Skip to content.

Home

Allens

Focus: Energy – December 2002

Energy market review final report

In brief: The COAG Energy Market Review Panel released its final report, Towards a Truly National and Efficient Energy Market, on 20 December 2002. Partner Grant Anderson (view CV) looks at the main areas in which the final report differs from the draft report. (We examined the draft report's principal recommendations in a Focus: Energy in November).

Introduction

The COAG Energy Market Review Panel (the Panel) released its final report on the strategic direction for energy market reform in Australia on 20 December 2002. This review generated considerable interest: it received more than 250 submissions, 100 of these being in response to the draft report. The final report does, however, note that many of these submissions were received after the (very tight) 6 December deadline for comments on the draft report, and that '[i]n view of the short time available to finalise [the final] report, the Panel has not been able to assess in substantial depth all of the submissions received after the due date'.

The final report contains the same key findings as those set out in the draft report and most of the draft recommendations have been retained, albeit with some refinements. The main areas in which the final report differs from the draft report are described below.

Return to top

Single regulator

In its draft report, the Panel proposed the establishment, under Commonwealth legislation, of a National Energy Regulator as an independent national specialist regulator to take over:

  • the regulation of the electricity and gas transmission and distribution access regimes that are currently administered by the ACCC and the various jurisdictional regulators;
  • the electricity and gas licensing functions that are currently undertaken by the jurisdictional regulators (including the development of associated consumer protection codes);
  • the role of NECA in enforcing the National Electricity Code; and
  • the role of the National Competition Council and the Commonwealth in deciding on pipeline coverage under the Gas Code.

In its final report, the Panel has maintained its support for the creation of a National Energy Regulator. However, it has now recommended that the regulator be established 'under a legislative approach agreed by COAG'. This legislative approach could take the form of:

  • uniform legislation enacted by each jurisdiction, as in the case of the old State uniform Companies Acts;
  • lead legislation enacted by one jurisdiction and applied through application legislation in other jurisdictions, as in the case of the National Electricity Law (where South Australia is the lead legislator); or
  • Commonwealth legislation that is enacted following a referral of powers from the States and Territories to the Commonwealth, as in the case of the current Corporations Act.

Whichever method is adopted, the principal objective remains the same: a single national regulator rather than separate jurisdictional regulators. This is a politically controversial recommendation that has already provoked a strong response from the States. While highly laudatory, it may be short-sighted to close off other options. For example, providing that licensing conditions are rendered consistent between jurisdictions (with due regard for any necessary jurisdictional deviations), there is no reason why the resultant licensing system could not be administered and enforced by separate jurisdictional regulators as this would not entail the exercise of much discretion. The main task in this regard will be to achieve a high degree of uniformity between licence conditions - this is likely to involve considerable debate between the jurisdictions as well as with industry participants, not least because it will raise issues of the policy behind various licence conditions and because it will entail changes to existing licence conditions (which may have cost implications for industry participants). Similarly, distribution pricing could remain with the jurisdictional regulators, with the necessary uniformity being introduced through a legislatively enshrined common set of pricing principles and a mechanism for appeal to a single body (such as the National Energy Regulator) in the event of a party being dissatisfied with the price review. This would enable any real jurisdictional differences to be addressed by the jurisdictional regulators, with uniformity in approach being assured by a common appellate body.

In any event, the magnitude of introducing uniform regulatory requirements and practices among the jurisdictions should not be underestimated, as there is a range of different jurisdictional approaches to a variety of disparate matters such as inset network regulation. Accordingly, a comprehensive review needs to be undertaken as to those matters in which uniformity between jurisdictions is desirable (or achievable) and the costs of attaining such uniformity.

Interestingly, the Panel has also backed away from its previously strongly expressed view that the National Energy Regulator should be a specialist (rather than a general) regulator, stating that:

The Panel's view is that the most appropriate approach is for the National Energy Regulator to be a separate energy sector-specific agency. Others have advocated a single energy regulator located as a specialist arm of a generalist economic regulator. This is an issue to be resolved by COAG in the implementation of the proposal.

