Carbon-Free Competitors Nipping at Nuclear

 | Oct 12, 2012 | 5:00 PM EDT
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The nuclear power industry is beginning to discover how the nation's power markets really work. Up to now, nuclear power plants shipped all their power into the grid and they cared less about the so-called market. Now they are learning that the markets matter.

It is understandable that nuclear plant operators might have ignored the power markets. Originally, nuclear plants were sanctioned by the state utility commissions and they were placed in state rate bases. Nuclear power production was essentially a cost-plus business.

To be economic for the state's ratepayers, nuclear power plants were designed to operate continuously. High capacity factors lowered levelized costs and they provided the grid with reliability. In the old days, nuclear power plants produced and everyone else got out of the way. The idea that production costs mattered seemed irrelevant to the nuclear power industry managers.

But it is relevant to other market participants and it is beginning to matter to the nuclear industry. Independent power producers look carefully at market-clearing prices. If they see inadequate gross margins, most generators withhold production or they face severe financial penalties.

From the perspective of power markets, production costs are the marginal costs between standby and full production. Typically, production costs include fuel, additional manpower, and other elements associated with power generation.

For nuclear power plants, marginal production costs include fuel and the disposal of the plant's nuclear wastes. According to the Nuclear Energy Institute (NEI), the average fuel cost for a nuclear power plant operating in 2011 was only $6.80 per megawatt-hour. And, according to NEI, those fuel costs have been flat since at least 1995.

When it comes to the costs of waste disposal, nuclear plants are unique. Utilities, not taxpayers, pay the federal government for nuclear waste disposal. That fee is based on power production. Specifically, the Nuclear Waste Policy Act of 1982 established a Nuclear Waste Fund, which set a waste disposal fee at a $1 per megawatt-hour of nuclear electricity generated. For a typical 1,000-megawatt power plant, this amounts to $1,000 an hour for each hour the plant produces electricity, and zero when the plant is on standby or refueling.

Adding NEI's fuel cost of $6.80, the nuclear waste fee of $1.00 and other direct expenses causes the marginal production cost of a nuclear power plant is something under $12.00 per megawatt-hour. When wholesale power prices exceed $12.00, nuclear plants earn revenues to recover their costs associated with other operations, maintenance, capital expenses.

For some reason, NEI and many nuclear utilities claim their production costs encapsulate all operations and maintenance expenses, whether those expenses are directly tied to production or not. By including all these costs and claiming them as their "production costs," NEI arrives at a number approaching $21.90 per megawatt-hour, not $12.00 per megawatt-hour.

However, the nation's power markets set power prices based on marginal production costs. In most cases, the marginal generator sets the market-clearing price for all producers. The power plant operating on the margin is unable to recover all their operations, maintenance and capital costs, at least as long as they remain on the margin.

From the perspective of the wholesale power markets, commercial nuclear power is a winner. It is financially impossible for any oil-fired power plant to compete against a nuclear plant. No coal-fired power plant can possibly produce power near $12.00 per megawatt-hour. Only if fuel suppliers were willing to deliver natural gas below $2.00 per million British thermal units, could any gas turbine compete against the average nuclear power plant.

The only power producers that can beat nuclear in the wholesale power markets are wind, solar and hydroelectric. Their production costs are near zero and it is hard to beat zero.

As the members of the nuclear power industry awaken to the realities of the markets, they are beginning to realize they have competition. Nuclear power is no longer the cost leader in the wholesale power markets.

As I have previously written, Exelon (EXC) has recently been complaining about wind power. If the Cape Wind project becomes a reality in Massachusetts, expect Entergy (ETR) to join in. Wind, solar and hydroelectric are lowering market-clearing prices -- and lower prices mean lower earnings.

Nevertheless, nuclear power is the most cost effective thermal power source in the industry. Like wind and solar, a new nuclear power plant can actually lower the cost of wholesale power because it displaces the most costly power production, the economically marginal plant.

That should be the argument. Like wind and solar, nuclear power is carbon-free and it can help lower power prices.

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