Energy economic policy: The rise in energy prices

Energy policy and the economics behind power prices has been the most contested political issue over the last decade in Australia. As Canberrans and ANU students receive their astronomical winter power bills, we see the same issue become instrumental in yet another Prime Minister being deposed. Why is it so hard for policymakers and economists to find a resolution to Australia’s ever-increasing power costs?

According to the Clean Energy Council, power prices have increased by 109% in the NSW/ACT area over the past decade. In 2016, the ACCC stated that only 22% of a person’s electricity bill is made up of the actual power generation costs. However, the wholesale power increase in the past two years has been the predominant cause of more recent power price hikes.

Since 1998, power has been supplied to 80% of households in Australia through the National Electricity Market. It is a wholesale market which connects electricity generators to energy retailers, who then in turn distribute to businesses and households. The market determines a ‘spot’ or ‘equilibrium price’ that reflects the physical demand and supply in the marketplace. This is a critical price signal for the financial market, made up of generators and retailers. It’s where contracts are exchanged on a minute-by-minute basis, which ends up determining the end price that is passed onto the consumer.

Demand and supply factors in the energy market can explain why prices have increased over the last decade and shown no signs of abating. Australia’s ever-rising population, coupled with the increased rate of homes with power-intensive air conditioning and heating systems, have placed a demand strain on the market. Think of the 40-degree summer nights, or the -5 Canberra winter evenings: these see a nightly peak in energy demand, causing the spot in the wholesale market to spike, and this is eventually passed onto households via the quarterly power bill.

However, where energy prices and economics collide with politics, is on the supply side of the market. Simply said, over the past decade Australia has not been able to provide affordable enough ‘dispatchable’ energy to keep up with the rising demand. This is primarily due to three factors. Firstly, the price of gas in Australia has risen by over 100% in the past decade, mostly due to increased exporting overseas of natural gas by domestic producers, which in turn has reduced the overall supply of gas within the Australian marketplace. Secondly, the closure of major ageing and old coal plants in South Australia and Victoria has caused an overall reduction in the total productive capacity of energy available in Australia. And thirdly, the contested political environment and multiple government schemes that have come and gone over the decade have resulted in a terrible commercial environment for business. Fossil fuel and renewable projects have a 30 to 50-year project time frame, and without the medium term certainty business was unable to make up for the supply shortfall that has been occurring.

The latest attempt to provide policy certainty was in the form of the National Energy Guarantee (NEG). The policy aimed to both legislate the Paris emissions reduction target of 26-28% while providing the framework and certainty required for new supply to be generated into the energy marketplace in a technologically agnostic way by investors. According to ACCC statistics, 7% of a household power bill is made up of the costs from environment schemes such as the renewable energy subsidies and the Renewable Energy Target. A significant portion of government members saw the legislation of Paris emission targets and the likely renewable energy investment it would generate as being unlikely to bring average household prices down and to restoring supply side certainty to the energy generation market. This was the prime instigator of the political turmoil that occurred last month.

Unfortunately for households and businesses, Australia is back in no man’s land when it comes to this fundamental issue. Expect an ever-continuing rhetorical battle leading into next year’s election. Until either party can deliver legislatively the long-term framework required, it is hard to foresee anything other than greater financial strain amongst many within our community as prices rise further and reliability during critical times diminishes.