This follows criticism of the specialist regulator approach by the ACCC and the floating by Minister Macfarlane of an alternative regulatory structure that would see the functions of the National Energy Regulator largely carried out by a separate legal entity within the ACCC (the Australian Energy Commission). However, any further centralisation of energy market regulation in the ACCC is unlikely to enthuse the jurisdictions who are already wary of the ACCC's growing influence.

Finally, under the final report's recommendations, the National Energy Regulator would assume some further functions in addition to those recommended in the draft report, in particular:

  • the National Energy Regulator would monitor compliance with the National Electricity Code and would also adjudicate disputes on implementing changes to the National Electricity Code - under the draft report it was NEMMCO that was to be responsible for monitoring and investigating possible breaches of the National Electricity Code; and
  • the National Energy Regulator would have responsibility for setting technical standards for the planning, design and operation of those elements of the power system that are material to power system security (thereby subsuming the functions of the National Electricity Market Reliability Panel) - this power is to be exercised independently of NEMMCO, albeit with NEMMCO's input, and will involve liaison with the relevant jurisdictional technical regulators (eg in relation to the setting of distribution connection standards).

Return to top

Changes to the National Electricity Code

In its draft report, the Panel proposed that changes to the National Electricity Code would be put forward by a NEMMCO-supported standing committee, which would be responsible for undertaking industry and user consultation in relation to the proposed changes. However, the draft report also suggested that, because of its role as network planner and market operator, NEMMCO should be able to bring forward Code changes of its own accord.

In its final report, the Panel has revised (and reduced) NEMMCO's proposed role in changes to the National Electricity Code. It has instead recommended the establishment of a statutory end user and industry committee (the National Electricity Code Change Committee), which alone would be responsible for developing and sponsoring changes to the National Electricity Code. The members of the committee are to be appointed by the Ministerial Council on Energy and are to include both end user and industry representatives. Moreover, the committee is to be supported in its role by ad hoc end user and industry committees. While NEMMCO would provide the committee with administrative and analytical support, NEMMCO would not have the power to veto the submission to the National Energy Regulator of changes to the National Electricity Code that are proposed by the committee (although NEMMCO could refer committee-recommended changes back to the committee if there has been inadequate consultation on them). However, NEMMCO would still be required to advise the National Energy Regulator of its position on each proposed change.

These are sensible recommendations and will result in more uniformity between the National Electricity Code and Gas Code change processes.

Return to top

Price signals

While the Panel has maintained its support for the abolition of the NSW Electricity Tariff Equalisation Fund (ETEF) and Queensland's Benchmark Pricing Agreement (BPA), as well as the introduction of full retail contestability in all markets and the removal of retail price caps, it has sought to diffuse some of the political tensions that those recommendations have caused in two ways.

First, the Panel has made it clear that the abolition of the ETEF and the BPA can be undertaken independently from the removal of retail price caps, noting that the abolition of these schemes should occur as soon as possible and irrespective of whether retail price caps are removed. The imminent abolition of the ETEF and the BPA is considered necessary to address the illiquidity of the financial contracts market and also to provide clearer signals as to when retail price caps are so low as to be a disincentive to new generation investment.

Second, the Panel has allowed a 'grace period' for the removal of price controls, and the introduction of full retail contestability, stating that these measures should be introduced 'as soon as practicable, but in any event within the next three years'. In doing so the Panel is clearly motivated by political sensitivities. As the final report states:

The Panel accepts that jurisdictions will want to pick an appropriate time to introduce [full retail contestability] and remove all price caps. In the immediate short term these are politically sensitive issues. Nonetheless, the Panel sees their removal as inevitable.

