As discussed in the previous Chapter, the electricity system is in a period of transition. While the terms of reference of the present inquiry focus on the electricity transmission and distribution system, the Committee received a range of evidence about the importance the policy framework across the electricity sector during this transition.
In particular, the Committee heard concerns that changes in policy and market settings would be required to maintain the security and reliability of the electricity system.
The Committee also heard that policy uncertainty—particularly in relation to emissions reduction in the electricity sector—had undermined investment in the sector.
Lastly, the Committee heard evidence that governance and regulation in sector was not well coordinated and not sufficiently responsive to meet the rapid pace of change in the industry.
Changing nature of the electricity system
This section considers evidence received by the Committee about the changing nature of the electricity system—which is driven by the changing generation mix—and the implications of this change for security and reliability.
Changing generation mix
The Committee heard evidence that the changing generation mix in the electricity system. This transition is characterised by the gradual withdrawal of coal-fired generation and the increasing penetration of wind and solar photovoltaic (PV).
In its most recent report of the state of the energy market, released in May 2017, the Australian Energy Regulator (AER) reported on the generation mix in the National Electricity Market (NEM) in 2015–16, summarised here in Table 3.1.
Table 3.1: Generation mix in the NEM in 2015–16
Source: State of the energy market, Australian Energy Regulator, May 2017
The report highlighted that new investment in generation was predominantly in wind and solar. Of the 2000 MW of capacity added over the five years to 31 March 2017, 80 per cent was wind generation and 12 per cent was solar generation.
The report explained that, of advanced but not formally committed proposals for new generation, 62 per cent are wind generation, 25 per cent are gas generation, and 11 per cent are solar generation. The report stated that no investment in new coal- or gas-fired generation had occurred since a 240 MW upgrade to the Eraring coal-fired plant in 2013.
The Committee heard that investment in wind and solar was driven by a range of factors, including the falling cost of the technology and incentives provided under federal and state and territory government policies, including the Large-scale Renewable Energy Target.
The Committee also heard that in the current investment environment, technologies with relatively short construction times and low capital costs, such as wind and solar, were particularly attractive. In addition, wind and solar (and other forms of renewable generation) are not exposed to carbon risk. The current investment environment is discussed in further detail later in this Chapter.
Lastly, the Committee heard about the growing penetration of rooftop PV, which is not traded though the NEM. Energy Networks Australia explained that the average penetration of rooftop PV is approximately 15 per cent across Australia, with penetration above 30 per cent in some states.
This investment is taking place at the same time as the retirement of a number of coal-fired plants, including the 1600 MW Hazelwood coal-fired plant, which was retired on 31 March 2017, with further closures expected as other coal-fired plants reach the end of their design life over the coming decades.
Box 3.1: New technologies
Opportunities presented by new technologies
In Germany members of the Committee heard about highly flexible conventional power plants, which are used as back-up capacity in the German grid. In its meeting with think tank Agora Energiewende, delegates were interested to hear that most black coal-fired plants—subject to their age—can be retrofit to improve their flexibility and response to load. With flexibility becoming increasingly important in the evolving electricity grid, it was interesting to hear that responsiveness can come from surprising sources.
Implications for security and reliability
As outlined above, the change in the generation mix has been characterised by the displacement of traditional coal- and gas-fired generation with an increasing share of wind and solar generation.
While the Committee heard that an electricity system with a significantly higher share of wind and solar generation was technically feasible, the Committee was interested in understanding the implications of this transition for the security and reliability of the system.
The Committee was particularly interested in the role of the system operator, the Australian Energy Market Operator (AEMO), in adapting to the changing physical characteristics of the electricity system.
Security is a measure of the ability of the electricity system to continue operating within defined technical limits, even in event of the failure or disconnection of a major system element (for example, a generator or transmission line).
Historically, the secure operation of the NEM has relied on services based on the physical characteristics of large synchronous generators, such as coal- and gas-fired generators and hydro generators.
For example, an important aspect of system security is maintaining the frequency of the electricity system as close as possible to the normal 50 Hz operating frequency.
The massive rotating components in synchronous generators contribute physical inertia to the electricity system. This property provides the system with the ability to resist changes in frequency that result from imbalances between supply and demand.
Minor deviations in frequency are automatically corrected by regulation frequency control and ancillary services (FCAS). In the event of a significant deviation (known as a contingency event), AEMO procures contingency FCAS to correct the frequency. Examples of contingency FCAS include generator response and load shedding.
The higher the amount of inertia in the system, the slower the rate of change of frequency for a given contingency. This provides more time for FCAS to respond in order to maintain the frequency within its prescribed range.
