What types of tariffs are appropriate for mini-grids and how are tariffs set?

Short Answer

In regulated markets, regulators usually define what tariff determination methodologies are to be adopted in a given context. In unregulated markets, mini-grid operators determine the tariff to charge consumers. An appropriate retail tariff ensures the commercial viability of a mini-grid project while protecting consumer interests. There is no standard tariff design that can be applied to all contexts, since technology, scale, geography and customers vary. Regulators—or project developers—need to create a framework that allows mini-grid operators to set tariffs that are well-suited to the local economic and social contexts. Regulators must decide on a specific approach to retail tariff design that will be applied to mini-grid operators and be compatible with the national electricity law.

The role and degree of regulation around setting mini-grid tariffs differs from country to country. In some countries, regulators set tariffs based on tariffs for similar central-grid consumer categories. For example, in Brazil, where the electricity regulator, Agência Nacional de Energia Elétrica, sets tariffs for both grid and off-grid consumers served by concessionaires. In other countries, project developers or the community (or both) decide their own tariffs without approval from government or regulatory institutions. In India, for example, private, renewable energy mini-grid developers are free to set their own tariffs. In any case, appropriate tariff structures are necessary to ensure fair and affordable costs for consumers while providing adequate returns for investors.

Uniform Tariff

When uniform tariffs are applied, mini-grid tariffs are set on par with national utility tariffs. The cost of generating electricity from mini-grids is generally higher than from the central grid, so a uniform tariff structure should be accompanied by well-defined plans for subsidizing the mini-grid tariff (like government budgets, performance-based subsidies, cross-subsidies or capital subsidies) to ensure economic viability. As of 2016, Tanzania’s national utility, the Tanzania Electric Supply Company (TANESCO), sells electricity to isolated mini-grid customers at a uniform national tariff.

Cost-reflective Tariffs

If a cost-reflective tariff approach is used, consumers pay tariffs that match the cost of the efficient operation and maintenance of the mini-grid. Since strictly cost-reflective tariffs are relatively high compared to subsidized central-grid tariffs, regulators must be prepared to explain the difference. These tariffs might be difficult to justify politically, and cost-reflective tariffs may never be charged to the customer in practice. This is typically the case in government-led projects, where subsidies are provided to lower the tariff charged to mini-grid customers. Closing the revenue-cost gap resulting from non-cost-reflective tariffs should be an important consideration for the commercial sustainability of a mini-grid. In Cambodia, for example, private developers charge high but cost-reflective tariffs, allowing them to operate sustainably. This is in part, because in 2016 Cambodia’s electricity tariff was one of the highest in Southeast Asia, with rural customers paying US¢40-¢80 per kWh. The elevated mini-grid tariff, which ranged from $.40-$1.25 per kWh, was cost competitive.

Hybrid Tariff Scheme

A hybrid tariff scheme supports a cost-reflective tariff with some sort of subsidy. For example, a connection subsidy combined with a cost-reflective tariff reduces the total cost for the consumer. In Nepal, isolated mini-grids receive capital subsidies in order to address viability gaps. Nepal’s policy of subsidizing renewable energy supplies enables the country to fund isolated mini-grid projects.

Avoided-cost Tariff

Under the avoided-cost tariff approach, mini-grid operators design tariffs that translate into monthly bills. The bills are equal to or less than what consumers would otherwise have paid for other energy sources, such as kerosene. In Tanzania, the Energy and Water Utilities Regulatory Authority (EWURA), annually reviews and estimates standardized, small-power purchase tariffs for small-power projects of 10 MW, based on avoided cost. Tanzania’s national utility, TANESCO, has many isolated grids that are supplied from fuel-powered plants in different locations of the country. Since it is expected that these grids will eventually interconnect with the main grid, avoided-cost tariffs apply to small-power projects, with some adjustments made for variations such as technology type and seasons.

Under the national retail tariff approach, a project developer designs an effective tariff for the specific mini-grid project. Developers usually defer to one of two tariff structures—power tariffs or energy tariffs.

