Shared journey, different choices. Will Latin America realize its energy future?

By

Gavin Rennie

EY Global Emerging Markets and Latin America North Power & Utilities Leader

30-year professional in Power & Utilities. Proud to be part of a sector transforming to become lower carbon and more customer focused.

9 minute read 22 May 2019

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As Latin America counts down to a clean energy revolution, utilities need to prepare to reap the benefits of this fast-growing market.

From Rio Grande to the Amazon to Patagonia, Latin America is a vast region of contrasting geographies and home to diverse cultures and economies. But, despite these differences, Latin America’s countries are on a shared journey toward a new energy world.

Urbanization in some Latin American countries is among the highest in the world, with around 81% of the region’s population living in cities, with this figure expected to rise to 90% by 2050. Renowned for booms and busts, the region can both frustrate investors and entice them with its enormous potential. Right now, many countries have entered a period of recovery after recession, which has boosted economic growth, backed by strong private consumption. These factors are driving a surge in electricity demand, which is expected to double by 2050 (to a forecast 2,822 TWh from projected 2020 levels of 1,448 TWh).

Against this backdrop, the “3Ds” that are driving transformation of the utility value chain globally are making an impact on the Latin America sector:

Decarbonization – toward a cleaner energy mix to meet global emission reduction goals

Digitization – with technology enabling a smarter, digital grid

Decentralization – empowering customers to produce and sell their own distributed, renewable energy

Three critical tipping points to energy transformation

These forces have put Latin America’s energy sector on a fast track to three critical tipping points – milestones when, according to modeling by EY teams in collaboration with one of the world’s leading analyst houses, everything changes.

  • The energy industry is at the start of a period of unprecedented change, one that will fundamentally change the market place (presenting new challenges as well as new opportunities). Three tipping points will mark the emergence of a new energy system.

    Tipping point one is when self-generation reaches cost parity with grid-delivered electricity. To determine this date, we calculated the projected demand for electricity, future generation mix and cost of delivering electricity via a central grid between 2015 and 2050, and then compared it to the predicted cost of self-generating electricity using solar PV and battery storage.

    To help determine when these costs would reach parity, we worked with a leading global analyst house to model the expected adoption and interactive impacts on electricity demands and costs of 10 core distributed energy and information technologies: solar PV; battery storage; electric vehicles; microgrids; home and building energy management systems; P2P electricity exchange; smart meters; artificial intelligence; grid-edge technology; and cloud.

    The study also identified two further tipping points for the energy industry:

    • Tipping point 2: when the price of battery electric vehicles reaches cost and performance parity with traditional cars with internal combustion engines.
    • Tipping point 3: when the mere cost of delivering electricity (i.e., the unit-cost of electricity transmission and distribution) exceeds the cost of self-generated electricity.

    Because drivers vary across markets, the tipping points will hit different regions at different times.
     

An abundance of hydropower and relatively cheaper electricity prices mean that the tipping point 1 (2031) will hit Latin America later than in some other major markets, including Oceania (2021), Europe (2022), and the US (2031). And, within the region, the milestone will arrive in different countries at slightly different times, depending on their current energy mix.

Solar and wind potential are reducing hydro’s dominance

Hydropower will continue to play a significant role in Latin America’s energy future; but, by the time tipping point 3 arrives (2046), its dominance will have diminished.

The challenge of maintaining supply for hydropower during El Niño is behind much of the shift away from this fuel source. Counteracting the dry years of El Niño through building ever-bigger hydro plants is expensive and environmentally unsustainable. This is, therefore, prompting more countries to consider sourcing more energy from non-hydro renewables, as their cost economics improve. In the meantime, we expect some markets to turn to natural gas as a transitionary fuel that offers less carbon-intensive electricity while they build renewables capacity, particularly wind and solar.

The potential for deploying distributed solar PV plus batteries has given governments and the industry reason to pause. Already, rates of distributed solar PV have far exceeded official forecasts, driven by falling prices and consumer demand, and is creating significant challenges around load forecasting and network capital expenditure planning. The current modeling predicts that solar will contribute 11% to the Latin American generation mix by 2050. In countries with strong policy support, such as Mexico and Brazil, the figure will be much higher. Mexico’s solar capacity currently sits at around 5% of total generating capacity and is expected to reach 21% by 2050. Initiatives to boost distributed solar and wind are increasing, and this momentum means that we are likely to see tipping point 1 (2031) arrive in some places earlier than forecasted.

Government support set to accelerate EVs

Progress toward tipping point 2 (2025-29) – when EVs reach price and performance parity with conventional vehicles – has been slow in Latin America compared to some other global markets, due mostly to continuing high EV costs and lack of supporting infrastructure.

But, some governments are strengthening support for electrified transportation, as poor air quality in major cities reaches critical levels. Argentina reduced its import taxes on EVs from 35% to 2%, while Uruguay, Ecuador and Colombia have removed them altogether. Colombia is rolling out 1,500 e-taxis in Medellin by 2020, while Chile aims to electrify its bus fleet and increase the country’s overall number of EVs tenfold by 2022.

