Options for the retirement of coal fired power stations
Evidence to the inquiry highlighted that Australia's coal fired power
stations will need to be retired in the medium term in order to make way for
lower-emissions sources of power generation. Various options could be utilised
to facilitate this process, and are discussed through this chapter.
Broadly, the options for facilitating the retirement of coal fired power
stations include the following:
leave retirement decisions solely to industry and market forces
(without any further changes to government policy settings);
directly regulate closures (i.e. government directs particular power
stations to shut down through regulation, with the plant owner bearing the cost
introduce a government payment-for-closure scheme, where the
government pays high emissions intensity plant operators to shut down (with the
taxpayer sharing the cost of closure);
market mechanisms introduced by regulation, creating incentives
for closure (or disincentives for continued operation) with the market
ultimately deciding which power stations retire and when. Possible market
a carbon pricing mechanism, causing higher-emitting plants to
incur greater costs, making them less competitive and more likely to cease
an emissions intensity scheme, whereby the government sets a
baseline emissions intensity target, with below-baseline producers rewarded and
above-baseline producers penalised via a tradable permits mechanism;
a regulated market mechanism for closure (e.g. the Jotzo model),
whereby payments are made by the industry as a whole to shut down the power
stations which are the most cost effective to close.
'Barriers to exit' and need for policy certainty
Much of the policy discussion in this area focusses on whether there are
'barriers to exit' which impact on the decision-making of coal plant operators
when determining if (and when) to close.
The question is not merely whether any barriers to exit exist, but
whether these barriers are significant enough to prevent an 'efficient' or
'orderly' restructuring of the market to occur (with older, high-emissions
plant capacity retiring first). As explained by the Australian Energy Market
A barrier to exit is any cost or foregone profit that a firm
must bear if it leaves an industry. While these costs therefore represent
barriers to exit for individual generators they are only a problem if they are
a barrier to efficient exit decisions.
For example, based on this definition, it will not always be
efficient for generators with the highest variable cost to exit the market
first. Where generators with high variable costs have high shut down costs, it
can be an optimal outcome for them to exit the market after generators with low
variable costs but low shut down costs.
Several barriers to exit for coal fired power stations have been
identified in the Australian context, which can be summarised broadly as
First-mover disadvantage: If one plant exits the market,
the remaining plants will receive higher revenues, which acts as a disincentive
to closure as every operator has an incentive to defer closure in the hope that
another plant will close.
Low operating costs of older coal plants: Brown coal fired
power stations generally carry lower short-run marginal costs of production
than other power generators, meaning they may have a greater capacity to
continue functioning at low cost even as they approach or exceed their expected
Closedown and site remediation costs: The cost of shutting
down a power plant permanently (even as opposed to 'mothballing' a plant or
moving to seasonal rather than full-time production) is high, with site
remediation costs estimated as being between $100‑$300 million for
Policy uncertainty: This uncertainty has the effect of
making it difficult for plant operators to predict what the cost of exiting the
market will be now, as opposed to in the future. Hence, this uncertainty may
cause inefficient investment and closure decisions.
This final factor, policy uncertainty, was identified by numerous stakeholders
to the inquiry as a key issue creating instability in industry decisions—along
with the corollary observation that introducing more policy stability in this
area would promote better outcomes for investors and market participants. For
example, Associate Professor Frank Jotzo argued:
Australia's energy sector has been exposed to significant
investment uncertainty due to pervasive policy uncertainty and climate policy
reversals for over a decade. Such uncertainty has detrimental effects on the
investment climate and potentially on the cost effectiveness of investment... For
an effective and efficient low-carbon transition, stable and predictable policy
settings are needed.
The Australian Energy Council argued similarly:
A benefit of the market is that it can discover what the real
economic life of a power station is and when it is worthwhile to invest in
refurbishing a plant to extend its operating life. Stable carbon policy is
needed to inform this investment decision making, and potentially signal that
coal-fired power station emissions intensity may lead them to close earlier
than without a carbon policy.
AGL Energy submitted:
The transition to a decarbonised and modernised generation
sector requires large scale investment, recent AGL analysis estimates this at
$23 billion in renewables alone to achieve an emission reduction consistent
with a 27% reduction in [greenhouse gas] emissions by 2030.
Such investment will be supported by policy that provides
macro level certainty as to the timeframe and operating life of incumbent
Such certainty has the potential to benefit a range of
factors contributing to the efficient transition including new investments,
management of existing capital stock, policy development, community transition
and energy market development.
Leaving retirement decisions solely to industry and market forces
The status quo approach would leave any retirement decisions on the
closure of coal fired power stations up to the plant owners themselves, with no
external changes in government policy settings to assist this process. This
approach was endorsed by the COAG Energy Council in December 2014, which
The Council considers it is for the market to provide signals
for investment and de-investment for generation, and opposes the transferral of
the costs of retiring assets onto consumers or taxpayers.
Advocates for this position argue that plant operators will choose to cease
operations as necessary, in accordance with existing market conditions, and
that there are no barriers to exit that are significant enough to warrant
government intervention. The Australian Energy Market Commission (AEMC)
undertook work in 2015 to identify barriers to generators exiting the NEM, and
found that 'there is nothing in the National Electricity Law or Rules which
would constitute a barrier to efficient exit decisions by generators'.
The AEMC stated that recent experience shows that generators are not
being prevented from leaving the market under current policy settings:
While it is possible the uncertainty around exit costs is
creating a barrier to efficient exit, a number of generators have announced
exit decisions in recent years. The evidence suggests that any barriers to exit
have not deterred generators from commencing various stages of exit or the full
retirement of plant. This would support leaving it to the market to determine
which plant should exit.
