Energy market challenges

Kai Swoboda, Economics

Key Issue
There are a number of emerging issues in energy markets that have an impact on the price and reliability of energy supply.
Addressing these challenges is complex; it requires joint action by the Australian and state and territory governments and regulators to provide the appropriate incentives in energy markets.

The supply of energy to households and businesses in Australia involves complex interactions between governments and privately-owned businesses. These interactions typically occur in markets regulated under a national co-operative approach between governments and involve  national, regional and state-based regulators.

Energy markets are affected by a range of factors including the historical development of energy supplies in each state, market and weather conditions, as well as exposure to international markets. There are several specific issues that affect some energy markets.

East coast gas exports

The recent development of export-oriented liquefied natural gas (LNG) terminals in Queensland has provided significant economic benefits through the scale of investments and export revenues. However, the increase in gas prices that are an outcome of the link to international gas markets has created problems for domestic gas users. Indeed, a recent analysis of industrial gas prices conducted for the Department of Industry, Innovation and Science  found significant price increases for industrial gas users in recent years.

Gas prices, as determined at key ‘hubs’, have increased in association with the commencement of LNG exports from Gladstone in January 2015 (Figure 1).

Figure 1: Recent LNG exports from Gladstone and Adelaide and Brisbane gas hub prices

Recent LNG exports from Gladstone and Adelaide and Brisbane gas hub prices

Source: Thomson Reuters Eikon and Australian Energy Regulator (AER), STTM quarterly prices, AER website.

While monthly LNG export quantities from Gladstone have stabilised since the start of 2016, future volumes will be largely dependent on Asian LNG prices. These in turn, will be affected by changes in oil prices and competition from other exporters, including the United States which has recently commenced exporting LNG.

Policy prescriptions for addressing the potential for higher gas prices as a result of LNG exports include: the development of additional gas resources, restrictions on LNG exports, more and higher capacity interconnections, improved access arrangements for gas pipelines and improved market information for participants.

Wholesale electricity markets

The national electricity market (NEM) covers eastern Australian states and the ACT. In this market generators compete to supply electricity to electricity retailers. Wholesale prices in the NEM are typically determined in each state and are influenced by demand conditions, the mix of generation technologies in place and the extent of interconnections with states. Consumer behaviour and industrial demand are also factors that influence the market.

Between July 2012 and June 2014 there was a period of relative stability and declining wholesale electricity prices in the NEM as a result of the repeal of the carbon price arrangements. Since that time, however, prices in some states—particularly Tasmania, Queensland and South Australia—have been more volatile (Figure 2).This is particularly the case since mid-2015.

Figure 2: National electricity market wholesale prices, 2009-10 to July 2016 ($ per MWh)

National electricity market wholesale prices, 2009-10 to July 2016 ($ per MWh)

Source: Australian Energy Market Operator (AEMO), ‘Average price tables’, AEMO website.

Electricity retailers and industrial customers can use long-term supply contracts and financial instruments to manage the risks of volatility in wholesale prices. However, should higher prices persist over the medium to long term, these higher prices need to be passed on to consumers.

Recent changes in wholesale prices are related to jurisdiction-specific events as well as to broader policies that specifically apply within a jurisdiction. For example, fluctuation in prices in Tasmania in the past 12 months was related to the interconnection between Tasmania and Victoria being unavailable between December 2015 and June 2016. It was also the result of low levels of water storages available for hydroelectricity generation and the need to use imported diesel generation to meet demand.

In South Australia, recent rises in wholesale prices are the result of a combination of state-specific factors and broader policies that specifically pertain to the state. These include:

  • the high share of wind energy in electricity generation that displaces other sources of generation when conditions are favourable
  • a reliance on two capacity-constrained interconnections with Victoria to import and export electricity
  • the closure of uneconomic, older, higher-cost fossil fuel generation as demand remains flat and renewable generation capacity has been added and
  • the historically wider use of gas-fired generation in the state and the impact on LNG export‑related higher gas prices.

Policy prescriptions for addressing the issues faced in South Australia, and to a lesser extent, Tasmania’s reliance on the interconnector to Victoria include addressing competitive pressures through more and higher capacity interconnectors between states. Other proposed approaches include recognising the role of fossil fuel generation in providing supply reliability and developing market signals to incentivise such generation.