In contrast with synchronous generators, wind and solar generators, which are connected to the electricity system through inverters, do not contribute physical inertia. As such, the withdrawal of synchronous generators is reducing the level of physical inertia present in the electricity system.
Moreover, FCAS is generally provided by synchronous generators, the availability of FCAS may be affected by the changing generation mix.
Aside from contributing inertia, synchronous generators assist also in voltage control by producing and absorbing reactive power and improve system strength by providing high fault current. However, in Australia these services are not generally provided by wind and solar generators to the extent that they are able to.
The final report of the Finkel review stated that, while it is difficult to show that the state of system security is decreasing, some warning signs are emerging.
The Government of South Australia submitted that, with the declining share of synchronous generation in the state, there is an increasing reliance on interconnectors to provide inertia.
Dr Glenn Platt, Research Program Director at CSIRO, stated that problems associated with a lack of inertia were apparent in some small areas. However, Dr Platt also noted:
... we are still quite a while away from dealing with a lot of these inertia problems in most parts of Australia.
The Committee heard evidence about a range of technologies that are able to provide inertia and other system security services, including synchronous condensers (new or reconfigured from retired synchronous generators), synthetic inertia, battery storage, fast frequency response, and demand response.
Reliability is a measure of the ability of the electricity system to meet customer demand—that is, having capacity available in the right place and at the right time.
In the NEM, AEMO is responsible for balancing supply and demand through a centrally coordinated dispatch process, which operates on a five-minute cycle. In this process, AEMO forecasts the expected demand from the transmission grid to determine how much capacity to dispatch.
Dispatchable capacity can include traditional and new types of generation (for example, coal, gas, hydro, biomass, and solar thermal), storage (for example, pumped hydro and batteries), behind-the-meter resources, additional network capability, and demand response.
By contrast, an inherent characteristic of wind and solar generation is that its electrical output is intermittent, depending on seasonal and daily weather patterns and local weather conditions (for example, cloud cover). As such, wind and solar generation is non-dispatchable. AEMO forecasts wind and solar generation, and then adjusts the dispatch process accordingly.
As wind and solar generation makes up a larger share of the generation mix, there will be additional variability in the dispatch process. The increasing penetration of rooftop PV will also introduce additional variability in demand from the network.
Furthermore, behind-the-meter resources such as rooftop PV are often invisible to AEMO, which limits the availability of technical and operational data to support forecasting and planning.
These changes imply that generators providing dispatchable capacity will need to be increasingly flexible in order to maintain the reliability of the electricity system. However, some existing generators (particularly coal-fired plants) may not have the capability to rapidly increase or decrease their output to balance system load.
Notwithstanding the evidence outlined at the beginning of Chapter 4 of this report that historically the NEM has been reliable, in evidence to the inquiry, Ms Audrey Zibelman, Managing Director and Chief Executive Officer of AEMO, explained that, based on current trends, the market operator had identified a potential shortfall in the level of flexible, dispatchable capacity in the NEM.
In advice provided to the Commonwealth Government, AEMO stated that without changes to bring forward new investment in flexible, dispatchable capacity, there was an ‘increasing an unacceptable risk’ that the NEM would be unable to meet the reliability standard.
The advice noted that issues associated with increasing levels of variable generation were compounded by the ageing of the generation fleet and increased complexity for generators in managing fuel supplies.
Current investment environment
As discussed in the previous section, the transition in the electricity system is highlighting the need for new approaches to managing security and reliability. At the same time, modernisation of the electricity grid is an opportunity to achieve better outcomes for consumers, and to reduce Australia’s emissions in line with international commitments.
However, a clear theme in evidence to the inquiry was that the current investment environment in the electricity sector is characterised by a high degree of uncertainty.
As noted above, there is a wide range of factors contributing to the current investment environment, including rapid technological change, declining technology costs, and changing consumer preferences. In addition, the Committee heard evidence about the lack of liquidity in the contract market.
The Committee also heard that changes in policy settings and interventions by governments created uncertainty for investors.
In this context, the following sections consider evidence about the effectiveness of current market incentives for reliability and system security services and the extent of policy uncertainty in the electricity sector, particularly regarding emissions reduction.
Current market design
The Committee heard evidence that the current market was not providing the right incentives to bring forward investment in flexible, dispatchable capacity and that security services were not appropriately valued.
One of the main factors influencing investment decisions in the NEM are the reliability settings, which are made up of four mechanisms for regulating spot prices in the wholesale electricity market:
the market price cap, which is the maximum price that can be reached in any five-minute dispatch interval (currently $14 000 per MWh);
the cumulative price threshold, which is the maximum total price that can be reached in any week (currently $210 000), after which time the administered price cap is applied (currently $300 per MWh); and
the market floor price, which is the minimum price that can be reached in any five-minute dispatch interval (currently -$1000 per MWh).
