In the market for an energy efficiency boost

Energy efficiency is set to make a significant contribution to mitigating climate change even without enabling policies. A recently released CEDA report Australia's Energy Options: policy choice not economic inevitability recommended that efforts to incentivise energy efficiency should be integrated into Australia's clean energy policies.

A new approach is certainly needed. The Energy White Paper estimates that, by 2020, the Australian government will have provided $37 billion in direct support, and via market subsidies, to clean energy development and deployment.

Australia has ambitious and long-term climate change goals. To meet them requires funding that is socially sustainable across the economic and political cycles. The alternative is to continue the booms and busts that have typified the sector's history thus far.

Traditionally, the energy sector has been structured around creating economies of scale on the generation side of the business, and has delivered continuous improvements for a long time. As a consequence, energy has been plentiful and relatively cheap. Demand for it, and the way in which it is used, has been viewed as almost exogenous to the sector.

Energy efficiency has occurred in the natural course of doing business. Even without enabling policies, improving energy efficiency and intensity means that global demand for energy is anticipated to grow by only 30 per cent between 2010 to 2040. Without these improvements it would be much higher.

In the Organisation for Economic Co-operation and Development (OECD) alone, energy demand would grow by nearly 90 per cent while the rest of the world would experience energy demand growth of more than 250 per cent without ongoing energy efficiency improvements.

While the carbon tax creates greater incentives for energy efficiency, it still remains relatively cheap for most consumers and energy efficiency will not be the dominate driver when buying goods and services. This applies to retail consumers and also to most goods in the wholesale sector, unless energy is a major input into the cost structure of a business. Energy efficiency improvements are, generally speaking, a by‑product of innovation rather than the driving factor.

CEDA's renewables and efficiency policy perspective describes two ways that an energy efficiency market can be created to maximise the number of people involved in seeking efficiency improvements. The first involves expanding the ways in which peak energy can be met:

“Locational-based needs would be identified through demand forecasting and subsequent identification of capacity limitations on the distribution and transmission network. Based on a set time period, perhaps 10 years, energy service providers (including network companies) would be invited to bid to address locational-based constraints. It could formally open the market to non-network solutions, such as demand-side participation (DSP) based on a competitive bidding process.”

This proposal requires transmission and distribution planning cycles to be aligned and appropriate regulatory incentives introduced for the network service providers ands demand side participants. It should also replace the existing energy efficiency initiatives which are "bolted on to the existing market framework” and work by imposing liabilities rather than allowing someone to capture the marginal benefit of energy efficiency.  This approach would not be dependent on smart meters, although their deployment would enhance the number of options available.

The second proposal would involve a substantial transformation in the energy market via an energy services model. To appreciate how the energy services model could drive innovation, consider the market for mobile phones:

“Free or heavily discounted equipment (phones) are currently provided under varying contracts according to need, usage and desire to hedge against risk. In the case of an energy service approach, a consumer would buy an energy service, much in the same way they subscribe to a high use mobile phone service.”

Such a model could enable competition in the energy sector from non-traditional sources, such as the retailers of white goods. The key advantage of this model would be that it could create the same economies of scale and scope to energy services as exists for energy generation. These incentives currently exist, but are dulled and disbursed. The capacity to quantify the benefits of energy efficiency would be dependent on fully cost reflective pricing based on energy time of use.

As CEDA highlights in Australia's Energy Options: Policy choice not economic inevitability, not only can energy efficiency make substantial contributions to meeting Australia's greenhouse gas commitments, it would also allow time for further advances in renewable technology innovation to occur prior to deployment.

Given the rapid rate of innovation and improvement that is occurring in some technologies, this would allow Australian subsidies to focus on technological development as well as the initial deployment and integration of low carbon emission energy generation sources. This does not mean Australia would shirk its contribution to global climate change mitigation but that the nation strategically maximises the social benefit it receives from the funds it spends supporting the sector.

Nathan Taylor is Chief Economist at CEDA.