Security of supply issues associated with an increasing share of renewable generation

A secure electricity supply generally requires a system that can quickly adjust to changes in the level of demand and supply across the system (such as when air conditioners turn on or where a generator fails). Another important element of supply security requires the frequency and voltage in the system to be maintained within an acceptable level.

The addition of renewable wind and solar rooftop generation is generally not able to provide this stability of frequency and voltage. Therefore it needs to be supported by ‘synchronous’ generation—which is typically supplied by fossil fuel generation.

The challenge of incorporating additional renewable generation will need to be accommodated by the market. The 44th Parliament reduced the legislated renewable energy target (RET) from  41,000GWh to 33,000GWh by 2020. It was estimated by the Clean Energy Council in mid-2015, however, that meeting this lower target would require approximately 6,000 MW of additional renewable generation capacity to be built.

A recent summary by the Office of the Chief Economist noted that 320MW of renewable generation capacity had been completed in the year to October 2015. In addition, 3,747MW of renewable generation capacity was at the committed stage—where projects are either under construction or preparing to commence construction—and a further 20,000MW was at the feasibility stage.

Electricity retail markets

Electricity retail markets, where retailers compete for residential and business customers, have seen progressive removal of price regulation since the early 1990s. However, at present, only Victoria (from 2009), South Australia (from 2013) and New South Wales (from 2014) have fully deregulated retail markets—although South East Queensland had price regulation removed from July 2016.

Higher network prices largely drove the increase in electricity prices between 2007 and 2012. In contrast, the repeal of the carbon price arrangements—in place between July 2012 and June 2014—and a moderation in regulated network costs have combined to provide a period of relative stability or decline in household electricity prices in most capital cities (Figure 3). Electricity price increases for households in most jurisdictions are expected by the Australian Energy Market Commission in December 2015 to be relatively flat in 2016–17 (except in South Australia where a rise of seven per cent is predicted). A rise of between two to four per cent in most jurisdictions is anticipated in the following year.

Figure 3: Nominal household electricity price changes, selected capital cities, 2007 to 2016

Nominal household electricity price changes, selected capital cities, 2007 to 2016

Source: Australian Bureau of Statistics, Consumer Price Index, Australia, March 2016.

Although switching between retailers in a competitive market applies some pressure on prices, there are a number of issues in retail markets that will have an impact on the ability of customers and retailers to reduce electricity prices. These include technological changes such as time‑of‑use ‘smart’ electricity metering and the widespread use of roof top solar generation. In the medium term, the availability of affordable household battery storage will also affect retail markets.

Role of energy policy in meeting emissions reductions targets

There is a degree of complementarity but also tension between emissions reduction policies and objectives for low-cost and secure energy supplies.

The consumption of non-transport energy is a significant contributor to Australia’s domestic greenhouse gas emissions, accounting for 53 per cent of emissions in 2015 as estimated by the Department of the Environment.

In recent years, emissions from electricity generation have been falling; a consequence of the closure of several energy-intensive industrial facilities, flat or declining consumer demand in response to rising electricity prices and a shift to higher renewable generation. Contributing to this fall has been the closure of a number of ageing fossil fuel power stations, including:

  • the Northern power station in May 2016, (capacity 520MW, operating since 1985) and the Playford B power station in 2012 (capacity 240MW, operating since1960) in South Australia
  • the Anglesea power station in Victoria in August 2015 (capacity 160MW, operating since 1969), and
  • the Munmorah power station in New South Wales in July 2012 (capacity 1,400MW, operating from between 1967 and 1969).

There are several existing policies in place, such as the RET and the Government’s ‘safeguard mechanism’, that will exert some influence on incentives for generators and retailers. State-based policies that support renewables will also be a factor. There are also a number of policies under development or being proposed that may assist emissions reductions targets and these will need to be considered in terms of their energy market impact. These include policies such as:

  • measures to improve energy efficiency and productivity, such as the ‘National Energy Productivity Plan 2015–2030
  • programs that aim to encourage the adoption of more energy efficient technologies and practices by consumers and
  • the encouragement of technological innovation in energy supply through entities such as the Clean Energy Finance Corporation and Australian Renewable Energy Agency.

Further reading

Australian Competition and Consumer Commission, Inquiry into the east coast gas market, April 2016.

Australian Energy Regulator, State of the energy market 2015, December 2015.

Australian Energy Market Commission, 2015 residential electricity price trends, December 2015.

 

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