The predictable, and predicted, failure of electricity market reform

David Blowers from the Grattan Institute has a piece in The Conversation (also on the ABC) headlined A high price for policy failure: the ten-year story of spiralling electricity bills. It’s not bad, and is notable for the observation that

History may judge the introduction of competition to the retail electricity market as an expensive mistake.

I don’t think we need to wait for history; in fact, we didn’t need to wait until 2017.

Most of the problems that have subsequently emerged were evident when I first addressed this issue in a paper in 2001., published in the Economic and Labor Relations Review

Here’s my conclusion

The National Electricity Market is still developing. Some problems that have emerged in the early stages such as the disparity between the substantial price reductions for large customers and the largely unchanged prices paid by households will fade away as the market matures. Other issues such as the structure of the industry and the degree of horizontal and vertical integration will be resolved by a mixture of market processes and regulatory interventions.

Some problems, however, are likely to become more rather than less acute. The Australian National Electricity Market commenced operation in a period of oversupply so that problems of market power and excessive prices have not emerged until recently. It remains unclear whether an electricity auction market can produce adequate incentives for investment while generating appropriate prices for consumers. Similar problems are emerging in relation to the regulated monopoly component of the industry, the transmission and distribution sector. Regulators must set prices that do not reward inefficiency or allow monopoly profits, but nevertheless provide appropriate incentives for new investment. This is a delicate balance.

In the longer term, the problem of the environmental impact of an industry relying predominantly on carbon-based fuels remains to be addressed. A market solution would involve the creation of emissions credits that could be traded along with electricity in national markets. Although limited steps have been taken in this direction, much remains to be done.

18 thoughts on “The predictable, and predicted, failure of electricity market reform

  1. Privatisation almost inevitably leads to price rises greater than inflation. I guess this is because privatisation is usually linked to natural monopolies which are turned into private monopolies or oligopolies which then work to capture extra economic rents for capital. I can think of power, water, trains, airports, communications, hospitals, health insurance and health schemes (to name the main ones). Even banks to some extent.

    We clearly need an extensive program of re-nationalisation in these fields.

  2. The problem stems from the government in charge of the privatisation being driven by the headline price they can achieve for the sale without considering the longer term costs. Hence when a premium is offered by a potential buyer to “protect their investment” and keep the virtual or real monopoly in place, invariably the government folds. I am thinking Telstra here where anyone with knowledge of the industry could see that it should have been broken into retail and wholesale but the sum of those two parts weren’t as great as the whole, which remained a virtual monopoly. The problems created would be down the track and most likely someone else’s, meanwhile we have the sugar hit of an extra billion dollars. @Ikonoclast

  3. The piece lacks international context. Eyeballing the chart here of real UK residential electricity prices (****exeoenergy.co.uk/why-install-solar-panels/), the increase has been about 40% over almost twice as long. That includes nuclear costs, which Australia sensibly avoided. Deregulated residential prices in Texas rose by about the same over two decades, but fell in the last one (***tcaptx.com/reports/snapshot-report-electricity-prices-texas-july-2017).

    These two markets are the poster children for well-run deregulation, and the results seem acceptable. Australia screwed up its deregulation, like California, leading to a mess.The big difference seems to lie in the necessarily regulated transmission grid; Australian regulators placed a big bet on rising demand, which turned out wrong. Since it is possible to get deregulation right, the case for reregulation on CEGB/EDF lines has not been made.

    The image in The Conversation article of solar panels sited in the shade is another striking example of upside-down Australian engineering genius at work – if it’s true, which I doubt.

    A plea for more information on India, which deregulated electricity in 2003. The performance since has been mixed, with the unbelievable (>300 million affected) world record power cuts of 2012. The generation market has allowed a bubble investment boom in coal generation, now bursting. However, China’s coal bubble, steered by technocrats, is ten times the size.

  4. Privatisation almost inevitably leads to price rises greater than inflation.

    Governments need buyers to privatise, and the buyers are only there for monopolies: if the thing the government wants to sell won’t end up as an abusive monopoly, then that means the sector must have low barriers to entry and in that case the buyers will set up from scratch rather than buying.

    [I’ve said it before, but all profit is rent: a profitable industry worthy of further investment ipso facto must have significant barriers to entry or it wouldn’t be profitable. “Tragedy of the commons” applies just as much to markets, to customers and access to same.]

  5. “David Blowers from the Grattan Institute has a piece in The Conversation …..It’s not bad,…”
    I thought several of the comments were better than the article.

  6. @James Wimberley

    James – if deregulation gives you 40% rises however done, why de-regulate? Governments can borrow more cheaply, and if a technology shift is needed for policy reasons, they don’t have to bargain with or coerce multiple players to get it done. It wasn’t broke, so the fix was a solution looking for a problem.

  7. “I warned you! I warned you, but did you listen to me? Oh no, you knew it all, didn’t you? Oh, it’s just a harmless market based reform, isn’t it? Well, it’s always the same. I always told them, but do they listen to me? Oooh, no…”

  8. @Peter T
    “It wasn’t broke, so the fix was a solution looking for a problem.”

