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The failure of electricity market reform

June 19th, 2013

As many readers will be aware, The Guardian now has an Australian edition, and I’ve just published an opinion piece in their Comment is Free section, looking at What lies behind the power price increases in Australia?. While there are plenty of factors, they are tied together by the misconceived reform of the industry undertaken in the early 1990s. Concluding paras

he free market assumptions of the reformers were simply inapplicable to a network industry like electricity, where every participant interact with one another through a distribution and transmission system that has all the characteristics of a natural monopoly. The assumption that a combination of profit-driven investment and regulation in the public interest could resolve these contradictions has proved unfounded.

Equally importantly, even though the COAG reforms coincided with the emergence of global concerns about climate change, the reform process took no account of the possibility of carbon pricing, and made no provision for renewable energy. In particular, the assumption that households could be regarded purely as consumers failed to consider the possibility of solar rooftops, or of any interactions between households and energy suppliers to promote energy conservation.

Fixing this mess will take many years. But the first step is to admit that electricity reform has been a failure, and to re-examine the whole system without any ideological preconceptions.

I’m hoping to write more on how to fix the system soon, perhaps even making a submission to the Newman government’s inquiry on the subject.

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  1. June 25th, 2013 at 20:24 | #1

    @evcricket

    Thanks for your reply.

    The graph of CPI and electricity prices on p5 is as you describe. And yes, the aspects you mention are not directly addressed in the text. However the Table on p8 shows worker number increasing from 1997 and faster from 2007 onwards.

    You say that “He Richardson dismisses the work [of the Productivity Commission] as ideologically driven”. My view is that the author actually makes a case for lower productivity, which was not made by the Productivity Commission. This is not ideology in my view. Neither does it make it political.

    In what way is this rhetorical rather than actual?

    In sum, the Australia Institute document focusses on productivity and asset servicing costs in relation to electricity prices. I don’t see how network and energy costs are part of that focus. I’d be happy for you to help me understand though.

  2. Steve
    June 26th, 2013 at 14:25 | #2

    “How many jurisdictions are going to legislate down the value of their assets? Find me just one example of a state government that owns generators taking steps to price carbon.”

    Yes, there was GGAS in NSW, d’oh evcricket!

    In evcricket’s defense though, under public ownership of electricity in the late 1990s – early 2000s, NSW Treasury and the managements of the various state-owned energy companies certainly seemed joined at the hip in NSW.

    The momentum for policies such as GGAS came as a result of the compromises made to get electricity deregulation up in the first place (just as many of the Howard Govt’s greenhouse initiatives in the early 2000s only happened because they were part of a deal to get the GST through). The voluntary emissions targets that were the pre-cursor of GGAS I think from memory were part of NSW electricity deregulation negotiating – I think they are referred to in the Electricity Supply Act 1995, which was all about introducing retail competition. I wonder if GGAS would have happened without the climate change initiatives negotiated over deregulation in the 90s, and without Bob Carr as premier?

  3. June 26th, 2013 at 14:43 | #3

    @Steve

    Yep, GGAS happened. But maybe I engaged with it differently to others, but it was a massive win in my sector. My understanding was that GGAS provided incentives for destroying GHGs. So working in biogas it was an extra revenue stream. I imagine some “gassy” mines also found it to be an extra revenue raiser. But were there penalties for emission as well?

  4. Ernestine Gross
    June 26th, 2013 at 15:08 | #4

    Carbon pricing (and the pricing of other negative externalities) and ‘competition’.

    evcricket, competition, as understood in business, means financial profit maximisation. Unless there is a carbon price (or quantity restriction, also by legislation), no business has an incentive to reduce ghg emissions. Thus, ‘deregulation’ necessitates legislation for negative externalities. You presented the argument the other way around

  5. John Phillips
    June 28th, 2013 at 15:37 | #5

    This opinion basically just refers to the facts in the electricity industry surrounding and arising from events during the 1990s and does not infer any ideology or political bias.

    In the mid to late 1990s, the State Govt restructured the electricity industry from a mostly single entity to several organisations. From the Qld Electricity Commission (QEC) to several Govt Owned Corporations (GOCs). The QEC generally covered much of the Qld population except for lower level distribution for which responsibility resided in local regional boards. At that time; we evolved to a state of affairs where only a fraction of the overall costs was embodied in the actual generation and distribution. That is the actual work and the systems required to supply power.