The final report then considers ways in which the distortionary impact of price caps can be minimised pending their removal. In this regard, it suggests that the jurisdictions should set any price caps 'based on the bilaterally negotiated contract rates secured by each affected retailer and the other costs reasonably associated with retailing electricity'. It also suggests that price caps should be set by time of day and season. The purpose of this approach is to avoid retailers being exposed to unmanageable risks. However, this presumably means that end users would correspondingly be exposed to such risks and, to this extent, to at least some of the volatility of the spot market. Moreover, this approach will entail considerable complexity because retailers' bilateral contract positions are likely to vary over time and to differ from each other. Clearly one of the motivations for the Panel's proposed approach is that it would reduce the need for the ETEF and the BPA and therefore support the Panel's call for their abolition.

The Panel has also strengthened its recommendation that interval meters be rolled out to all contestable customers over the next 5-10 years by including a cost benefit analysis. This analysis, which draws on work undertaken by the Victorian Essential Services Commission, indicates that the cost of introducing manually read interval meters is likely to be 'modest' (ie 'in the order of' $30 per annum for most consumers).

Return to top

Generator market power

The Panel has dropped its draft recommendation that Queensland's generators should be further disaggregated (although it has retained this recommendation in relation to NSW's generators). No reason has been given for this except that the final report no longer contains, as a key finding, that the structure of the generation sector in Queensland possibly does not support competitive outcomes. Some support for the Panel's approach may nevertheless be found in the fact that Queensland's four publicly owned generators account for 84% of the State's capacity and there are at least two other privately-owned generators in that State that are not insubstantial. By contrast, in NSW the three publicly-owned generators account for 95.4% of that State's capacity.

The Panel has nonetheless maintained its recommendation that governments that own generation assets should pursue a program of divestment, with a view to completely exiting the market or at least reducing ownership to a single generator. However, even this recommendation has been watered down, with the final report stating that:

...divestment of government-owned generation is less important provided the full package of proposed measures are implemented, given their potential to address stakeholder concerns by substantially improving governance arrangements, strengthening generator competition, increasing inter-regional trade and underpinning efficient financial risk management.

Return to top

Electricity transmission regulation

The Panel's principal recommendations relating to electricity transmission regulation (as outlined in our November Focus: Energy) have remained intact. However, it is interesting to note that there is a change in emphasis in the role of the National Energy Regulator in this regard. In the draft report, it was stated that '[s]ince NEMMCO has no financial interest in the outcome, the [National Energy Regulator] need only check the basis of the relevant calculations [in determining whether to approve a transmission augmentation]'. In the final report, this statement has been deleted and there is express reference to NEMMCO's activities as the issuer of financial transmission rights (FTRs) being monitored by the National Energy Regulator. This may be the result of some industry concern about NEMMCO's enhanced powers under the proposed regulatory changes.

The final report also states that the test for assessing reliability investment should be unchanged for both inter and intra-regional transmission investments (although NEMMCO would now be responsible for managing the process and submitting proposals for change to the National Energy Regulator). This clarification of approach is due to the (entirely proper) realisation that exclusive reliance on FTR price signals or a commercial regulatory test might not deliver sufficient investment from a reliability or system security perspective.

Return to top

Financial contracts market

The Panel's principal recommendations relating to the electricity financial contracts market (again as described in our November Focus: Energy) also remain unchanged. However, in addition to the general recommendation that the assessment of any proposed change to the National Electricity Code should explicitly consider the impact of the change on financial markets, the final report also recommends that future reviews of the appropriate level of the Value of Lost Load (VoLL) should take full account of the impact on contract premiums, contract availability and access to prudential cover.

Return to top

Gas

In its final report, the Panel has made it clear that only new transmission pipelines are to be given the option of the previously proposed 15-year price regulation holiday. (This holiday is only to be available where certain conditions - namely, sufficient vertical separation of ownership of the pipeline from upstream and downstream market participants, the publication of access tariffs and the pipelines' capacity being fully tradeable - are satisfied). One of the reasons given for providing this option to new transmission pipelines (as opposed to new distribution pipelines) is that there are difficulties in differentiating a greenfield distribution system from an augmentation or extension of an existing distribution system.