The Committee was told that spot prices played a signalling role in the market, and that the design of the NEM was such that a sustained increase in current and forward prices would provide a signal for investment in new generation capacity to maintain the reliability of the electricity system.
Throughout the inquiry, the Committee heard a range of evidence about the level of wholesale electricity prices in the NEM.
In its report on the state of the energy market, the AER stated that wholesale prices rose in every NEM region in 2015-16, with rises of around 50 to 60 per cent in Victoria, New South Wales, and South Australia. The report stated that prices have continued to rise in mainland regions in the first nine months of 2016–17.
The report also stated that wholesale prices had been extremely volatile since winter 2015, particularly in Queensland, South Australia, and Tasmania:
Thirty-minute prices exceeded $200 per MWh almost 4000 times in 2015–16, which was an unprecedented number.
This volatility was attributed, in part, to a tightening of the supply-demand balance due to the closure or mothballing of several coal-fired plants.
However, the Committee heard high wholesale prices were not resulting in new investment in dispatchable capacity, and that investment in wind and solar generation was being driven by factors outside the wholesale market, such as the Renewable Energy Target.
In evidence to the inquiry, Ms Audrey Zibelman, Chief Executive Officer and Managing Director of AEMO, explained that the market operator had identified that changes in market design were necessary to signal the need for dispatchable capacity:
... the current market environment seems to be incentivising new, renewable connections. Our concern is that we need to have signals to get in resources that also provide dispatchable capability.
Ms Zibelman outlined approaches used in other jurisdictions to encourage investment in dispatchable capacity, including day-ahead markets, capacity markets, auctions, availability markets, and emergency reserves.
Ms Zibelman explained the common feature of these mechanisms:
What they do is they provide a revenue stream outside the energy market, so that people have an understanding that they are being paid for availability.
In advice provided to the Commonwealth Government, AEMO recommended the development of a strategic reserve option for use from summer 2018–19 to summer 2020–21, then development a longer-term approach to retain and encourage investment in new dispatchable capability, to be in place before 2021–22.
The advice also stated that, in the short term, consideration should be given to new investment to extend the life or increase the flexibility of existing dispatchable resources. For example, the Committee had reference to GE’s research in retrofitting coal-fired power plants to help increase power output, reduce operational and maintenance costs and lower plant carbon footprint through less coal consumption.
The Committee heard evidence that the proposed change to implement five-minute settlement in the NEM (that is, to align the settlement window with the five-minute cycle for dispatch) would provide a signal to the market to invest in more flexible generation.
However, Ms Zibelman suggested it would be advantageous to consider the implementation of five-minute settlement in the context of broader changes to market design.
In addition to concerns about the market failing to encourage investment in dispatchable capacity, the Committee heard that the current market was not appropriately valuing system security services.
The Committee heard that the market had not assigned an explicit value to system security services such as inertia as, historically, these had been provided effectively at no cost by synchronous generators.
Ms Michelle Groves, Chief Executive Officer of the AER, explained:
... traditionally, we did not value ... separately, the reliability and security services that certain types of generation brought to the market because the majority of the generators in the market brought those services with them; they were just taken as a given.
Ms Zibelman submitted that there was a need to unbundle energy from the services required to maintain the security of the electricity system:
What we are finding is that, as the system has evolved, resources such as renewables, unlike traditional generation, may not provide frequency and regulation—other resources. So we have to signal that need to the market essentially to begin to unbundle the energy price to the various components that the system needs.
In its submission to the inquiry, AGL recommended the establishment of new markets for ancillary services and the opening of the existing FCAS market to new providers:
The introduction of new ancillary services markets will ensure that users appropriately value services, such as inertia, that had previously been available for free and in surplus.
AGL also stated that in 2016 it submitted a rule change request to the Australian Energy Market Commission (AEMC) proposing the introduction of a market for inertia.
Work is being done to address this issue. On 27 June 2017, AEMC published its final report of the system security market frameworks review. The report made nine recommendations for changes to market and regulatory frameworks to support the shift towards new forms of generation while maintaining power system security. AEMO has a future power system security program, where is publishes reports and analysis as it completes work in relation to system security. For example, in August 2017 it published a working paper on fast frequency response in the NEM.
A strong theme in the evidence to the inquiry was that policy uncertainty—in other words, the lack of stable and enduring policy—has undermined investment in the electricity sector.
Stakeholders both within and outside the electricity sector identified the lack of a clear mechanism to achieve emissions reduction in the sector as a primary cause of uncertainty.