Cleaner transportation bodes well for quality of life in some of Latin America’s cities but will bring challenges to the region’s electricity grid and infrastructure. By 2050, EVs are expected to add 71 TWh of new electricity demand – about 2.5% of total demand – requiring new grid capability to manage load fluctuations. More charging stations are needed urgently. Brazil has mandated utilities to install EV charging units across cities.

As “batteries on wheels,” EVs also represent enormous storage opportunities. By 2050, the approximately 52 million EVs on Latin America’s roads will hold about 1.6 TWh of behind-the-meter storage capability. This is a potential boon to both consumers and grid operators, as a potential means of mitigating against expensive grid-scale storage upgrades, to manage load volatility from increasing distributed energy resources penetration. By harnessing the capabilities of distributed storage through increased aggregation of EV batteries, utilities will be better equipped to bring increasing value to system operations and network efficiency.

Overcoming infrastructure and regulatory obstacles

Latin America’s tipping points are further away than those in other markets but still close compared with the traditionally long planning horizons of the utilities sector. This is a sophisticated energy market – outward-looking industry players have benefited from leveraging lessons learned from markets further along the energy transformation journey – but, even so, significant obstacles remain.

Central to these obstacles is the need for major upgrades to grid infrastructure. Equipping electricity grids to integrate significantly more distributed, intermittent renewables will require huge investment, and it is currently unclear where this financing will come from – industry or government. Many utilities in Latin America are already challenged by huge nontechnical transmission and distribution losses that hover around 16%, compared with a global average of 8.3%.

Perhaps it is regulators that face the biggest challenge: they must build energy policies that balance decarbonization goals, economic growth, consumer demands and the sustainability of incumbent utilities. Incentives to encourage the uptake of renewables are needed but within regulatory frameworks that allow traditional utilities to participate and find a new role in a changing energy world.

With the digitization of the sector driving and facilitating much of its changes, regulators will also need to develop capabilities in new technologies and better understand their implications for the energy market.

Call to action: ignore, exit, fight or embrace?

For utilities, the countdown to reinvention is a call to action. The first step is to determine a strategy in the energy transition: ignore, exit, fight or embrace.

Ignoring the countdown puts utilities on a certain path toward a “death spiral.” As the customer base shrinks, rates must rise and the risk of stranded assets will become a reality. Some companies may plan a market exit, while others may fight the impending changes – lobbying regulators for softer policy support for renewables and tougher barriers to entry for non-traditional players.

For those utilities aiming to stake a claim in Latin America’s future energy market, embracing the arrival of the tipping points is the only choice. These companies need to act quickly to consider their role in this new market and embark upon a major change program. Key action points include:

  • Developing new customer-centric strategies that meet customer demands and respond to shifts in behavior.
  • Mastering the digital technologies critical to manage a more dynamic, intermittent and distributed electricity grid and unlock the innovation that will create new sources of revenue. For example, microgrids of renewables and storage may be a potential alternative to expensive transmission upgrades in areas of major population and industrial growth. They could also address the challenge of bringing electricity to isolated communities.
  • Creating an agile mindset, making faster decisions around strategy, changing direction quickly and moving fast to gain new capabilities.
  • Considering joint ventures between traditional incumbents and the international utilities that are increasingly attracted to the growth potential of Latin America’s clean energy market. Domestic utilities may struggle to compete with big multinational players, particularly those with experience in European energy transition, while foreign companies may face challenges in adjusting models to local conditions. The region’s oil and gas sector highlights how consortia between local and international players can be a successful model, and we expect to see similar arrangements within utilities.
  • Building and enhancing trust. As utilities embark on new growth strategies and adopt the technologies that will enhance agility, innovation and confidence, they must make sure that change does not come at the expense of the trust they have built over many years with key stakeholders: customers, partners, investors, employees and regulators. Protecting data privacy and embedding security by design in digital transformation strategies are critical elements to protect and strengthen trusted relationships.

The right strategy can reap major rewards

Its juxtaposition of old and new means that Latin America’s energy transition has no real precedent. Some countries face the countdown to the tipping points against a backdrop of other socioeconomic challenges familiar to developing economies. In others, the push to clean energy takes place within an increasingly sophisticated market, with a thriving technology sector and savvy consumers.

For utilities across the region, preparing for the energy market’s tipping points will not be easy. Responding to urgent drivers of change is compounded by the increasing challenge of competing with international players. But, the reward for those that get it right may be beyond that on offer in other markets: Latin America is one of the few regions in the world where electricity demand is forecast to increase significantly and rapidly. Reaping the benefits of this dynamic energy market will require utilities and regulators to work together to create the conditions that will enable Latin America’s energy transformation to succeed.

Summary

Latin America’s energy sector is on a countdown to when three tipping points mark fundamental change. Preparing for change will require major transformation for utilities, but the rewards may be great for those that get their strategy right and act now.

About this article

By

Gavin Rennie

EY Global Emerging Markets and Latin America North Power & Utilities Leader

30-year professional in Power & Utilities. Proud to be part of a sector transforming to become lower carbon and more customer focused.