To Cap or Not to Cap – That Is the Question

Whether ‘tis nobler to allow a market to be oversold, thus suffering the risk of a significant decrease in the available tariff or a cessation of the program altogether, or to set a reasonable cap that encourages growth while controlling costs and extending the life of the incentive.

Using (and admittedly abusing) the third-act soliloquy of Shakespeare’s Hamlet to make a point about imposing caps on incentive programs for solar may be a stretch, but at least it is fun. And, in an industry with its major market (Germany) announcing a significant decrease in its tariff beginning April 1 or May 1 or whenever, and perhaps again in July, it is pertinent.

First, a definition that is important to this article: technology shipments, both thin film and crystalline, to the first point of sale can be to another manufacturer as cells or modules (crystalline manufacturers have traditionally shipped product amongst themselves), a module assembler, a system integrator, an installer and even to the end user of the product. Basically, a shipment is what left the factory in some form during a specific calendar year and stopped somewhere on its journey to installation. Counting shipments to the first point of sale accurately sizes the technology sales during a current year.

It looks as if technology shipments to the first point of sale in the market were strong enough to allow industry growth to be flat in 2009. This is extremely good news after the trough that industry shipments AND sales fell into during Q1 2009. Industry demand slowed in 2009 only in part because of the financial crisis and the global recession. The main reason for the initial slowing was the loss of Spain — a major market in 2008 that consumed >2-gigawatts of technology. Though a percentage of systems installed in Spain were problematic, and significant product remained in inventory in Spain at the end of 2008, the point is that the extremely generous feed-in tariff (FiT) in Spain led to a market run amok.

Despite this industry lesson on the downfall of over-exuberant market behavior, Germany — the only market in 2009 capable of consuming gigawatts of PV — was oversold by 1.5-gigawatts. Early on (up until election time), there were assurances that the PV industry was very important to Germany, and that there would be no change in the FiT over the annual decrease. But here were also grumblings. For one thing, the majority of product being installed in Germany was not from German manufacturers. For another, as PV megawatts installed climbed above the 1.5-gigawatts that Germany set as its annual goal, the utility ratepayers and utilities began to reconsider the future burden of a tariff with a 20 year payout. All the benefits to the end users aside — incentive programs are expensive and someone must pay. After the elections in Germany, government assurances gave way almost overnight to dire suggestions of stronger decreases to the tariff. Yet, the market did not slow; in fact, it accelerated.

Governments, which legislate incentives, take a dim view of oversold markets, complaining voters, and fiscal obligations spanning 20 years. In even the best cases, governments misunderstand how markets work, in many cases expecting rational behavior from all participants. To be clear, markets are not polite. Markets are also not well behaved, nor should they be. In sum, if there is an incentive scheme that allows for a profitable return along with a market with willing buyers, the buying and selling will go on until everyone runs out of product to sell.

Another expectation is that the market price matches — seamlessly — the cost of producing the product and that an efficient decline in prices will be experienced. Nope. Prices will rise with strong demand and raw material constraints and raw material price increases. Prices will rise as long as the market does not halt buying. Prices will fall with aggressive maneuvering for share, aggressive entry strategies, sometimes with vertical integration (installing what you make yourself), low demand, and a host of other reasons. Price is a market function, and does not always (though it does sometimes) track the cost function. When governments use unsustainably low prices as a bellwether of future pricing, they vastly misunderstand the market function. In some cases, more aggressive cost cutting might well result — such as the forced rapid advances among c-Si manufacturers during the silicon feedstock shortage. However, in most cases the industry is pushed into an uncomfortable pricing position often with painfully low margins.

The PV industry has the responsibility for setting expectations as to what it can do in terms of cost/price reductions — again, it is only the cost function over which it exercises significant (but not absolute) control. This is serious business, continued lowering of costs, maintenance of adequate margins and clear communication as to what is realistic concerning costs and prices.

Of all the incentive schemes, none is trickier to construct than are feed-in tariffs. First, the feed-in tariff model is the most successful at stimulating a market of all the incentive models. Unfortunately, if the tariff is set too high, and there are no controlling factors, it is rapidly overrun and the market oversold. A tariff that is set too low will fail to stimulate the market to the expected extent. One truth should never be overlooked: someone has to pay for the tariff over, typically, a 20 year period. This requirement places a burden on someone, perhaps a worthwhile one, but a burden nonetheless. Though all energy is subsidized at some level, PV receives special attention for its incentives — fair or not.

Since the industry cannot rationally be expected to stop selling (as a group) when buyers are willing to buy — nor will buyers (typically system integrators and installers) stop buying and installing if their customers are willing — it is left to governments to construct incentives that last. For Germany, if it wants only 1.5-gigs in a calendar year, it should stop paying for over 1.5-gigs. Though the changes in the German tariff are not finalized, again, if Germany only wants to pay for 3-gigawatts in 2010, it should stop paying the tariff when 3-gigawatts are installed. This does require highly accurate tracking of installations, but it can be done. The same goes for other countries currently constructing, in the midst of constructing, or rethinking their tariff amounts. This is a serious problem for the still-young PV industry, and it should participate in finding a solution because stable incentives — particularly the feed-in tariff model — continue to be crucial to its growth.

Ah yes, to cap, perchance to prolong the incentive. There’s the rub, for in those lower tariffs what profits may be lost?