The Australian Government has made a series of domestic and international commitments to reduce Australia’s greenhouse gas emissions. Most recently, in 2015, the Government committed to reducing Australia’s emissions by 26 to 28 per cent below 2005 levels by 2030. The Government has also ratified the Paris Agreement, which contains a commitment to limit global warming to 2 degrees Celsius above pre-industrial levels and ideally 1.5 degrees Celsius, as well as a commitment to zero net emissions in the second half of this century, with significant implications for the electricity sector.
Evidence to the inquiry emphasised the important role of the electricity sector in meeting Australia’s commitment to reduce emissions, particularly given the limited ability to reduce emissions in other sectors of the economy (for example, transport and agriculture).
However, the Committee heard that there is currently no clear mechanism to achieve long-term emissions reduction in the sector. The Business Council of Australia submitted:
Australia’s 2030 emissions reduction target has been set. ... But what has not been set is the signal necessary to support the investment needed for the electricity system to move away from emissions intensive generation technologies and significantly reduce its emissions.
Effect on investment
The Committee heard that stable and enduring policy settings were particularly important in the electricity sector as electricity infrastructure generally involves capital intensive, long-lived assets, and investment timeframes could be as long as 50 years.
In its submission to the inquiry, the Clean Energy Finance Corporation emphasised the importance of a stable policy framework for investment:
... the most important aspect from an investor viewpoint is a stable ‘bankable’ policy framework is necessary to promote investor confidence and capital availability and reduce risk, financing costs, and the overall costs of the transition.
The Committee heard that resolving policy uncertainty in relation to emissions reduction was critical for investment in the electricity sector. Ms Anne Pearson, Chief Executive of the AEMC, explained:
A market that is in transition needs investment certainty; investment certainty will not come until there is some certainty in emissions reductions policies.
The Committee heard that, in the absence of policy certainty, businesses were delaying investment decisions. Mr Kieran Donoghue, representing the Australian Energy Council, explained to the Committee that policy uncertainty had affected investment in new generation:
What we have seen over the last year or two is the beginning of the closure of a number of large older generators and the lack of equivalent generation coming in to replace them. That is fundamentally down to the lack of policy clarity and that no-one knows what they should build.
Similarly, Professor Kenneth Baldwin, Director of the Energy Change Institute at the Australian National University, submitted that policy uncertainty had stalled investment over the last decade:
All the industry partners that we talk to say that they have not invested in the last decade because the risk of investing—and this applies to coal generators, gas generators, as well as renewables—is so great in this policy uncertain environment that they are not prepared to do it unless they have some sort of a trajectory.
Mr Matthew Warren, Chief Executive Officer of the Australian Energy Council, explained that the electricity sector is particularly exposed to carbon risk:
When businesses—I think this applies to all businesses, not just ours—go to build assets that have a carbon risk, and electricity is extremely exposed to this ... the banks will deal with the risk of those emissions in the future. That is an abstract concept, but it is not zero.
Several stakeholders submitted that the industry was already factoring in a price on emissions when making investment decisions. Mr Warren explained:
... the reality is, whether or not the Parliament of Australia monetises a carbon price, it exists, because when we go to banks the shadow price of carbon exists in the financing arrangements for our generation.
Professor Baldwin suggested that the ‘internal price on carbon’ in the industry was at least $20 per tonne of carbon-dioxide equivalent (tCO2e).
Effect on wholesale prices
Evidence to the inquiry indicated that policy uncertainty had contributed to an increase in the wholesale price of electricity. Based on the differential between forward wholesale prices and the underlying cost of supply, the Australian Energy Council estimated the cost of what it termed ‘sustained national policy inaction’ to be effectively equivalent to a carbon price of $50 per tCO2e.
The argument was put to the Committee that higher prices in the wholesale market should act as an economic signal for new investment in the system (see discussion earlier in this Chapter).
However, the Committee heard that the effectiveness of this signal was undermined by the lack of policy certainty. Mr Paul Hyslop, Chief Executive Officer of ACIL Allen Consulting, explained:
... the solution to high prices is high prices, because high prices allow people to bring forward new solutions. They create incentives. I think the problem is that we have such a huge degree of uncertainty around the market.
By way of contrast, a representative of the Government of South Australia explained that high prices in the wholesale energy market provided a strong economic signal to investors when South Australia entered the NEM in 1998-99. Similarly, the Australian Energy Council noted that investment in new generation occurred in Queensland following the commencement of the NEM.
The Committee heard that, with appropriate policy settings to encourage investment in the sector, the wholesale price for electricity could quickly stabilise at a lower level.
The Australian Energy Market Commission also submitted that resolution of uncertainty regarding emissions reduction would assist in the resolution of other issues in the sector.
Effect on transmission and distribution networks
The Committee also heard evidence that, because government policy affects the evolution of the entire electricity system, policy uncertainty also affects investment in transmission and distribution networks.