    Well there certainly was a problem and a big one – basically, six uncoordinated networks that need to be joined up and managed as one, whether that management was by central planning or a market mechanism. Its just that the fix was wrong because it tried to fix several other problems at the same time – some of which (eg the lack of retail competition) weren’t much of a problem at all.

    I’m not a big fan of privatising utilities, but of the several interacting factors making this particular mess I think private vs public ownership is about the smallest. The biggest single one was the projection of continuously growing demand, especially for “baseload” power. That was always going to cause trouble for whoever invested in the various bits – shareholders or taxpayers. And it was always consumers who were going to ultimately wear the cost of that trouble.

  9. @Peter T
    The Texas deregulated market allowed the rapid deployment of huge amounts of wind energy and a quick phaseout of coal. It also stopped silo utilities from putting up roadblocks to the transition, as has happened in old-model Arizona and Florida, among others. The UK grid has gone effectively coal-free. The performance on costs has been less impressive, but overall the performance is not bad. My beef with JQ is that he ignores it.

  10. @James Wimberley

    I haven’t made a general claim that deregulated (or rather, differently regulated) electricity markets can’t work, just that the Australian market doesn’t. More on this, if I get some time.

  11. @Peter T
    The 40% (eyeballed) in Texas and the UK was over twice the time than in Australia, so the effective rate of increase was half. If you take out the transmission hike, the increases in other costs in Australia don’t look out of line with international benchmarks. It was one big bad bet.

  12. Solar power and storage (micro, meso and macro) are changing the market in complex ways. It’s probably hard now to know what the best public / private setup would be for the future. Will the gold-plating in long distance transmission lines be a good investment? I mean to move power inter-regionally to give supply stability of renewable supply. Or will this investment prove redundant if regions come to supply most of their own power, back-up and storage? It’s a question of how distributed the new system(s) will be.

    How does one make policy in a rapidly changing environment where whole paradigms (for want of a better word) are changing? Instead of governments trying to predict winners, perhaps they should try to stick to the fundamental principles of social democracy in this context:

    (1) Assistance to the poor in the matter of renewable energy.
    (Best arena for subsidies to renewables?)
    (2) Phased removal of perverse subsidies for fossil fuels.
    (3) Retention of natural monopoly rights for the state (and thus for all the people).
    (4) The state to take the risk that some natural monopolies might collapse.*
    (5) A fair market within the above parameters.

    * This seems fairer than the state flogging off natural monopolies and then changing the game (regulations) to make such businesses go bust. IMO, it wouldn’t do social democratic government any good to adopt this type of deviousness.

  13. I’m not seeing any evidence that deregulation as such was any better a technical or policy solution than a state monopoly. “Six grids managed as one”? Then make them one. Electricity management (stability, voltage control etc) is and always has been a technical issue, to be managed by engineers. Managing it by calling for bids in a state-dictated “auction market” is financial kabuki.

    Rapid transition to wind power? Preventing silo owners putting up roadblocks? States (or, in the US, state-subsidised and state-controlled utilities) rapidly built all sorts of electricity infrastructure. If given the money and told to do it, they can rapidly transition to another kind of infrastructure.

    State management has its own problems, but they are not technical ones, or political ones masquerading as technical ones.

  14. Pardon my ignorance, but do we yet have demand-responsive variable pricing – you pay more to use your air con on a really hot day than on a mild day, because that contributes more to the cost of providing infrastructure for peak demand. How important would that be?
    It’s really annoying that I pay more to support the peak load infrastructure because other people have chosen to live in badly designed houses that need lots of air-conditioning.

  15. “because other people have chosen to live in badly designed houses that need lots of air-conditioning.”

    replace all words after “because” with “are poor”.

  16. Peter T: I was thinking of design elements like aspect, eaves, insulation, through ventilation.
    I doubt that they’re a deal-breaker in context of the total cost of home-buying. It’s more a matter of could you be bothered thinking about them.
    The folk who buy enormous no-eaves hot boxes at Rouse Hill and then complain about the price of electricity deserve some sympathy as victims of the whole mediocre property development system, but otherwise they’re not high on my list of the deserving poor.

  17. “The Poor” in this are excuse and justification by people who are very much not poor to not have to reduce their extravagant wastefulness, not by one iota. Like it’s an outrageous burden for people with – by any objective standards – extraordinary prosperity to pay a fraction of a percent of what they waste towards anything as ephemeral as long term climate stability. Passing over entirely their own continuing contributions to climate instability as much – more so – than that of the collective whole. “The Poor” are the excuse and justification for people who are not poor to massively expansion of coal extraction and export, to slow the growth of renewable energy, to gain unfettered access for Coal Seam Gas frakkers, etc.

  18. “The folk who buy enormous no-eaves hot boxes at Rouse Hill” all bought before we had either BASIX or dear electricity. You can’t buy a new no-eaves hot box at Rouse Hill or anywhere else now, and even bogan buyers are generally cost-conscious enough that they wouldn’t if they could.

    Of course people can and do buy new houses that are badly designed and sited in other respects, as they always have, but I reckon a lot of the sneering these days at “McMansions” by inner-city types is just simple snobbery. Those who pay a motza for air conditioning these days generally live in older houses – ironically, often in trendy inner suburbs.

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