The final report also differs from the draft report by providing that joint venturers must (for informational purposes only) notify the ACCC (rather than the National Energy Regulator) of all future joint marketing arrangements, and that it is the ACCC which is to assess the feasibility of separate marketing when considering any authorisation (it being acknowledged that there are circumstances in which separate marketing is not practical). The draft report's proposal that these roles be conferred on the National Energy Regulator was always rather strange given the ACCC's role in the authorisation process. However, in assessing proposed future joint marketing arrangements, it is contemplated that the ACCC would liaise with the National Energy Regulator to ensure that it has the benefit of the regulator's detailed industry knowledge.

In its draft report, the Panel recommended that acreage management regimes should include 'promotion of competition' as one of the criteria for allocating acreage. This recommendation has now been refined to apply only 'where there is a reasonable prospect of a commercial gas discovery'. This is a test that is bound to be difficult to implement in practice, but the final report simply suggests that industry consultation should be undertaken in respect of it to ensure that the principles of competitive work program bidding are preserved.

Return to top

Greenhouse gas emissions

One of the major areas of further work covered by the final report is in the area of greenhouse gas emissions, where the Panel has responded to some of the more serious criticisms levelled at its recommendations in the draft report. In particular, in its final report, the Panel has stated that:

  • the Panel's proposed economy-wide national emissions trading scheme should achieve the same level of emission reductions as the Commonwealth and State greenhouse gas abatement measures that it is intended to replace;
  • investments which have been made under the measures that are to be replaced should continue to receive the effective subsidies that they currently receive under those schemes so as not to adversely affect the return on those investments (the final details of these grandfathered payments will need to be developed in parallel with the proposed emissions trading scheme so as to minimise overlap); and
  • energy-intensive users in the traded goods sector, ie those whose energy costs are a significant component of their total production costs, should be exempted from the proposed emissions trading scheme until Australia's international competitors introduce similar schemes - this exclusion is considered necessary to avoid damage to the Australian economy but, in order to minimise the environmental impact of the exclusion, the Panel has proposed that such exemptions should only be granted if these users meet world's best practice in relation to energy use.

Having made these refinements, it is the Panel's view that any further subsidies of the renewable energy industry should be achieved outside the energy market so as to avoid the distortionary effects of such subsidies.

According to analysis commissioned by the Panel, its proposed emissions trading scheme would have a smaller adverse impact on Australia's real GDP, and result in a lesser increase in the average wholesale electricity price, than the existing stationary energy greenhouse gas abatement measures. In particular, the scheme is expected to result in a real increase in GDP of $1.267 billion in five-year net present value terms to 2010.

Return to top

Benefits of reform

Analysis commissioned by the Panel estimates that, assuming full implementation of all its proposed reforms (other than the new emissions trading scheme) by 2005, Australia's real GDP would be increased by $1.975 billion per annum for the period 2005-2010 (representing a real increase in GDP of around $7 billion in five-year net present value terms to 2010). The single largest contribution to these benefits ($2.3 billion) is expected to be the Panel's demand side management initiatives (ie demand reduction bidding, the installation of interval meters and the implementation of full retail contestability). However, given the limited success of demand side management initiatives to date, it would not be unreasonable to treat the magnitude of this claimed benefit with some caution. In addition, the Panel's reforms are expected to reduce retail electricity prices by between 12.1% and 14.4%, wholesale electricity prices by between 8.8% and 11.4%, and gas prices in the eastern states by 9%.

If these benefits are achievable then they will indeed provide a significant incentive for political agreement on the recommended reforms. The political will for reform will no doubt be revealed when the COAG Energy Ministers meet to consider the final report on 11 April 2003.

Return to top

Conclusion

The COAG Energy Market Review Panel's final report confirms the far-reaching recommendations to reform Australian energy markets that were contained in its draft report. Accordingly, it can be expected that the vigorous debate prompted by the draft recommendations will continue between governments, industry participants and energy consumers.

We will continue to monitor and report on the progress of this debate. If you would like any further information, please do not hesitate to contact any of the people listed below.

Return to top

For further information, please contact:

Return to top

Share with

What are these?

 

 

Recent Energy publications