25 Oct 2012

What's wrong with electricity network regulation? The Productivity Commission offers some views

by Graeme Dennis, Trisha Cashmere

The Productivity Commission's draft report on electricity network regulation suggests some reforms to remove regulatory barriers.

As part of the Productivity Commission's inquiry into Australian electricity network regulation, a draft report has been released to assist inquiry participants in the preparation of their submissions. What is interesting about this report? It discusses in detail the real cause of electricity price increases of more than 50% in real terms over the last fiveyears, and identifies network costs as the main contributor to these increases.

Why are network costs the main driver of electricity price rises?

The network capacity is built to cope with peak demand that is largely driven by households, and occurs for just 40 hours each year. Approximately 25% of a retail electricity bill is required to meet network costs for the network capacity utilised during those 40hours of annual critical peak demand.

Further inequity is built in to the way customers are charged for electricity where actual wholesale electricity costs, which can peak at $12,500 per MWh during those few peak periods, are flattened out across a 24 hour period and over time, and network access charges do not in any way reflect network costs.

This means that a holiday home that is connected to the grid only pays a small network access charge, and then an amount for the power used when the property is occupied, when the real cost of network access is the same for that building as for the neighbouring property where the residents live full time and so pay more. If the holiday home is air-conditioned this inequity is further increased by virtue of the network being used at peak time, and the user not paying an electricity charge that is reflective of the electricity cost at the time of use.

Properties with solar PV are associated with similar inequities.  While generating power those properties consume no power from the grid and therefore pay only the nominal network access fee for the privilege of being able to draw as much from the network as they wish when unable to generate (such as the evening peak in winter when the sun is no longer available), whilst others consuming the same amount in that same evening peak are also paying additional network usage charges through the non-peak periods of the day.  Somewhat balancing this, in most states solar PV owners are also not presently paid anything for the network support that they produce during daylight peak consumption periods, which is another inequity that might be addressed by more dynamic network pricing.

Equity may be improved if a network access fee reflective of the true cost of network access was charged per connection, and then a separate fee for the actual energy used.

Regulatory barriers to more efficient electricity networks

The Commission is calling for fundamental reform of the electricity market, including a national approach to addressing the major regulatory barriers to the efficiency of electricity networks.

Some of the barriers identified by the Report include:

  • loss of focus on the needs and expectations of consumers;
  • inadequate demand management;
  • excessive reliability requirements;
  • State-based regulatory arrangements and network business ownership (State-owned networks have expanded at a much more rapid rate than those not in public hands); and
  • the insufficient resourcing of and structural arrangements for the Australian Energy Regulator.

More consumer input into decision-making

The Commission suggests consumers' needs have not been considered as they should have in the decision-making process affecting electricity networks. In order that consumer interests regain this lost prominence the Commission calls for the creation of an industry-funded representative consumer body to participate in the regulatory process.

The Commission recommends a number of reforms to achieve this including:

  • customer consultation;
  • the phased removal of retail price regulation;
  • statutory introduction of smart meters, including demand management; and
  • time-based network and energy pricing for critical periods.

It is suggested that this would ease the price pressure on customers and reduce the currently large hidden cross-subsidies from people who do not use power at peak times to those who do. The Commission is critical of the performance of State-owned network businesses and is calling for their privatisation. It also calls for the increased resourcing of the Regulator.

Is there a problem with interconnectors?

Despite contrary suggestions the Commission found that there is no evidence of insufficient capacity in the interconnectors carrying power between jurisdictions. In the view of the Commission the interconnectors are under‑utilised because of perverse incentives created by the regulatory regime. The Commissions suggests that changing the pricing rules could address these incentives.

The estimated gains from these reforms to regulation of electricity networks

The gains from suggested reforms could be significant. Estimates suggest that in New South Wales alone at least $1.1billion in distribution network capital expenditure could be deferred until the next five-year regulatory period by adopting a reliability framework which takes into account consumers' actual preferences for reliability as opposed to those assumed by current network operators.

A different reliability framework for the high voltage transmission part of the network could defer investment of around $2-$3billion across the national electricity market over the next five-year regulatory period.

Critical peak pricing would produce savings of around $100 to $250 per household each year after retaining for the cost of smart meters.

The Commission points out that in considering the benefits for consumers it is important not to blame network businesses for current inefficiencies. Mostly they are responsive to regulatory incentives and structures that impede their efficiency.

Are these critical issues for your business? Prepare your submission now. Submissions are due to the Commission by Friday 23 November 2012 and the Final Report will be going to the Federal Government on 9 April 2013.

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Clayton Utz communications are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this communication. Persons listed may not be admitted in all States and Territories.