Power Tariff or Energy Tariff

The technical characteristics of mini-grid generation sources (whether they are energy-limited or power-limited) help determine whether power or energy tariffs are charged. A mini-hydro plant is power-limited: It can produce energy around the clock at no extra cost. However, there is a limit to the peak power that can be derived from it. A power tariff allows consumers to use as much energy as they desireas long as they do not exceed their maximum permitted wattage.

On the other hand, a hybrid solar/diesel system is energy-limited, where peak generation is only attainable during the day. In this case, an energy tariff would focus on how much energy is consumed and therefore is likely to encourage more efficient energy use. This may be preferred, since it avoids the need to dispatch diesel. Another consideration is the cost of installing individual meters to track energy consumption, along with the human resources required to read meters and calculate bills. These costs may not apply to mini-grids that use smart meters for billing, which do not require meter reading.

Further Explanation of Key Points

Variations of Major Retail Tariff Structures

Several variations of the major tariff structures identified above may be adopted depending on the context of project implementation.

Time-of-use Tariffs

This approach is particularly attractive for hybrid mini-grid systems. An energy tariff may be designed to charge different tariffs at different times of the day, based on whether it is a peak or off-peak period and whether there is a need to dispatch diesel or a battery back-up. Lower tariffs are offered during off-peak hours or when diesel has not been dispatched in hybrid systems. Time-of-use rates typically require smart meters to charge the correct rates.

Seasonal Tariffs

Seasonal tariffs are determined by seasonal variations in the availability of a renewable-energy resource. A mini-hydro grid operator charging customers flat rates for services may alter the levels of these tariffs during dry and wet periods of the year. In wet periods, when the value of electricity is lower, tariff levels decrease. In dry or drought periods, when the value of electricity is higher, tariffs increase.

Lifeline Tariffs

Social tariffs are created as part of an increasing block tariff structure (IBT). IBTs divide electricity consumption into progressively increasing consumption thresholds. The cost of electricity per kWh increases as one moves higher up these consumption blocks. For instance, customers may be charged a tariff of $0.05 per kWh for the first 50 kWh, $0.08 per kWh for consumption between 50–100 kWh and $0.10 per kWh for consumption between 100–200 kWh. The lifeline tariff is charged for the lowest consumption block, and represents a system of cross-subsidizing high- to low-consumption customers. In South Africa, for example, a lifeline tariff is provided to low-income households with an option to pay a subsidized fee per kWh for basic electricity up to 350 kWh. The disadvantage of this approach is that in developing countries, low-income individuals and families may live in communal or shared housing, and their consumption might exceed lifeline consumption limits and thus make it impossible for them to take advantage of lifeline tariffs.

Retail Tariff Collection: Pre-paid Versus Post-paid Systems

Should payment for electricity be made before or after services are rendered? Developments in billing and collection technologies are increasing options for electricity-services payments. Energy-based tariffs may lend themselves to both post and prepayment. If post-paid, consumption is measured by a metering device with cost calculations and a bill sent to the consumer. With the pre-paid variety, energy is bought on a mobile device or scratch card before consumption. Some consumers prefer the pre-paid variety since they are better able to regulate their consumption and avoid unexpected or high electricity bills at the end of the month. OMC Power in India uses a pre-paid system based on subscriptions, where OMC sets and charges a monthly fee to rural customers. In Mozambique, 80 percent of the national utility’s, Electricidade de Mozambique’s, customers are on pre-paid meters. On the other hand, customers paying a flat power tariff usually agree to an electricity price for a particular peak demand or energy service and pay this amount before receiving services.

Feed-in and Back-up Tariffs

It is important that the regulatory framework clearly outline a tariff determination approach for feed-in tariffs when mini-grids interconnect with the central grid. A technology-neutral, avoided-cost tariff determination approach or a technology-specific, cost-reflective tariff determination approach may be adopted. A clearly defined arrangement for feed-in tariffs guarantees the mini-grid operator a specific level of earnings for selling power into the central grid over a specified period of time, which facilitates better planning. Mini-grid operators may also need to buy back-up power from the central grid to meet demand during certain periods. Under these conditions, it is crucial that regulatory frameworks clearly define the terms of power sale. If a power purchase agreement (PPA) is signed at an earlier, higher price, these prices should be “grandfathered” in. On the other hand, if the previously negotiated PPA price was lower, the mini-grid should not be eligible to receive a higher feed-in tariff. It should be noted, however, that feed-in and backup tariffs are not a type of retail tariff.

