An energy debate in smelt-down

Recent developments in energy intensive manufacturing illustrate that there's an awful lot more to worry about when it comes to manufacturing competitiveness than obliterating the carbon tax.

The incredible political toxicity surrounding the issue of climate change and carbon pricing seems to have acted to blind us from a rational debate about how we efficiently produce and use energy, and its role in Australia’s international competitiveness.

There are some incredibly important issues surrounding the energy sector and international competitiveness relating to competition and market power, government versus private ownership, the implications of the resources boom for economic structure and workplace labour practices. But these are being drowned out by an ideological crusade against anything that accepts climate change is a legitimate problem. 

Yesterday Climate Spectator reported that Boyne Aluminium Smelter in Queensland will be cutting back production over summer by 14,000 tonnes of aluminium. It attributes this cutback to the abnormally high electricity prices which Queensland has been experiencing. 

Queensland has seen increases in wholesale electricity prices – particularly over last summer and also increasingly this summer – which substantially exceed price rises in the other states with cheap coal generation (NSW and Victoria). The rises far exceed anything that could be explained by the impact of carbon price, as illustrated in the chart below from the Australian Energy Regulator.

Wholesale electricity prices across the states of the National Electricity Market

Graph for An energy debate in smelt-down

The general manager of the Boyne smelter, Joe Rea in explaining the reasons for the cutback told the Gladstone Observer:

"It is an ongoing concern for our business that electricity prices in Queensland are significantly higher than other states in Australia at a time when the price for aluminium in Australian dollar terms is 20 per cent lower now than during the global financial crisis. Electricity prices in Queensland are currently 20 per cent more expensive here than in New South Wales and 30 per cent more expensive than in Victoria."

Also, in a little noticed news item published just before the Christmas break, Incitec Pivot announced that it had signed up to a 23-month gas contract with Santos for its Phosphate Hill Fertiliser manufacturing plant. Incitec explained that this would increase the plant’s manufacturing costs by $50 million per annum. Equity analysts estimate that it involves a doubling of the delivered gas price they’re paying – to about $10-$11 per gigajoule. Morgan Stanley analysts Nicholas Robinson and Dominic Taylor believe that this would mean the plant will lose money at current fertiliser prices and exchange rates. They also believe such prices would do the same to Incitec’s Gibson Island plant as well. According to Macquarie’s John Purtell, such a rise would increase Phosphate Hill’s production costs by 17 per cent, which dwarfs any impact from carbon pricing or renewables policies.

Both of these events serve to illustrate that obsessive focus on the carbon price is missing some major issues.

The Boyne smelter episode exposes a major problem with market concentration in the electricity sector and government as owner and regulator. This is getting virtually no airtime in media and political debate about energy. If you take the time to read the Australian Energy Regulator’s State of the Energy Report it explains that many of the very high price events in Queensland occurred during the night when demand was low and there is a large overhang of excess generating capacity in the state. The report explains,

Following an ownership restructure [initiated by the Queensland Government] in July 2011, CS Energy [owned by the Queensland government] acquired control over generation plant at both ends of a strategic transmission line in central Queensland. Subsequently, its bidding behaviour periodically resulted in power flows that contributed to network congestion. AEMO was obliged to manage the issue by ‘constraining off’ low cost generation in southern Queensland and ‘constraining on’ higher cost generation around Gladstone.
In combination, the reduction in low cost generation in southern Queensland, the dispatch of higher priced capacity around Gladstone, and the counter-price export of electricity into New South Wales caused the Queensland price to spike.

Essentially, the Queensland government decided it would consolidate its three generator companies into just two. Why this was in Queensland consumers' interests and effective competition is hard to discern. CS Energy now holds the rights to control the output of more than a third of Queensland generation capacity (supported by a strategic position along a transmission line) and the government’s other company controls a quarter.  

Privatisation, however, is not going to solve these types of issues if they just end up consolidating the market power of Origin, AGL and EnergyAustralia. So far the privatisation of NSW government generators and retailers has done exactly that. 

In terms of the Phosphate Hill gas contract, this reflects a larger fundamental change in Australia’s economic structure away from manufacturing to raw materials. Abbott might like to believe that because Australia has lots of gas and coal, it therefore constitutes a source of competitive advantage for Australian manufacturing. But if the Japanese, Koreans and Chinese are prepared to pay more for that energy than Australian manufacturers then that’s where that energy will go. 

The issue is then more about how we ensure the wealth created by exporting those raw materials can support our prosperity into the future as the resource declines.

In addition, if we look at Japan and Korea we find these countries are vastly better than us at converting a unit of energy into economic value. We must rapidly improve our energy efficiency if we are to remain competitive as the gas price rises. Oh, and by the way, their successful car manufacturing industry is hardly built upon cheap energy.

Pretending Australian manufacturing will be miraculously revived on the back of the abolition of climate change policies is a fool’s paradise.

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