Empowering Electricity Consumers through Demand Response: Why and How?

The energy transition challenge requires everybody’s involvement and action. Demand Response (DR), a key mechanism for promoting individual action and increasing system efficiency, enhances sustainability through better use of resources,  reduces the electricity supply cost and, potentially, increases affordability. Through financial incentives, demand-side programs encourage consumer response and stimulate changes in their electricity consumption.

Incentives for DR programs can be based on prices or contracts. Price-based DR programs usually consider differentiated electricity rates per daytime, also known as Time-of-Use (ToU) tariffs. In this scenario, while tariffs are higher to cover the supply costs during peak times, the tariff is lower during off-peak times than the conventional flat rate. Conversely, in contract incentive-based DR programs, the consumer signs an agreement that gives the distributor the right to impose consumption limits a few hours a day in exchange for a discount on the electricity tariff or total bill. If the consumer achieves a pre-defined consumption reduction target, contract incentive-based DR programs can provide discounts on the electricity tariff or bill.

DR is not a new idea. Across Latin America and the Caribbean (LAC), DR programs for industrial and commercial sectors have been implemented. In the residential sector, demand response mechanisms are still insipient. Household consumers have been historically considered price takers, especially in the short term. Nonetheless, digitalization’s radical transformations to the electricity sector create new opportunities to better include citizens in decision-making. DR programs can be replicated in the residential sector, especially with developments in advanced metering infrastructure (AMI), appliances and heating digitalization.

Brazil, Costa Rica, and Uruguay have already implemented household DR programs. Most are based on ToU tariffs and voluntary adoption, so the consumer can elect to move from a flat to a ToU tariff program. Nevertheless, residential DR is still very new for consumers, providers, regulators and policymakers.

We need changes in behaviour to unlock potential DR benefits. Understanding barriers, such as the effect of income on adoption rates, is key to improving DR adoption. Most studies and pilots have been carried out in developed countries. A better understanding of how this program can impact middle and low income families in developing countries is aligned with the fair energy transitiongoal.   

To analyze the likelihood of lower- and middle-income households adopting a DR plan in LAC, the IDB developed an experiment by giving consumers from 11 countries (Argentina, Bolivia, Brazil, Chile, Colombia, Costa Rica, Mexico, Panama, Paraguay, Peru, and Uruguay) a choice to move to a DR plan. Most interviewees understood that it would be fair to cover supply costs if electricity rates were higher during peak times. More than 50% of interviewees would be willing to switch to a DR plan under targeted or limited incentives (ie, Peak Hour Saving Goals or Peak Times HVAC Control).

Through the income lens, we see a complex interaction between prices and flexibility to shift the energy consumer behavior in developing countries, where energy consumption levels are very basic (and very low) for a number of citizens. People who perceive a higher burden on their electricity bills present higher sensitivity to price increases. For the lower income, electricity expenses take up a larger share of the families’ budget for the same level of consumption.

There are differences in consumption and appliances based on income. Higher income households tend to acquire less basic and more flexible appliances. Middle-income consumers tend to be more sensitive to variations in electricity prices, reacting to very low tariff increases. These households report that modest variations in price (20% during peak hours) can incentivize them to shift electricity consumption habits.

The designs of DR programs should consider household willingness to shift and the margin they have to adjust their consumption. DR programs can increase affordability, especially for middle income families (third to eighth income decile), who often struggle to pay electricity bills at the end of the month. Yet, these should not substitute other mechanisms that guarantee basic services for low income populations (ie, first- and second-income decile).

According to the IDB’s experiment, the success of DR programs depends on adapted designs that consider consumer income, perception of risk and loss aversion, and appliance flexibility, based on incentive amounts, the kind of incentives (ie, gamification), and communication about costs and benefits.

Awareness campaigns can increase the adoption and efficacy of DR programs as they inform energy customers about the benefits and reasoning behind these policies. Interviewees in this study demonstrated high acceptance of informational instruments. Participants prefered digitalized solutions, specifically apps that track their consumption and send texts and notifications. These informational instruments help consumers manage their electricity by raising their awareness of their consumption and costs throughout the day/month/year.

Take a look at our study “Empowering Electricity Consumers through Demand Response: Why and How?” for more insights on how to devise DR policies that increase acceptance by potential residential consumers, based on experimental data, literature reviews, and policy precedents.