Understanding Blockchain-Enabled Distributed (P2P) Energy Trading

This article aims not to discuss the recent frenetic price changes in cryptocurrencies, but to rather take a closer look at one of the proposed facets of the Blockchain revolution: Blockchain-Enabled Distributed Energy Trading (or Blockchain-Enabled P2P Energy Trading). This supposed revolution posits that Blockchain enables retail users to trade energy with each other effectively, the economic incentives of which will prompt retail users to produce their own electricity with renewable means, and thus, reduce society’s overall reliance on carbon-based energy such as petroleum or coal.

By discussing the technology, policy issues, and legal issues surrounding the use of distributed ledgers for P2P energy trading, this article aims to help readers to better understand—and refute—skeptics and false prophets of the Blockchain revolution. To this end, this article shall discuss (1) the technology of Blockchain itself, (2) the concept of Blockchain-enabled distributed energy trading and its purported policy impact, and (3) the various policy/legal issues that this concept raises.

(1) What Is Blockchain and Why Does It Matter?

Any discussion of these items should be prefaced by a brief introduction to the technology of Blockchain. Several other online resources, including a webpage on Coindesk and this past STLR Blog post have gone to great details to explain what a Blockchain exactly is. But in a crude simplification, the technology and value of Blockchain can be explained as follows:

  • Every transaction, usually of the cryptocurrency or token, is recorded onto a public ledger.
  • There is no single ledger stored in a central server or a storage box; rather, every participant in the network gets a copy of the ledger that is digitally updated simultaneously with other copies.
  • These copies are regularly compared with each other to make sure every ledger has the same record. If there is a discrepancy, in most networks, the record shown by the majority of the copies is adopted as the correct ledger. The copies with discrepancies are then modified to copy the correct ledger.
  • It is improbable to tamper with one’s own copy of the ledger: changing past records will, thanks to some math and technology, cause the tampered ledger to look very different from the copy that everybody else on the network has. So, unless one owns the majority of the copies and can argue that the tampered copy is actually the legitimate copy, the ledger cannot be tampered with. This approach is called a “51% attack” and while it is theoretically possible, the sheer cost of acquiring the majority of the devices with ledgers makes it economically unfeasible.
  • This means that participants in the network can transact cryptocurrencies/tokens without having to rely on an intermediary to verify the counterparty’s ability to hold its end of a transaction. The participants already have access to the public ledger and can verify their counterparties directly. This enables participants to transact much more quickly with each other at significantly lower transaction costs.
  • Some cryptocurrencies enable “smart contracts” which are computer codes that automatically execute certain transactions. This past STLR blog post explains the concept in more detail.
  • Blockchain’s ability to create an intermediary-free ledger means that it can create a network where the execution of numerous, varying transactions can be monitored and recorded at a rapid pace.

The last property–creating an intermediary-free ledger–is what causes innovators to view Blockchain as potentially disrupting every industry that had to rely on intermediaries to verify transactions. Global banks are seeking to use Blockchain to enable faster inter-bank funds transfer. Retail companies are trying to use Blockchain to manage inventory and shipping more efficiently. Healthcare, insurance, and manufacturing are some other examples of industries seeking innovation via Blockchain.

And it is in this context of innovations that some are claiming that Blockchain will disrupt the conventional energy market by allowing distributed energy trading, or P2P trading.

(2) The Concept of Blockchain-Enabled P2P Energy Trading

The basic premise of Blockchain-enabled P2P (distributed) energy trading is that because the Blockchain makes it cheaper and easier to make smaller transactions, it will become easier for retail consumers to trade surplus energy with one another; this will incentivize retail consumers to produce their own electricity, often via renewable energy sources like solar panels, and reduce society’s overall reliance on carbon-based electricity.

In the conventional utilities/energy market, end-users simply purchased electricity from large energy companies, often government-controlled in many countries. To promote sustainable power generation, several countries have allowed “net-metering”, or allowing consumers to sell surplus electricity back to the utilities company and thus incentivizing individual power production. But this raised the challenge of metering and billing: both sides needed a way to accurately measure how much electricity these consumers provided into the power-grid, and how this impacted the final bill. Before the advent of Blockchains, these problems caused significant delays in payments to electricity producers.

Proponents of Blockchain-enabled P2P energy trading argue that the use of Blockchain will make it easier to precisely record smaller energy transactions, thus making it easier not only to track electricity produced in households, but also making it less costly to monitor decentralized transactions like P2P trading. These proponents claim that the cost-reduction will further incentivize end users to produce their own energy and thus reduce social reliance on carbon-based power generation.

As Professor Spence noted in his contribution to Climate Law Blog, there is a utopian charm to Blockchain-enabled P2P energy: “Progressives like this vision because it is green and local: it promotes renewable energy development by putting it beyond the reach of stodgy electric utilities. Conservatives like the vision’s libertarian elements: it promotes individual energy entrepreneurship and markets over government-regulated collective solutions, like grid-based electricity services.”

(3) Policy & Legal Issues

Whether Blockchain enabled distributed energy trading can actually promote sustainable, renewable energy production is not only a policy question, but also a legal questions. One of the main hurdles to the use of Blockchain in P2P energy trading is mining costs. For many cryptocurrency networks that rely on “Proof of Work” structure, Bitcoin being the most notable example, the expansion of the public ledger requires more computational power to verify existing ledgers before recording new ones. These networks rely on any given user for the verification and update of its ledger, but to prevent thousands of users creating thousands of different ledgers at the same time, only the copy verified by the first user to solve a randomized mathematical question is recorded onto the public ledger. To incentivize users to participate, this first user receives cryptocurrencies in exchange for their solving of the math problem—in other words, for their “Proof of Work.” This process of solving-questions, verifying ledger, recording updates, and receiving cryptocurrencies is “mining.” But the computational effort needed for mining consumes so much electricity that the transaction cost of cryptocurrencies that rely on mining is not as cheap as envisioned.

To address this issue, developers of new Blockchain and cryptocurrency systems are using “Proof of Stake” concepts, where trusted individuals (who have often made significant financial investments) will automatically lose their stakes in the network if they are found to have hampered with the ledgers. This allows for a more efficient verification processes.

But this technological solution leads to a legal issue: will stakes in Proof of Stake structures be viewed as financial security? This issue is better covered in this blog. The take-away is that stakes, despite working as promises for financial returns, have characteristics that are notably different from bonds or financial assets, and thus creates complications under Securities laws.

Another issue to consider is whether jurisdictions that have regulatory requirements for power production can apply such regulations to P2P-trading prosumers. In Australia, for example, “One of the main hurdles that prevents small-scale producers (prosumers) of renewable energy from engaging in exchange is regulation from the National Electricity Market (NEM). NEM requires that vendors on their market have a generator larger than 5 megawatts, which is equivalent to 5,000 5kW solar systems.” But even if such regulations were to apply, what about P2P systems where prosumers, rather than directly providing electricity to each other, trade “tokens” that can be used to purchase more electricity from the grid? A U.S. Department of Energy lab and BlockCypher are already trying to develop P2P solutions where people can exchange cryptocurrency for electricity. In this case, depending on how the courts categorize these tokens, the trades could fall under the energy law, Universal Commercial Code, or securities law.

In the end, there are countless doomsayers in the market forecasting that Blockchain-enabled P2P energy trading will “disrupt” the energy market, but there are too many proposals and too little research into the legal ramifications. Time will tell how this oft-talked-rarely-understood technology will change how we and the law understand the energy market.

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