    This is supported by the fact that at the time the QEC was replaced by about 10 GOCs. Such as TEC, CS Energy, Stanwell Corp, Enertrade, Ergon, Group Energy Trader, Powerlink, Austa Energy (there were others)
    Upon formation, each one of these GOCs needed to have the following examples of departments. Administration, I.T., H.R., Purchasing, Legal, Finance, Planning (there are others). As a rough estimate I suppose we could look at about 10 of these existed previously within QEC. It then follows that we have gone from that number of 10 to say a quantity of almost 100 ? I am not claiming that the QEC was particularly efficient but as shown above it would have been quite lean compared to the situation today.

    The main issue is the burgeoning management resulting from these changes. Due to the multiplicity of GOCs, we not only have large replications in the number of similar functions repeated over these GOCs but also the creation of new roles. New roles such as; Boards of Directors, CEO, CFO, CIO, Trading, Risk Management, Business Development, Marketing, Sales and so forth. Salaries within upper management and to some degree within middle management are extremely high, not really supportable and a very high burden on users (the customers). Also what tends to occur is a sense of entitlement filters down through the ranks of these organisations resulting in upward pressure on wages meaning further burdens upon the consumer.
    Adding to these expenses were the costs of various infrastructures required to support the new GOCs. Such as the initial setting up and ongoing accommodation leasing of separate multiple office buildings for the staff. These offices did not exist before, were all of fairly large footprints and many within the CBD of Brisbane.

    An example in a different industry relates to AllConnex (water) which was disbanded due to the efforts of people power. At the time this was being formed it would have had all the management functions and issues similar to those I mentioned above (Boards, CEO Etc). If it had gone ahead there would have been all the costs involved in building a new Head Office edifice (I think it was on the Gold Coast). I seem to recall that certain dedicated local people caused the reversal of this decision thereby dodging an unnecessary and expensive ‘bullet’ for the residents of Redlands, Logan and the Gold Coast. I believe there was mention of; how many homes water bills would it take just to pay for the CEO salary and related expenses (I think there was mention of over a thousand homes).

    If one took yet another industry to compare; it would be Australian Telecommunications. When this industry was initially restructured in the 1980s; the “Rest of the World” was invited to enter and offer to compete. That is; compete against the single entity named Telecom Australia (as it was known as then). The result was the emergence of such Optus, AAPT, Vodafone etc. I think the overall population of Australia is about 5 times that of Queensland. It would have been a ludicrous situation to first break up Telecom Australia into multiple organisations. If similar had been done as in the Queensland Electricity Industry break up there could have been almost 50 Telecom Australia Corps.

    One other issue to add relates to reduced leverage and loss of economies of scale for expense inputs from service providers and suppliers. An example is the supply of Telecommunications Voice and Data Services. The QEC had a much higher capability in this regard than several small corporations. During the 1990s these kinds of expenses were being driven down through negotiations and leverage available only to a larger entity. These sorts of savings also filter through to end users. Telecommunications providers took advantage of the electricity industry break up to target the new entities individually thus increasing their overall revenues .

  6. John Phillips
    June 28th, 2013 at 15:49 | #6

    Further to my previous post on the Queensland electricity industry

    This time in relation to all the Electricity Retailers.

    One would also consider the above issues to be problematic also. That is
    - burgeoning management due to multiplicity of similar functions
    - creation of new roles such as; Boards of Directors, CEO, CFO, CIO, Trading, Risk Management, Business Development, Marketing, Sales and so forth.
    - Salaries within upper management and middle management
    - sense of entitlement down through the ranks
    - costs of various infrastructures required to support and ongoing accommodation of separate multiple office buildings

  7. July 2nd, 2013 at 13:07 | #7

    Here’s an interesting article on regulatory assumptions, interest rates, windfall gains and the temptation to overstate anticipated demand.

    http://www.businessspectator.com.au/article/2013/7/2/energy-markets/declining-demand-rising-prices-–-there-something-wrong

  8. Nathanael
    July 2nd, 2013 at 13:58 | #8

    Electricity “deregulation” (so-called) worked in New York State in the US, perhaps the only place it has worked.

    It worked because it was actually a giant web of even-stricter-than-before microregulation.

    It is not “deregulation” in anything but name. What it is is a system where endusers get to “vote with their dollars” regarding who will be paid to produce electricity, with a giant regulation board overseeing the whole thing.

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