead. For example, FITs were seen by project finance players as a risk-free long-term contract subsidy until places like Spain, in an effort to control unforeseen costs, retroactively applied production caps for payments far below actual power production and wiped out the economics from under the feet of existing solar systems.

With SRECs you have an independently tradable asset that allows you to sign contracts with counterparties that can be evaluated using standard commercial risk techniques.  With a FIT you’re subject to the whim of a government that may be elected several years from today concerned with cutting “excess” costs. Additionally, solar subsidies tied to payment for actual electricity production (SRECs are traded independent of the sale of solar electricity) are subject to the risk that utilities will impose creative methods to recapture their costs. For example utilities have tried to impose punitive standby charges (recently been attempted in NJ, AZ, CA, and VA), and the tiered residential tariff structure that has driven the CA market is always subject to change. Even the 1603 cash grant in lieu of the investment tax credit (ITC) is subject to claw back, so not even the grant incentive is risk-free. The bottom line is that SREC risk is known at the outset and therefore can be managed, and in fact may be the least “risky” part of the investment.

SREC markets don’t balance themselves- Again, SREC markets aren’t perfect. The long latency between market signals and impacts on build rates are a weakness that market systems like the Massachusetts SREC market are attempting to improve. SREC markets could also be improved in this regard policy adjustments like requiring traditional electricity suppliers (the “natural” buyers of SRECs) to meet compliance requirements throughout the year, among other things. A FIT, on the other hand, is a government determined rate that is almost by definition going to be either set too high, which will give windfall profits to developers, or too low which won’t provide enough incentive to produce the desired result. A grant is an even blunter policy instrument. The compounding impact of the 1603 cash grant and state and local grant programs are large contributors to “failed” SREC markets like PA.

SRECs are too complicated- We spend a good amount of time trying to simplify and explain SREC markets, so we understand this criticism but also understand that there is almost an inverse correlation between complexity and maximum effectiveness with minimal cost. We can make it dead simple but ineffective and costly, or a little more complicated and more cost effective. An SREC program allows those who want simplicity to trade off a slightly lower return in exchange for SRECTrade or other SREC service providers to manage all the complexity of SRECs for them. Those who want to maximize returns can manage that complexity themselves. FITS and grants don’t offer this degree of flexibility and cost effectiveness.

Some Parties Bear Disproportionate Amounts of Risk- In a fully functioning market, aggregated groups of smaller players can sign up for the same contracts as larger projects, and this has been the case for some time in most of the SREC markets. This means market price is almost solely determined by aggregate supply and demand, making it hard for a single competitive supplier to have outsize influence against the aggregated supply of a company like SRECTrade.

We acknowledge that there are market inefficiencies at play that allow larger solar developers advantages, but these advantages can be mitigated through tiered mechanisms like those seen in the Delaware SREC Procurement Program where residential and solar commercial facility owners do not compete against large, sophisticated facility owners and developers.

SRECs Guarantee a Certain Amount of Added Cost- Any incentive program has administrative costs. If you use a FIT or rebate program then it will likely be administered by a regulated utility or government agency, neither of which have any competition to compel them to drive down costs. While SREC markets require aggregators and brokers, these are themselves competitive markets where service providers are incentivized to minimize their cost in order to be able to compete for customers on price.

SREC programs aren’t perfect by any means, but in our opinion they’re the best we’ve got and the proof is in the results. California is often cited as a counter-model the SREC system, but New Jersey (the largest SREC market) overtook California as the state with the most MW of solar installed the first quarter of this year, all the more amazing when you consider that CA has four times the population and a green reputation.