Putting it Into Practice

In regulated markets, regulators usually define what tariff determination methodologies are to be adopted in a given context. In unregulated markets, mini-grid operators determine the tariff to charge consumers. In both types of markets, the mini-grid operator should have sufficient information about the financial characteristics of the mini-grid and the consumers served. EarthSpark, a USAID Powering Agriculture grant awardee, developed a mini-grid in Les Anglais, Haiti. This is an example of an unregulated mini-grid where the organization itself set its own tariffs.

The key to setting appropriate tariffs is ensuring that revenue requirements are met. To do this, mini-grid operators should:

  1. Calculate how much money is needed to cover debt payments and operations costs, repairs, replacement parts and profit.
  2. Estimate electricity kWh sales.
  3. Determine a tariff that provides sufficient cash flow to meet revenue requirements based on 1 and 2.

Tariff Determination Checklist

The following checklist shows the critical financial information that mini-grid operators should possess in order to determine viable tariff structures:

Tariff Determination Checklist
  • Fixed Costs: Information about operations and maintenance costs, administrative costs, interest payments and depreciation
  • Variable Costs: Information about fuel costs for hybrid mini-grid systems
  • Revenue: Expected revenue over time
  • Load Curve: Understand the temporal nature of the load curve and how that relates to the temporal nature of renewable energy sources
  • Deferred Loads: Understand opportunities for deferrable loads (such as water pumping)
  • Consumers: Understand the income profiles of the potential consumers
  • Willingness to Pay: Understand the willingness of consumers to pay for the expected tariff levels

Spreadsheet Tool for Tariff Determination

A spreadsheet tool, developed by the Tanzania’s regulatory authority, EWURA, and the Tanzanian Rural Energy Agency, can be employed by micro-grid users to determine cost-recovery tariffs. The tool is based on assumptions about capital costs, operations costs, equity, debt returns and other factors.

Resources

EWURA.
EWURA is a multi-sectoral regulatory authority responsible for technical and economic regulation of the electricity and other utilities in Tanzania. EWURA is mandated to review tariff rates and charges. Tariff determination information is available on the website.

Ghana Public Utilities Regulatory Commission (PURC). PURC regulates the provision of utility services in the electricity and water sectors in Ghana.
PURC uses a Tariff Setting Guideline to set rates for both electricity and water and makes tariff information available on the website.

Scaling Renewable Energy Program (SREP). Mini-Grids Information Portal.
An online portal developed by SREP and supported by the International Finance Corporation/World Bank Group. The portal provides comprehensive information for investors interested in developing renewable energy mini-grids in Tanzania, specifically focusing on licensing and financing requirements.

Sustainable Energy for All Africa Hub (2017). Green Mini-Grid Help Desk.
This website provides complete information service for developers of green mini-grids in Africa. The website includes market reports, links to industry and financial stakeholders, instruction guides, business forms and templates and financial models.

Uganda Electricity Regulatory Authority (ERA).
The ERA establishes tariff structure and approve rates of charges and terms and conditions of electricity services in Uganda. Tariff information is available on the website.

World Bank (2014). From the Bottom Up: How Small Power Producers and Mini-Grids Can Deliver Electrification and Renewable Energy in Africa.
This guide focuses on decentralized approaches to promote rural electrification in Sub-Saharan Africa, providing practical guidance on how small power producers and mini-grid operators can deliver both electrification and renewable energy in rural areas. It describes four basic types of on- and off-grid small power producers as well as several hybrid combinations that are emerging in Africa and elsewhere. The guide highlights the ground-level regulatory and policy questions that must be answered by electricity regulators, rural energy agencies and ministries to promote commercially sustainable investments by private operators and community organizations.

Last updated: February 13, 2018

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