Macroeconomic Risk and Residential Rate Design

Abstract

If financial markets manage risk to personal consumption efficiently, it should be the case that energy bills that vary directly with aggregate personal consumption can be made both lower and less volatile at cost, since doing so is effectively making payments when aggregate consumption is high, and receiving payments when it is low. However, if energy bills vary directly with household personal consumption, making them less volatile will make household consumption more volatile. We develop a rate design that optimizes household consumption when there are macroeconomic surprises, as well as those in energy price and load. Households are heterogeneous in personal consumption, and that of energy. The rate design is embedded in a model of an economy-wide market for management of risk. Customers pay positive or negative risk premia that increase in the sensitivity of their consumption to macroeconomic surprises, and in the correlations of their loads with spot prices. Risk premia also increase in systematic risk and economy-wide risk aversion.