The Clean Energy Finance Corporation suggested that regulatory tests would operate more effectively in an environment with greater certainty regarding emissions reduction. Mr Tim Jordan explained:
It is a multi-decade transition to a low-carbon electricity system, and a cost-benefit test for transmission that was operating in the context of a set of very clear, long-term policy settings could, in principle, deliver enough investment in transmission that would unlock renewable resources to deliver a lower cost outcome.
Mr Richard Owens, Senior Director of the Australian Energy Market Commission supported this point:
If there is a carbon price or some other emissions price, that will be taken into account through [the Regulatory Investment Test for Transmission], and new interconnectors can be built by taking into account the value of that. But at the moment, without certainty as to long-term emissions policy, the market does not know how to price those investments.
Further evidence relating to transmission and distribution networks is discussed in the Chapter 4 of this report.
Nature of policy certainty
While the consideration of specific mechanisms for emissions reduction was outside the scope of the present inquiry, the Committee received general evidence from stakeholders about the nature of the policy certainty required in the electricity sector.
As noted above, stakeholders highlighted the importance of establishing a policy framework that would promote investor confidence. Mr Jon Stretch, Managing Director and Chief Executive Officer of ERM Power, explained:
We need a set of market rules that are going to allow people like us, and other generators, to invest in new technology knowing that the business case is not going to be pulled from underneath them in three years’ time when someone has a better idea of how things could run.
However, Mr Stretch emphasised that he did not consider certainty to mean the absence of any risk, but simply the consistent application of rules beyond the parliamentary cycle.
The Committee heard evidence that the specific target level of any mechanism for emissions reduction was not particularly important (with respect to the specific issue of policy certainty).
Instead, stakeholders emphasised that it was important that the mechanism itself would survive a change of government, and that there was a clear process to change the level of emissions reduction target. Mr Donoghue explained:
... in principle if you are maintaining the mechanism and there is a clear process and time to adjust, then you should be able to deal with a change in the level of ambition. To be honest, if it turns out you can’t then it’s not the right mechanism.
Similarly, Ms Pearson emphasised the importance a stable and predictable approach to any changes in the sector:
One of the virtues of the governance framework that we have ... is that the way the rules are made and the way they are amended in a predictable way is seen as very positive for investment. ... I would have thought that a governance model that provides certainty on an ongoing basis—not that things will never change, but that they will change in a predictable and stable way—is what is important.
Along these lines, stakeholders emphasised the importance of consensus-based agreement. For example, Mr Graham Davies, Director of Resonant Solutions, told the Committee:
If we don’t get bipartisan support, I still think the industry will move forward, but it will be in a less managed transition, which is ideally what one wants to circumvent.
The Committee heard that emissions reduction is not currently reflected in the National Electricity Objective (NEO), and, as such, is not explicitly accounted for in decisions or recommendations made by agencies such as the AEMC and the AER.
Representatives of the AEMC suggested that it was not necessary for emissions reduction to be included in the NEO, as any government policy would act as a constraint on the rulemaking of the AEMC. Mr Owens explained:
If parliament sets Australia’s emissions reduction targets and ways to achieve those then integration means ... us applying the NEO to run the system in the most affordable and efficient way that meets those targets, rather than, for example, having us or the AER make judgements about what Australia’s emissions target should be and what the most efficient mechanism is.
On the other hand, some stakeholders argued that emissions reduction should be reflected in the NEO. The Australian Conservation Foundation submitted that, currently, regulatory agencies cannot consider the environmental implications of decisions such as rule changes and network pricing determinations.
Ms Pearson, representing the AEMC, submitted that it was appropriate for objectives for emission reduction to be set by parliaments, due to the value judgements involved, and then the mechanism to achieve those objectives would be integrated into the design of the energy market (also see paragraph 3.117).
More broadly, the Committee heard evidence that the policy framework in the electricity sector should reflect principles such as technology neutrality, while taking into account emissions intensity, and should have sufficient flexibility to enable new technologies and services to emerge.
Mr Graham Davies, Director of Resonant Solutions, submitted that it was important to consider the electricity system holistically, accounting for the interaction of generation, transmission, distribution, management, and demand, as well as non-electrical inputs.
Concerns about governance arrangements
In addition to concerns about policy uncertainty, stakeholders expressed concerns about the responsiveness of regulatory reform, as well as the broader governance arrangements across the electricity sector.
Lack of responsiveness
In evidence to the inquiry, the Australian Energy Market Operator emphasised that the pace of change in the industry has accelerated and that technology and business models are now less predictable than they were at the commencement of the NEM.
