Neither up nor down

I’ve had the unusual experience of being cited as an authoritative expert* by both the Oz and AFR this week. Unfortunately, the Oz got the story wrong, and the AFR report, while correct on a careful reading, is misleading. The issue is the impact of electricity privatisation on power prices.

Direct comparisons suggest that consumer prices don’t differ much between NSW and Queensland (with public ownership) and SA and Vic (with privatisation), though SA is highest.

The advocates of privatisation have focused on distribution charges, showing in the process that they don’t understand the National Electricity Market reforms they and their ideological allies pushed through in the 1990s. Under the system of regulation, distributors are allowed to charge a price sufficient to cover their “efficient costs”, which are determined in large measure by benchmarking against other distributors. So, if private firms are more efficient than public firms, that should have no effect on regulated distribution charges, only on relative profitability. **

As the AFR and Oz both gleefully pointed out, that analysis contradicts what they called Luke Foley’s “great lie”, that prices will rise if privatisation takes place. Unfortunately, it also contradicts the equal and opposite lie, that prices will fall if privatisation takes place. The AFR gives a misleading headline, but is correct in the body of its report, saying “The prices charged by the government-owned NSW network companies will go down – not up – whether or not they are leased out to private operators.” That contradicts Foley’s claims, but also the opposite claims made by the Liberals.

I look forward to the AFR and Oz correcting this error and presenting the correct analysis (only joking!).

More seriously, I’m hoping to do a proper analysis of electricity prices and why they have risen so much under the NEM, contrary to the predictions of the micro reform lobby of which both the Oz and the Fin are part.

* Of course, I was cited in an “even the liberal New Republic …” way. The AFR noted, reasonably enough, that I was opposed to privatisation. The Oz went full-on as only the Oz can do, reprinting some of Michael Stutchbury’s hit piece, written for them before he jumped ship to the Fin. Since this piece earned me a very nice write up in the New York Times, I guess I can’t complain.

** Disclosure: I was for some years, a member of the Queensland Competition Authority, which regulated distribution charges. I’ll write more about this, if I get time.

30 thoughts on “Neither up nor down

  1. JQ,

    Under the system of regulation, distributors are allowed to charge a price sufficient to cover their “efficient costs”, which are determined in large measure by benchmarking against other distributors. So, if private firms are more efficient than public firms, that should have no effect on regulated distribution charges, only on relative profitability.

    Isn’t the theory that if the private firms lower their costs, they get a short term profit, but that these lower costs eventually causes the benchmark to be lowered? This would mean that profitability is increased only in the short term, and in the long run the charges are lowered. Distributors that fall behind and fail to keep up with efficency improvements eventually start to loose money, or not make sufficient money as to become attractive to buyers who feel they can make the improvements. That is, it’s attempting to simulate the process of the market.

    The real problem I see isn’t so much with the theory, but with the practicalities of the benchmarking process. The benchmarking process is largely a theorical exercise of constructing a hypothetical competitor. This is coupled with the fact that the institutional barriers between distributors and regulators create a bottleneck for information and understanding about the real and current costs of operating a network. The result is a process that is vulnerable to manipulation by the distributors through selective information and accounting tricks. The end result is that distributor profitibility relies at least as much on (collectively) gaming the regulator (and hence overcharging the consumers in its captured market) as it does on efficient network operation.

    In the end it seems like an effort to shoe-horn a market based solution into an economic sector where market solutions really don’t fit (i.e. natural monopolies).

  2. @Uncle Milton
    I am a little ignorant of the regulatory system but it was my understanding that the rules provide a massive incentive for investment in the electricity infrastructure because the investors are effectively guaranteed a return, in effect by increasing their investment regardless of actual need they increase their profits and get a return that compares well with other alternative uses for their money. Hence the massive increases in the network costs to the consumer.

    Another point to consider is what we mean by being more efficient. It is not just about costs per KW/hr but also relates to occurrences of outages and how well the community is served in areas of low population density.

    I look forward to JQ’s analysis in the future.

  3. @Hermit
    That link to the project is dated 8th January 2015, three weeks before the election was held and the LNP was the government. It is better to accuse people of things they have actually done when they’ve done it. Making things up does not help the environment. Cancelling of previous contract can be extremely problematic. Ask the Victorian government.

  4. @Gabrielle

    New governments should always be able to cancel contracts entered into by previous governments albeit with just compensation. At the same time, the courts should throw out “onerous and odious contracts” written with undue artifice and the intent to trap future governments and thwart the will of the electorate.

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