Mostly Working: The Australian Energy Market Report

Mostly Working: The Australian Energy Market Report

High electricity prices are here to stay, according to a report released this week by the Grattan Institute which calls on politicians to disclose the whole truth about the state of our future energy market. The 62 page report outlines key changes which have taken place across the National Electricity Market in the last several years and offers an insight into the future of energy prices across Australia.

Wholesale electricity prices rose across Australia’s National Electricity Market (NEM) by 130 per cent between 2015 and 2017. The value of electricity traded in the NEM more than doubled, from about $8 billion to $18 billion. Household bills increased by up to 20 per cent in 2017 alone. Consumers are not happy, and politicians are under pressure to fix the problem. But fixes are either non-existent or complicated.

However, the report also suggests that a proposed political fix for the situation would be an empty gesture, as the problem causing the price rises is out of Government control.

The core of the price rises basically boils down to three key issues. With the closure of the Northern Power Station in South Australia which took place in late 2016, followed by Hazelwood in Victoria in 2017 the almost sudden shortfall of supply drastically pushed prices up. Although these coal-fire powered stations didn't cost a lot to operate, they carried huge maintenance bills that weren't worth paying given low market prices as a result of historic oversupply. The shortfall created by the removal of these two generating sites alone accounted for about 60 percent - or $6 billion - of the increase in the value of electricity traded in the NEM between 2015 and 2017.

Second was the price of key inputs, especially the price of gas and black coal which rose just as the plants they fuel needed them more frequently. This accounted for yet another 40 percent of the price increase in the same time period. Both of these situations remain largely beyond the control of governments; much like any sentiment driven market, the response was efficient to the changing circumstances.

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"Supply in all NEM states (Queensland, NSW, Victoria, South Australia and Tasmania) is concentrated, so a single outage, plant closure or transmission constraint can lead to a supplier having a high level of transient market power. In these circumstances, generators can temporarily force prices up."

The third issue is that of major electricity retailers 'gaming' the market, using the current market configuration to their advantage with their massive sway by creating an artificial shortfall of supply to force prices up - then magically finding resources and selling them to the market at the highest premium possible. Gaming has mainly occurred in Queensland and South Australia, but there are signs of it in Victoria since the closure of Hazelwood, and it could emerge in NSW as supply tightens with the scheduled closure of the Liddell coal-fired power station in 2022.

Currently, a market trading settlement period is 30 minutes, made up of six 5 minute trading intervals. This set up enables large players in the market to create an artificial scarcity in the first 5 trading intervals, driving the price to its upper limits and then dumping huge amounts of supply into the grid in the last 5 minutes to take advantage of these high prices.

Practices such as this may add as much as $800 million to the price paid for electricity traded in the NEM in some years.

Although gaming in the market has been happening for years, it seems to be permitted by the current market rules, a fact that AEMO - the Australian Energy Market Operator, are actively trying to phase out through the introduction of 5 minute settlement periods. This will mean that each 5 minute interval will operate independently of the previous 5 minutes, and will virtually elminate the ability to game the market in its entirity.

The report draws three conclusions in its analysis. First, wholesale prices are unlikely to return to previous levels of around $50 per megawatt hour, at least not any time soon. The combination of over-supply disappearing and gas prices remaining high will ensure prices remain high. Renewable supply will likely put downward pressure on prices, but even so, it's not good news.

Second, governments and the market operator should consider additional changes to the bidding rules to reduce the amount of gaming which is currently prevelant in the market, yet more drastic actions - such as lowering the market cap on wholesale prices or intervening in the market to break up private energy companies (as suggested in the National Energy Guarantee) should be rejected, as they create bigger problems and increase availability for market gaming.

And third, governments must provide stable energy and climate-change policy so there are clear incentives to invest when supply tightens and prices rise. Australian households and businesses could then get low-cost, high-reliability, and low-emissions electricity.

Overall though, the general message that should be taken from the report is one of education, and simply ignoring the issues, or worse, pretending they aren't issues at all, helps no one.