Taking the heat out of power prices

With all the talk about electricity bills there is a unique opportunity for reform. But as the example of WA shows, if governments overreact and restrict the use of markets, it could make things worse.

AGL spat the dummy a few days ago claiming it would pull up stumps on investment and marketing in South Australia because the state regulator had decided to adjust regulated tariffs to more closely reflect wholesale electricity market prices. Origin has made similar complaints about Queensland regulator decisions.

At the same time we’ve had Matthew Warren, head of the Energy Supply Association, valiantly trying to defend network businesses from reform, claiming this will undermine investment confidence. 

Then on the other side we had an extraordinary coalition – of the Australian Industry Group, the Brotherhood of St Laurence, CHOICE and the Energy Efficiency Council – demand a series of wide-ranging reforms to the electricity market regulations to contain costs. These included creation of a market for peak demand response, mandating minimum targets for network businesses to reduce localised distribution demand peaks, adjusting the way network businesses are incentivised including their rates of return, and introduction of mandatory national energy efficiency target.   

With such political heat around electricity prices, there is a unique opportunity for reform. Some of the ideas from the coalition above need to be considered. But at the same time we need to guard against politicans over-reacting, and we end up losing what is good about the National Electricity Market.

While at the Energy in WA Conference last week I was reminded of what can go wrong when government sees energy largely as a tool of social and industry policy.

In WA there’s no competing electricity retailers for small electricity consumers, just the government-owned Synergy. That’s because understandably companies don’t fall over themselves to sell electricity at a loss – the result of household electricity prices that government kept at the same level for over 10 years, not even letting them rise with inflation. While WA energy consumers gain from this, they simply pay for it from their other pocket via their taxes, as the government ultimately has to stump up to keep Synergy solvent. 

Also WA residents living off the main grid on expensive diesel generation should be some of the most energy efficient and greatest users of renewables. But in the end they have little more incentive for efficiency than those in Perth due to some bizarre agrarian socialist ideal that electricity should be the same price across the state irrespective of its cost.

I know there are some people who think we should spilt up the NEM into two separate payments for generators – one for capacity and one for energy. But in the WA this is a bit of a mess. It has resulted in the government, rather than consumers through price signals, determining how much generation gets built. The end result is they have way more generating capacity than they need, with taxpayers footing the bill to pay for generating capacity that doesn’t come close to getting used.

What’s more, in a panic over gas supply disruptions, the government has brought an old coal power station back online and underwritten the construction of another new one. This is something the private sector would not have been crazy enough to do.

In addition we have a bunch of minerals processing industries in WA that think the oil and gas industry should underwrite their existence by selling them fossil fuels below market prices. And the state government agrees with them.

This isn’t the way to run an energy market, in fact it isn’t really a market. 

Reforms to address the rising costs of electricity in the NEM shouldn’t be about re-introducing price controls and subsidising energy. Instead it needs to get markets and price signals to penetrate into areas where they have traditionally been absent (network capacity) or have been ignored by apathetic end-consumers (such as energy efficiency). 

This is actually quite applicable to the case of AGL’s dummy spit last week. The South Australian regulator’s move to make prices more reflective of actual wholesale electricity market and forward contract prices is hardly likely to re-create the problems we have in WA. Yet we should be asking why the regulator in this state, as well as others, needs to second-guess the market in the first place. 

As we’ve written about before, the SA and NSW regulators’ methods have led to electricity consumers on the regulated tariff paying substantially more for their electricity than what is readily available from the retailer market. Rather bizarrely a large rump of consumers don’t bother to switch to these lower offers. This has meant state governments feel the need to continue setting regulated tariffs in order to protect these disengaged consumers.

However instead the regulator could employ a market instrument – holding a series of auctions where retailers could bid to supply blocks of these consumers. Those retailers that offered the lowest tariffs would win the right to supply these customers for say 12 or 24 months until the next round of auctions. At the same time consumers could still remain free to select their own retailer via going to the open market.

Addressing the excessive rise in electricity prices over the past few years requires greater use of markets, not less.

Want access to our latest research and new buy ideas?

Start a free 15 day trial and gain access to our research, recommendations and market-beating model portfolios.

Sign up for free

Related Articles