However, AEMO explained that the current process for regulatory decision-making, including industry consultation and implementation and transition periods in some cases, could take ‘many years’. While noting the trade-off between the speed of the process and the number of regulatory bodies and agencies involved, AEMO submitted that the current process was not sufficiently forward looking.
AEMO also submitted that accountabilities and obligations of market agencies were not always clearly defined.
The Public Interest Advocacy Centre referred to the approved change to implement five minute settlement in the NEM, submitted by Sun Metals Corporation Pty Ltd in December 2015. This was highlighted as an example of the decision-making process lagging behind the pace of change in the sector.
During the course of this inquiry, in September 2017, the AEMC released a draft determination on the rule change, proposing a transition period of three years and seven months to address concerns raised about the costs and risks of implementing the change. In November 2017, the AEMC announced that five minute settlement would start on 1 July 2021.
Earlier in the inquiry, when questioned about the time taken to consider the rule change, Ms Anne Pearson, Chief Executive of the AEMC, explained that the Commission had carried out industry consultation to understand the implications of the change.
Ms Pearson also explained that the implementation timeframe was consistent with the approach taken in other electricity markets.
Further evidence relating to specific changes to market rules is discussed in Chapter 5 of this report.
More broadly, some stakeholders also suggested that incremental changes were insufficient to address the systemic issues in the electricity sector.
In its submission to the inquiry, AEMO recommended that higher regulatory instruments should be used to define roles and policy principles with broad expression, with settings within those broad areas to be managed through lower regulatory instruments by agencies such as AEMO and the AER.
The submission also recommended a process that integrates network planning with required market and regulatory changes. AEMO argued that these changes would result in a decision-making process that was quicker and more transparent and would enable issues to be managed in their entirety.
Concerns were also raised with the Committee regarding regulatory inconsistency across jurisdictions.
Mr Owens, representing the AEMC, explained that while there is a national framework in the electricity sector, and a common set of rules in the NEM, not all matters are covered by this arrangement:
Some matters are in the national framework; some are not. ... state governments still set all of the reliability standards. ... A number of other matters like electrical safety and those sorts of things are still state matters; retail price regulation is also a state matter.
In particular, Mr Owens noted that emissions reduction does not currently sit within the national framework:
One of the biggest challenges at the moment is that emissions policy for the energy sector is not part of our national framework. There is no national agreement on emissions policy and that is not within any of the rules that we administer or within the COAG Energy Council process.
Energy Networks Australia submitted that a lack of regulatory cohesion was one of the most significant challenges to the transition in the electricity sector. Energy Networks Australia argued that Australia was notable among other jurisdictions for the extent of multiple and overlapping regulatory measures, particularly given the size of its population.
Further to this evidence, Energy Networks Australia submitted that regulatory consistency would become more important as electricity services become more decentralised, and that unnecessary discontinuities between jurisdictions would pose a barrier to entry for new participants in the market.
Similarly, Mr Ivor Frischknecht, Chief Executive Officer of the Australian Renewable Energy Agency, identified the requirement to obtain a retail license in each state as a barrier to entry for new retailers.
Stakeholders reflected on other challenges associated with the coexistence of regulation across jurisdictions. The Business Council of Australia submitted that unilateral action by state and territory governments distorted the operation of the NEM. Energy Consumers Australia noted that the experience of consumers differed across the states and territories.
Other stakeholders emphasised the importance of a nationally coordinated approach to the electricity sector.
Recent policy developments
This section briefly summarises some relevant policy developments that have occurred during the course of the present inquiry.
Recommendations of the Finkel review
In June 2017, the final report of the Finkel review was presented to the COAG Energy Council.
The report included a package of 50 recommendations designed to facilitate an orderly transition in the electricity sector, enhance system planning, and strengthen governance arrangements.
The report highlighted the impact of policy uncertainty on the sector:
The uncertain and changing direction of emissions reduction policy for the electricity sector has compromised the investment environment in the NEM.
... It is critically important that there is widespread political and community acceptance of the need for a stable policy framework.
In July 2017, the COAG Energy Council agreed to a timeline to implement 49 out of the 50 recommendations, and noted the significance of the final recommendation: to adopt a clean energy target.
In the course of the present inquiry, stakeholders expressed broad support for the recommendations contained in the report, noting that the detail of the implementation of some recommendations was not yet finalised.
October advice from the Energy Security Board
As noted in the previous Chapter, in August 2017 the COAG Energy Council announced the establishment of the Energy Security Board (ESB), giving effect to one of the recommendations of the Finkel review. The ESB is responsible for implementation of the recommendations of the Finkel review, and for providing whole-of-system oversight for security and reliability.
