The Pears Report: Poles and wires welfare

Alan Pears

The Productivity Commission fights against protection in all other industries—why not in electricity? asks Alan Pears.

The 2012 Senate inquiry into electricity costs delivered a damning report on the performance of energy policy makers and regulators (see my column in ReNew 123).

Now the Productivity Commission has issued its own 820-page report. It is even more scathing.

Just about every criticism made in submissions to the Senate inquiry has been supported.

Statements include:
“These flaws require a fundamental nationally and consumer-focused package of reforms that removes the interlinked regulatory barriers to the efficiency of electricity networks. Reforms made in late 2012, including improvements to the regulatory rules, better resourcing of the regulator and greater representation of consumers, have only partly addressed these flaws.”

“Delays to reform cost consumers across the National Electricity Market (NEM) hundreds of millions of dollars.”

“There is, in effect, no point in simply fixing a punctured tyre if the car has no engine.”

I couldn’t have said it better myself…

It seems to me that the commission had to take a strong stand.

There is such widespread agreement that the energy market is a mess that to make apologies would be to undermine the future of the Productivity Commission’s broader agenda of competition and privatisation. To their credit, they have made strong recommendations with delivery dates.

Yet electricity industry welfare remains

Underlying the commission’s thinking, there is still a deep tension between open and fair markets and an assumption that the incumbent industry must be protected so it can recover its costs. So new market entrants such as solar electricity must receive only the value the incumbent industry places on their input, and pricing structures must allow incumbents to maintain their viability. This is simply a welfare scheme of a type that the commission fights against in all other industries.

The gas industry is not paid according to what it saves the existing electricity industry when someone switches to or from gas cooking. Online media are not paid what they save the hard copy media. And so on.

A classic example of the ‘welfare’ approach is the commission’s conclusion that rooftop solar should, in the short term, be paid only what it saves on generation and, in the longer term, what it saves the networks. In the meantime, it proposes that retail electricity prices should be deregulated: a licence for the incumbent industry to use its market power to block emerging competitors.

The value of rooftop solar

Rooftop solar should be allowed to sell power to neighbours independent of the grid, or be paid the retail price at the time it exports, in the same way that consumers benefit at the full retail electricity price if they save electricity or switch to gas.

On the one hand, the rate paid to PV owners should be higher than the retail price, because this is ‘green electricity’ being fed into the grid, which is worth more. On the other hand, it is fair that the PV owner pays for use of the part of the network they actually use: that is, the very small part of the network used to deliver the PV-generated power to whoever uses it. However, this latter is very different from saying that they should be paid only the wholesale electricity price, or close to it, which assumes they use the whole network and transmission system and deserve no credit for reduced power-line losses.

In theory, such an arrangement should force networks and retailers to introduce cost-reflective tariffs. But they have enormous market power and will not do this unless they are very carefully supervised, and independent analysis is done to cross-check their pricing approaches.

To avoid cost impacts on the grid beyond the neighbourhood level, a network could choose to install local energy storage to absorb the excess PV output at appropriate times. This storage could also enhance network profits if used to store cheap electricity for sale into the grid at times of high prices. So the cost of storage to solve the PV problem could be offset by the potential for greater profits.

Who pays to cover fixed costs?

The argument for higher fixed charges to cover network capital costs is also flawed. As the industry itself tells us, much of the network infrastructure is old. Logically, this should mean its capital value is heavily depreciated, so fixed costs are low for much of the grid. But the buyers of networks paid inflated prices, so their fixed costs are high. Why should consumers pay this cost?

These were business decisions: shareholders, not consumers, should pay the price of poor decisions. And governments that have chosen to inflate the value of their network assets need to take responsibility for their decisions, not solve their problem by killing energy innovation and cost reduction.

The commission needs to step back and imagine what a truly competitive energy services sector might look like, and frame its policy recommendations accordingly.

Debating (again) a national scheme for energy savings

In recent years, several state-based schemes that create energy retailer obligations to deliver greenhouse gas abatement via end-use consumers have appeared. These include the NSW Energy Savings Incentive (based on the previous Greenhouse Gas Abatement Scheme), the Victorian Energy Efficiency Target (promoted as the Energy Saving Incentive) and South Australia’s REES. The Victorian and NSW schemes use trading mechanisms.

Debate about such schemes has a long history, which is worth considering as we debate the federal government’s recent report on the costs and benefits of a National Energy Savings Initiative (NESI).

In 2003, the NSW government introduced its Greenhouse Gas Abatement Scheme—the world’s first emission trading scheme. Abatement certificates could be created through a variety of actions, including energy efficiency.

In 2007, Democrat Senator Lyn Allison (a long-term advocate for energy efficiency) proposed a similar national scheme. This was considered by a Senate Inquiry. I made one of 17 submissions, and also presented evidence. It was very clear that many influential people in the Canberra bureaucracy and politics were strongly opposed to such an approach. In my evidence, I warned that if the federal government didn’t act, individual states would, and we would have to clean up the mess in the future.

The inquiry concluded that the (then) proposed Carbon Pollution Reduction Scheme would deal with this issue within a broader framework. It didn’t. So the Victorian and South Australian governments introduced schemes in 2009.

In its conclusion, the inquiry commented that “An energy efficiency scheme set up in isolation from other climate change strategies may increase the cost of securing emission reductions…“ It’s strange how energy efficiency has to ‘fit in’ while energy market policy is allowed to conflict with policy on climate change. In practice, the present carbon trading scheme doesn’t effectively address energy efficiency either.

The 2010 Prime Minister’s Energy Efficiency Task Group proposed a national scheme. But powerful econocrats argued that carbon pricing would make such a scheme unnecessary, while energy retailers, who would carry the obligation, were not excited by the idea of paying to undermine their profits from energy sales. So it was to be “investigated”, not implemented.

Three years later, we have a paper reporting on (very conservative) economic analysis that shows substantial net economic benefit from a national scheme based on the NSW and Victorian models. I wish I could get excited about this, but the reality is that this was obvious a decade (indeed, several decades) ago.

The questions remain. Will a national scheme actually be introduced against the opposition of vested interests whose business models are falling apart along with purist economic policy designers? Will a weak target be set, creating yet another ‘boom and bust’ sustainable energy market? Will the scheme be designed to deliver real savings? Will it integrate incentives for avoiding peak demand and storing energy?

Don’t hold your breath.

Alan Pears has worked on sustainable energy issues since the late 1970s. He is one of Australia’s best recognised and most highly awarded commentators on sustainable energy and climate issues. He teaches part time at RMIT University and is co-director of Sustainable Solutions, a small consultancy.

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