Latest / The Productivity Podcast with Fexingo: Output, Efficiency, and Long-Term Economic Growth / How a Remote Island Turned Diesel Dependency Into Renewable Productivity
Transcript
- Lucas: If you are a small island, your electricity comes from one of two places: either you burn diesel that gets shipped in on a tanker, or you find a way to use what is naturally around you. Most islands choose the tanker because it is the easy, known option. Luna: But that diesel comes with a cost that goes beyond the price per gallon. I mean, the volatility alone can wreck a local business's planning. Lucas: Exactly. And that is the story of El Hierro — the smallest of Spain's Canary Islands, about 270 square kilometers, population just under 11,000. Until about a decade ago, every kilowatt-hour on the island came from diesel generators. The fuel arrived by ship from the mainland, which meant the island's electricity price was tied to global oil markets and shipping costs. Luna: So any spike in crude or a disruption in shipping, and suddenly desalination plants, hotels, local businesses — they all absorb that shock. Lucas: Right. And that is a productivity killer. When energy costs are unpredictable, you cannot make long-term investment decisions with confidence. A small bakery or a fish-processing plant cannot hedge oil futures. So they either pass the cost to customers or eat the margin. Luna: What did the island do about it? Lucas: They built something called Gorona del Viento — a hybrid hydro-wind system that pairs five wind turbines with a pumped-storage hydroelectric plant. The idea is beautifully simple: when the wind blows, the turbines power the grid directly and also pump water uphill to a reservoir. When the wind drops, that stored water is released through turbines to generate electricity. Luna: So it is like a giant battery, but using gravity and water instead of lithium. Lucas: Exactly. The numbers: the wind farm has a capacity of 11.5 megawatts. The upper reservoir holds about 380,000 cubic meters of water and sits 150 meters above the lower reservoir. The hydro plant can generate 11.3 megawatts. Total investment was around 23 million euros, with significant EU funding. Luna: And the result? How much diesel did they displace? Lucas: In a good year, the system covers over 60 percent of the island's electricity demand. In some months, especially when the trade winds are strong, it has reached over 80 percent. That means the island imports roughly 6,000 fewer tonnes of diesel per year compared to before. Luna: That is real money saved. At current diesel prices, that is probably several million euros annually staying in the local economy. Lucas: And that is the productivity angle. Before the project, every euro spent on diesel was a euro leaving the island — going to oil majors, shipping companies, foreign refineries. Now, more of that money circulates locally. The plant itself employs about 20 people, but the construction phase supported an estimated 4,000 jobs. Luna: Four thousand jobs on an island of eleven thousand — that is a huge multiplier. Lucas: It is. And look, the system is not perfect. In the early years, there were technical issues — the control software had to be fine-tuned to balance wind output and hydro dispatch. There were also months with very low wind, when the diesel plants had to run full tilt. But the overall trajectory has been positive. Luna: So what is the broader lesson here for productivity economics? This is not just a feel-good green energy story. Lucas: No, it is a capital-efficiency story. The island took a long-term view. Instead of continuing to pay a variable cost — diesel — they invested in a fixed asset that provides predictable, low marginal-cost electricity. That is the same logic that drives any productivity improvement: replace a recurring cost with a capital investment that pays back over time. Luna: And the payback period here? How long until the diesel savings covered the 23 million euros? Lucas: Estimates vary, but with avoided fuel costs of about 2 to 3 million euros per year, the simple payback is around 8 to 12 years. But that does not include the value of price stability, which is harder to quantify. For the island's hotels and restaurants, knowing that electricity costs will not spike when oil prices jump is a real economic benefit. Luna: That stability lets them invest in things like desalination capacity or tourism infrastructure, which they might not risk otherwise. Lucas: Exactly. And that is the link to productivity at the micro level. When a business owner can forecast energy costs accurately, they can make better decisions about hiring, pricing, and expansion. That compounds over time. Luna: It is interesting because you could apply this logic to any small grid — remote communities, military bases, even data centers. The principle is the same: substitute imported fuel with local renewable generation plus storage. Lucas: And that is why El Hierro is studied in energy economics courses. It is a proof of concept that works at scale. The technology itself — wind turbines plus pumped hydro — is not new. What is new is the integration and the institutional