Why poor profits in renewable energy are good news

In writing my Monday article in Climate Spectator (Where are solar prices heading?, June 4), it occurred to me that there is an incredible amount of innovation and improvement occurring in the wind and solar energy industries, but no one seems to be making much money out of it. We're able to get vastly more energy out of the wind and the sun with less inputs and costs, but the companies and countries that are coming up with these innovations don't seem to be able to exclude others from cashing-in for very long. 

First it was the Americans who led the world in wind and solar, but then they got overtaken by the Danes and the Germans in wind and the Japanese and the Germans in solar PV. The US did manage to reassert itself in both wind and solar PV, but then the Chinese came along and ruined it for everyone.

You name a major name in renewable energy and every one of them is facing slim margins and stiff competition. Vestas got involved early, has brilliant technology, good quality manufacturing, a great brand and global scale, but the margins it makes couldn't even manage to get Marius Kloppers out of bed. The same goes for Sunpower, Suntech, and First Solar in the solar PV sector. Even industrial giants such as Siemens, GE and Kyocera find the going tough. Being the first into the market, with great reputation and technology is good, but there are plenty of challengers breathing down your neck that won't grant you any slack. 

Past buyers of these products have also lost out. Take me – I paid $3400 for a solar system 12 months ago that now would cost me $2000. I thought I was being clever getting in before the government rebate from Renewable Energy Certificates (SRECs or STCs) went down from $4500 to about $2700. But it turned out I would have been better off waiting, in spite of a huge drop in government support.

It seems that those that get-in first, innovate and take risk converting renewable energy technologies into vastly better propositions aren't really getting rewarded for it. Those like me who purchase these products are simply allowing the industry to learn, innovate, build-up economies of scale and ultimately squeeze out costs for the benefit of the consumer who comes along later.

So does that mean we should cut back government support for renewables?

Well if you're doing it because you think you'll build-up a domestic manufacturing industry with impregnable first mover advantages that will export to the world at premium prices then yes, you should cut back on government support.

But if you're doing it because you'd like to reduce the cost and risk involved in achieving deep emission cuts in the future, then government support for renewable energy makes good economic sense.

This idea that there are spill-over benefits to later consumers from the experience gained in producing earlier versions of the product was explained by economics Nobel prize winner, Kenneth Arrow. In a 1962 paper entitled, ‘The Economic Implications of Learning by Doing', Arrow stated:

“I advance the hypothesis here that technical change in general can be ascribed to experience, that it is the very activity of production which gives rise to problems for which favourable responses are selected over time.”

Now this is just plain common sense that our own daily experience reveals every day. Someone can teach us a task in a day but it is only after repeated practice of the task that we begin to master it.

In many cases the person who incurs the cost of practice and getting better at a task is the person who benefits. That's why government shouldn't subsidise my efforts to move beyond being an appalling guitar player. It's also why some people are willing to pay a premium to be the first to have the newest iPad or fastest and thinnest laptop computer – because it provides benefits to these users that are worth paying extra to get the product 6 to 12 months early.

But in some cases the beneficiaries of the learning by doing are not those that incur the costs. According to Arrow:

“The presence of learning means than an act of investment benefits future investors, but this benefit is not paid for by the market.”

When it comes to renewable energy, unlike iPads, it doesn't provide any kind of gee whiz benefit that is noticeably better for energy consumers than just getting their electricity from an old coal-fired power station. So being an early adopter just incurs extra costs with no extra benefit.

Also it's not as if the support we're providing to the renewable energy sector is enabling wind and solar PV companies to capture fat profit margins from the learning by doing that they've accomplished. Instead this learning has leaked out to competitors and just led to lower costs for future consumers.

Policies that induce demand for renewable energy are succeeding in delivering better and cheaper low emission energy, and it appears that it is the society as a whole that is the beneficiary.