On 13 October 2017, the ESB provided advice to the Chair of the COAG Energy Council, the Commonwealth Minister for the Environment and Energy, recommending that retailers be required to meet their load obligations with a portfolio of resources with a minimum amount of flexible, dispatchable capacity and an emissions level consistent with Australia’s international emissions reduction commitments.
On 17 October 2017, the Australian Government announced it had accepted the recommendation of the ESB and would work to implement these changes through the COAG Energy Council process.
Box 3.2: Energy policy
Sensible and bi partisan energy policy underpins affordability, reliability and energy security. The electricity industry is undergoing a dramatic transformation and it energy policy needs to sustain reliability and affordability while transitioning to a low carbon future.
A key to market reliability is long term bi-partisan approach that takes adequate account of global circumstances. That is the only way to give certainty to private sector financiers. Globally we are heading toward a low-emission electricity market and Australia needs to get on board - or be left behind with a lower productivity economy.
The need for stable energy policy is the prime cause of high prices, as any energy planner will explain. The lack of this position results in very short term or no investment, leading to supply shortages.
I congratulate the Parliamentary committee on their work. I trust they will have an impact on the current political impasse
The Committee acknowledges the importance of achieving a stable and enduring policy framework in the electricity sector.
As the electricity system continues to transition, policy certainty is required to ensure there is sufficient investment in the sector, and to ensure that this investment is directed as efficiently as possible, balancing the objectives of security, reliability, and emissions reduction at least cost to consumers.
This applies across the electricity system, as the policy framework impacts upon generation, transmission and distribution networks, and the environment in which consumers interact with the grid.
The Committee accepts the evidence that the primary cause of policy uncertainty is the lack of a mechanism to achieve emissions reduction in the electricity sector. The electricity sector is capital intensive and particularly exposed to carbon risk, and the lack of policy certainty has clearly undermined investment in the sector.
As such, resolving this policy uncertainty—that is, establishing a stable and enduring mechanism for emissions reduction in the electricity sector—is critical to modernising Australia’s electricity system in an efficient and orderly manner.
Moreover, as the electricity sector is a major contributor to Australia’s emissions, this will be an important step in Australia meeting its emissions reduction objectives.
The Committee is aware of the extensive and ongoing debate regarding different mechanisms for emissions reduction. It is not the role of this Committee to endorse any one particular mechanism.
However, based on the evidence to the inquiry, the Committee makes the following observations:
Given the capital intensive nature of the electricity sector and the long lifetime of some assets for generation and transmission, investors require certainty beyond a single term of parliament. Therefore, consensus-based agreement on a mechanism for emissions reduction is critical.
Any mechanism for emissions reduction should be technology neutral, subject to the physical requirements of the electricity system, so that emissions reduction can be achieved at least cost to consumers.
Any mechanism for emissions reduction should aim to provide certainty for investors, but also be sufficiently flexible so as to not unduly restrict future governments (for example, the mechanism could incorporate a notice period for changes to previously set targets).
Targets for emissions reduction in the electricity sector should be consistent with Australia’s international commitment under the Paris Agreement, which is to limit global warming to 2 degrees Celsius and ideally 1.5 degrees Celsius, as well as a commitment to zero net emissions in the second half of this century. It should be noted that there is a live debate about whether the electricity sector’s contribution to emissions reduction should be proportionate or disproportionate.
Lastly, to mitigate the risk of future uncertainty, any mechanism for emissions reduction should be sufficiently flexible to accommodate changes to other arrangements in the electricity sector.
The Committee acknowledges the difficulty of achieving consensus-based agreement on this issue. However, the Committee considers that resolving policy uncertainty in relation to emissions reduction in the electricity sector would be of enormous value, both to the sector and to the community more broadly.
The conduct of this inquiry has made it evident that it is possible for a multi-party Committee to come together in the spirit of consensus to review the policy issues relating to the modernisation of the NEM. Many stakeholders provided positive feedback in relation to the consensus-based approach of the Committee.
The Committee affirms the importance of resolving policy uncertainty in relation to emissions reduction in the electricity sector. The Committee commends to the House the establishment of a stable and enduring mechanism for scalable emissions reduction in the electricity sector, with appropriate notice given for changes in targets.
Moving beyond this issue, the Committee is of the view that market and regulatory changes may be required to ensure that the security and reliability of the electricity system is maintained over time.
The Committee wishes to emphasise that Australia’s electricity system continues to provide a secure and reliable supply of electricity. However, the system was designed in an environment where electricity was supplied by large synchronous generators. As such, as the generation mix continues to change, market and regulatory changes may be required to accommodate and adapt to the changing physical characteristics of the system.
The Committee accepts the evidence that the changing nature of the electricity system is prompting the need to consider new approaches to maintaining system reliability. In particular, the Committee supports the consideration of new approaches to maintaining an appropriate level of flexible, dispatchable capacity in the system.