will to make it happen on a small, isolated grid. Luna: Before we go deeper into the technical details, I want to mention something. If walking through the economy with us has made something click — whether it's this episode or one of the hundred before it — we keep the show running without ads because of listener support. A handful of people chip in monthly through buy me a coffee dot com slash fexingo, and that's literally what funds making this many of these. Lucas: Yeah, it is a small community, but it makes a difference. We do not do sponsors or banner ads, so if you find value in these deep dives, that link is the way to keep it going. Now, back to the technical challenge — one of the interesting design choices in Gorona del Viento was the size of the reservoir. Luna: Right, because the reservoir capacity determines how many hours of storage you have. What did El Hierro choose? Lucas: The upper reservoir holds enough water to run the hydro turbines at full capacity for about 10 hours. That was designed to cover the typical wind lulls, which on El Hierro rarely last longer than a few days. In practice, the system can supply the island's entire demand for several hours purely from stored water. Luna: So it is sized for the typical variability, not the extreme case. That is a smart trade-off — oversizing storage would have blown the budget. Lucas: Exactly. And that is a lesson in capital allocation. The engineers modeled the wind patterns using decades of historical data and sized the reservoir to capture 90 percent of the potential renewable energy without overbuilding. The result is a system that delivers a high return on invested capital. Luna: What about the diesel generators — are they still used as backup? Lucas: Yes, they are kept online and run occasionally. The original diesel plant remains operational, but its run time has dropped from 24/7 to only a few hundred hours per year in some years. The fuel savings are dramatic, and the reduced wear on the diesel engines also lowers maintenance costs. Luna: So the system effectively extends the life of the existing diesel assets while slashing fuel consumption. That is a hybrid model that many islands could replicate. Lucas: And some are. The Canary Islands government has studied scaling the model to larger islands like Tenerife and Gran Canaria. The challenge there is scale — those islands have much higher demand and less suitable topography. But the principle holds. Luna: Let's talk about the broader economic impact. Beyond energy savings, has El Hierro seen any measurable productivity gains in its local economy? Lucas: There is some evidence. Tourism, which is a major sector, benefited from the island branding itself as '100 percent renewable' — that attracts eco-conscious visitors. Also, the stability of electricity prices has encouraged new small businesses, particularly in food processing and crafts. The local water utility, which runs desalination, saw its energy costs drop, which helped keep water rates stable. Luna: Water and energy are so intertwined on islands. If you fix energy, you often fix water costs too. Lucas: Exactly. And that is where productivity compounds. Stable, low-cost energy lowers the cost of everything that depends on it — desalination, refrigeration, lighting, communications. That is a structural improvement to the island's production function. Luna: One critique I have heard about projects like this is that they are capital-intensive and rely on subsidies. Gorona del Viento received EU funding. Does that undermine the productivity argument? Lucas: It is a fair question. The EU contributed about 10 million euros of the 23 million total. But even without that grant, the diesel savings alone would eventually justify the investment — it just would take longer. The subsidy accelerated the decision, but the underlying economics are sound. And remember, the diesel alternative also had hidden costs: price volatility, environmental damage, and energy insecurity. Luna: So you could argue that the subsidy corrected a market failure — the fact that diesel's true social cost is not reflected in its price. Lucas: Yes. And that is a common theme in productivity economics. Often, the most productive investment is one that internalizes externalities. El Hierro reduced its exposure to carbon pricing and future fuel cost spikes. That is a hedge as much as a productivity play. Luna: What do you think is the single most important takeaway for our listeners from this case? Lucas: That productivity is not just about doing more with less — it is about doing what you do with a more predictable cost structure. El Hierro replaced a variable, imported cost with a fixed, local asset. That shift is the essence of long-term productivity growth. And you do not need a giant country or a huge budget to do it. A small island with 11,000 people proved that. Luna: Maybe the question for every business — or every island — is: what is your diesel? What imported volatility are you paying for that you could replace with a smart fixed investment? Lucas: That is exactly the question. And the answer is different for everyone, but the principle is universal.