Energy Initiative Blogs

Australia’s Price of Energy: A Deregulated Grid

by Elizabeth Kocs | Jan 28, 2015

Reposted from las493energy, authored by charlestyr.

Australia has been a leader in energy policy over the last few decades, with results that may show how a future grid with distributed renewable generation may look. Australia had deregulated its electricity market in 1998 and was early to impose carbon pricing in 2012. From 2007, the price of energy in Australia has risen faster than in other developed countries (Fig. 1, 2). This creates what may be a competitive pricing challenge for the grid, but also an opportunity to explore further deregulation.

Figure 1: Relative Electric and Gas Prices.

Figure 1: Relative Electric and Gas Prices.

Figure 2: Household Electricity Prices by Country.
Figure 2: Household Electricity Prices by Country.

The increased electric bills have altered consumers’ and businesses’ behavior. The cost of energy led consumers to practice conservation and invest in alternative generation, particularly solar panels. Businesses invested elsewhere to avoid excessive energy costs, especially in energy intensive manufacturing, such as aluminum smelting. This has led to an immediate major challenge to the grid: the diminished demand has led paradoxically to higher prices, in opposition to conventional market theory (Fig 3).

Figure 3: Eastern Australia Electricity Demand.

Figure 3: Eastern Australia Electricity Demand.

The electricity market may be divided into four components: generation, transmission, distribution, and retail. The generation component was deregulated in 1998 creating a wholesale market for energy. This market has been operating efficiently, matching generators to consumers. The transmission and distribution sectors are natural monopolies, with infrastructure that cannot be efficiently replicated to create a competitive environment. The transmission deals primarily with moving electricity around the grid, while distribution is the network that delivers the electricity to end users. Both are governed by a fixed rate of return. It is impossible to set this rate exactly correctly, and a figure too high will lead to wasteful spending, while too little will lead to service disrupting neglect. Retailing to the end user provides consumers with services, such as meter reading and marketing.

The increasing prices have led to an array of accusations: A strengthening Australian dollar; higher gas prices from exports; carbon pricing. The failure of these arguments will be discussed in the comments due to the length requirement. In fact, the grid is suffering a feedback where the set rate of return on capital continues to push prices higher, decreasing demand, and distributing that cost of capital across less units of energy (Fig 4).

Figure 4: Electricity Consumption and Unit Costs of Network and Wholesale Power

Figure 4: Electricity Consumption and Unit Costs of Network and Wholesale Power

To break the cycle, the capital must be written down, but because it has already been built, one of three parties will absorb the cost: the networks, the users, or the government.

The challenge is that the grid must now compete with distributed production, whilst supporting its vast infrastructure. The final paper on deregulation explores whether proper market efficiencies would make the grid more competitive. Australia already has a well-functioning wholesale market. An interesting solution to the problem of distribution is to sell end users capacity, rather than metering distribution, and allow it to be tradable. The hope is that end users, especially large ones or communities, will invest in distribution capacity and share loads in such a way that peak usage declines. It’s possible that the future grid just won’t be competitive or will need a different pricing model.

Electricity Prices in Australia: An International Comparison; CME; Melbourne, Australia; March 2012. INTERNATIONAL-PRICE-COMPARISON-FOR-PUBLIC-RELEASE-19-MARCH-2012.pdf

Energy prices—the story behind rising costs; Kai Swoboda. 

The 2014 John Freebairn Lecture in Public Policy: Resolving Energy Policy Dilemmas in an Age of Carbon Constraints; Ross Garnaut, Professorial Research Fellow in Economics, The University of Melbourne, Melbourne; 20 May 2014.

Why electricity prices continue to shock people