The Committee recommends that the Minister for the Environment and Energy, through the Council of Australian Governments Energy Council, investigate new market, non-market, and regulatory, approaches to maintaining an adequate level of flexible, dispatchable capacity in the National Electricity Market.
The Committee supports the consideration of approaches including but not limited to capacity markets, day-ahead markets, reverse auctions, strategic reserves, and long-term power purchase agreements.
Regardless of the approach, the system must recognise the need for—and appropriately value—capacity that is available on demand and able to accommodate the increasing variability in the electricity system.
The Committee notes that flexible, dispatchable capacity can be provided by a suite of resources, on both the supply side and the demand side, including traditional and new types of generation, upgrades to existing generators, storage, behind-the-meter resources, demand response, and network upgrades.
Similarly, the Committee accepts the evidence that there is a need to consider new approaches to ensuring that necessary system security services continue to be provided over time.
The Committee recommends that the Minister for the Environment and Energy, through the Council of Australian Governments Energy Council, investigate new market, non-market, and regulatory approaches to maintaining an adequate level of system security services in the National Electricity Market.
The Committee recognises that system security services—for example, inertia and frequency control—can be provided by a range of existing and new technologies. The Committee is keen to ensure that the true value of these services is reflected in the system.
The Committee supports the consideration of approaches including but not limited to the establishment of new markets for system security services and a review of connection standards, settings, and obligations for new and existing generators.
With respect to Recommendations 2 and 3, the Committee supports a technology neutral approach guided by the physical requirements of the system, such that security and reliability is achieved at least cost to consumers.
The Committee also supports an approach that seeks to enhance, and does not diminish, competition in the markets for energy and system security services.
The Committee is of the view that AEMO is well placed to provide advice to the COAG Energy Council on appropriate mechanisms for maintaining security and reliability.
However, the Committee considers that there may be a role for an independent authority in establishing the requirements for dispatchable capacity and system security services. Evidence regarding the role of an independent system planner is discussed in the Chapter 4 of this report.
With respect to Recommendations 2 and 3, given the pace of change in the electricity system, the Committee considers that these recommendations should be approached with a view to commencing implementation of any changes by the end of 2018.
The Committee emphasises that these recommendations do not seek to undermine or limit the contribution of variable generation such as wind and solar. On the contrary, establishing appropriate settings in relation to security and reliability will ensure that these technologies can be incorporated into the grid effectively and at least cost.
More broadly, the Committee is of the view that the governance arrangements in the electricity sector are not sufficiently responsive in an environment characterised by rapid change.
The Committee is particularly concerned about the length of time taken to consider and implement changes to market rules. The Committee is not confident that the current rule-making process can appropriately accommodate the changes that are expected to occur over the coming years.
As such, the Committee urges the COAG Energy Council to consider options to expedite the rule-making process.
The Committee recommends that the Minister for the Environment and Energy, through the Council of Australian Governments Energy Council, identify and implement changes to improve the responsiveness of the rule-making process in the National Electricity Market.
Lastly, the Committee notes that there is an important role for parliamentarians, as the elected representatives of the Australian community, in shaping the policy framework in which the electricity sector operates.
As such, the Committee welcomes the opportunity that the present inquiry provided to engage with stakeholders in the sector, and to closely examine the transition underway in the electricity system. Given the extent of the changes ahead, the Committee considers it important for the Australian Parliament’s energy committee to continue to remain engaged in this important policy area.
The Committee notes that the Energy Security Board has been established with responsibility for implementation of the recommendations of the Finkel review, and for providing whole-of-system oversight for energy security and reliability. As the ESB was established towards the end of the conduct of this inquiry, this report does not provide an in depth review of the work of the ESB at this time.
With a view to the future, the Committee considers that the Energy Security Board is well placed to provide the Committee—and through it, the Parliament and the public—with a regular briefing on the electricity system.
The Committee recommends that the Minister for the Environment and Energy, through the Council of Australian Governments Energy Council, authorise the Energy Security Board to provide a briefing to the Committee every six months, until otherwise agreed by the relevant committee. The briefings should provide information on the state of the National Electricity Market, progress implementing the recommendations of the Finkel review that have been accepted by the Council of Australian Governments Energy Council, and any other relevant matters.
The recommendations outlined in this Chapter are intended to bring about a policy framework that provides greater certainty for investors and is more responsive to the changing nature of the electricity system.
The Committee is of the view that these changes are essential if the system is to deliver secure, reliable, and affordable electricity into the future, while also contributing to meeting Australia’s emissions reduction objectives.
The Committee considers that these findings are broadly consistent with the recommendations of the Finkel review and complement existing reform processes underway in the electricity sector.