Shh, don't let Wall Street know but solar power is ready to compete with traditional electricity generation sources, and it's only going to get cheaper. Panel prices have fallen from nearly $7 per watt in 1985 to less than $2 per watt today, and the momentum isn't stopping. One dollar per watt prices are on the horizon, and if the Department of Energy has its way total installation costs will fall to $1 per watt by 2017.

Perception is reality
Innovation, falling silicon prices, and economies of scale have helped drive costs lower since the solar sector really started growing in the early 2000s. First Solar (Nasdaq: FSLR) is now making thin-film panels for $0.75 per watt, Trina Solar (NYSE: TSL) makes crystalline panels for $1.16 per watt, and even efficiency leader SunPower (Nasdaq: SPWRA), the highest cost producer, is manufacturing at less than $1.48 per watt.

But solar power can't seem to get over the perception that it's "too expensive" for widespread use. There are certainly issues, like inconsistent energy production, but with such a small installed base, the grid can handle years of solar growth before they become major issues. So how do we get over this perception and how much does solar power really cost?

The answer: It depends
Project costs can vary widely even with the same manufacturer. SunPower sold 28 MW of projects in Italy for $64 million, just over $2 per watt, while its California Valley Solar Ranch exceeds $6 per watt, including electric substation, public viewing areas, and a transmission tie-in. Since project, regulatory, and utility requirements vary widely, it's impossible to put one number on the cost for solar installations, but $3 to $4 per watt is widely quoted as the price range for a typical solar installation today. For argument's sake, let's use that range and a capacity factor between 20% and 30% for solar installations to get a feel for what solar electricity costs.

Using National Renewable Energy Laboratory's Simple Cost of Energy Calculator (which can be found here), we input these ranges and get a cost per kW-hr of electricity. The sensitivity analysis below assumes a 20-year period, 10% discount rate, fixed operation and maintenance costs of $20/kW-yr, and does not include subsidies.

 

20% Capacity Factor

25% Capacity Factor

30% Capacity Factor

$3.00 per watt $0.212 $0.169 $0.141
$3.50 per watt $0.245 $0.196 $0.163
$4.00 per watt $0.279 $0.223 $0.186

These numbers don't include transmission lines or margin for a utility, but they show how close solar power is to reaching "grid parity." Based on these numbers, solar costs are becoming comparable to some of the more expensive electricity rates in the country. According to the EIA, in the first two months of 2011 New England states were the most expensive region, paying an average rate of 14.74 cents per kW-hr for electricity and Hawaii was nearly 28 cents per kW-hr. California, where solar energy is abundant, paid 13.01 cents per kW-hr for electricity.

These rates also include cheap and ancient coal plants, gas peakers, nuclear power, hydroelectric dams, and even a little wind mixed in. But new construction would be much more expensive than the rates people pay today. And with coal emissions and nuclear safety concerns, the cost to build traditional power plants is only rising.

Trends favor solar
As panel sale prices fall for manufacturers such as LDK Solar (NYSE: LDK), JA Solar (Nasdaq: JASO), and ReneSola (NYSE: SOL), it puts pressure on margins but also makes solar more competitive in the marketplace. Short term, it has crushed these stocks, but in the long term, lower sale prices are good for the industry. Right now it's a matter of making it through the hard times so they can reap the rewards of grid parity.

Not every company will make it through this rough patch, and based on stock prices, investors doubt Evergreen Solar and Energy Conversion Devices (Nasdaq: ENER) will make it. But powerhouses such as First Solar, SunPower, and Trina Solar should emerge as winners once solar power falls below the cost of traditional energy sources.

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Fool contributor Travis Hoium owns shares of First Solar and SunPower. You can follow Travis on Twitter at @FlushDrawFool, check out his personal stock holdings or follow his CAPS picks at TMFFlushDraw.

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