In particular, the AEMC pointed to the closure in May 2016 of the
Northern and Playford B coal power stations in South Australia and the
announced closure of the Hazelwood plant as examples of generator exit without
further policy intervention.
The AEMC stated further in its submission to the inquiry:
The decision of a generator to retire should be a commercial
Investment and divestment decisions are based on a range of
factors. A decision to retire a generator can take a number of years and
requires intimate knowledge of the commercial and operating structures of that
generator as well as clear expectations about future revenues and costs.
Generators are best placed to manage the risk of their own investment or
divestment decisions. The added benefit of this approach is that the risks of
poor investment decisions are borne by generators rather than taxpayers or
electricity consumers (as would be the case if a government were to intervene).
Other stakeholders have maintained that existing barriers to exit do
risk distorting the process of market transition, arguing that additional
policy intervention may be required in order to facilitate the phased closures
of older, higher-emissions generators. The imperative to reduce Australia's
carbon emissions in line with our international commitments is also cited as a
reason for implementing policies that would have the effect of curbing
emissions in the electricity sector, even if a consequent result of such
policies is to force coal powered generators to close sooner than they
otherwise would have.
In its submission, AGL Energy stated:
There is a role for governments to establish policy that
facilitates 'orderly' rather than 'disorderly' exit of emissions intensive aged
power stations. Such policy could be based upon age (e.g. Canadian rule which
requires power stations to be closed or retrofitted with carbon capture and
storage when they turn 50), emissions intensity or a market mechanism (as
proposed by Jotzo and Mazouz). Ultimately, policy makers should view such a
closure policy as not only an important means of securing energy supplies from
modern generation equipment; but also an effective way of systemically reducing
greenhouse gas emissions and providing communities the certainty they deserve
to plan for such a transition.
Mr Andrew Stock of the Climate Council told the committee that without a
coordinated closures policy, it is difficult for generators to properly plan
and announce plant retirement decisions:
Planning for closure is actually quite problematic at an
individual operator level for some quite difficult commercial reasons—that is,
the electricity market operates much like another financial market would in
that people selling electricity not only trade in the physical product on a
day-to-day basis where they dispatch but they also trade financially in the
futures market to support their physical retail contract positions. So when a
decision for closure is made, it is very hard to telegraph that because if you
are doing that you are trading with inside information potentially. This is one
of the reasons why closure announcements come in the current market in the way
they do. If the owners of power stations make a final decision before they
announce that decision to the market, they are potentially trading with inside
information, and that has quite serious consequences.
Various policy mechanisms have been discussed as potentially aiding the
transition away from coal fired power generation and towards lower emissions
generation. These approaches are discussed further below. Several of these
proposed mechanisms have been investigated by the Climate Change Authority
(CCA) as part of its Special Review of Australia's climate action, initiated in
2014 and completed in August 2016.
As part of this special review, the CCA commissioned two sets of modelling on
the effects of different carbon pricing policy options on the electricity
Policy mechanisms based on direct regulation
Policy options based on direct regulatory responses by government (as
opposed to market-based mechanisms implemented by government) considered by
stakeholders to the inquiry included payment-for-closure schemes and several
other models for regulating the closure or ongoing operations of coal power
Under this model, governments agree to pay certain power station owners
to close, encouraging an orderly exit of older and high-emission coal power
stations from the market. The Australian Government previously announced a
'contracts for closure' scheme in 2011, as part of its clean energy package
that also included the introduction of a carbon price.
Dr Jenny Riesz summarised the outcome of the proposed scheme as follows:
This scheme aimed to permanently close around 2000 MW of
highly emissions intensive generation capacity by 2020 via payments to
particular plant owners from the Federal Government. The amount paid was to be
determined by negotiation...
Closure proposals were received by the Government from all
eligible generators in early 2012. Negotiations ceased on 5 September 2012 with
the announcement that no agreement had been reached. Again, there were
differing views on the reason for this outcome. However, the expectation of a
low carbon price, high gas price and high black coal price appear to have
pushed up the asking price of brown coal generators beyond that which the
Government was prepared to pay.
A variant of this kind of scheme to retire brown coal power stations is
due to be implemented in Germany: starting from October 2016, a capacity of 2.7GW
of power from three brown coal plant operators will be taken out of production,
with payments of 230 million euros per year made to the operators over a seven
year period. The cost of these payments is borne by electricity consumers
(increasing costs to consumers by 0.05 euro cents per kilowatt hour).
Direct payment-for-closure schemes have been criticised for a number of
reasons in the Australian context. Professor Frank Jotzo and Mr Salim Mazouz argued
in their 2015 paper on the retirement of coal fired power stations:
...payments-for-closure schemes can lead to unhealthy
expectations of future industry subsidies from government and therefore a
deferral of plant closure decisions with associated emissions.
Secondly, the politics of paying significant sums of
taxpayers' money to the owners of old, highly emissions intensive power
stations would be highly problematic. It also does not fit the narrative of the
present Emissions Reduction Fund (ERF) mechanisms, which is one of subsidising
businesses taking positive actions to move to cleaner production processes, not
of compensation payments to sunset industries.
The COAG Energy Council expressed the view in December 2014 that it does
not support assistance to generators to exit the market.
Alinta Energy, which closed its Flinders coal mine and power station in
South Australia in May 2016, submitted that no government payments or
incentives to close are required. It argued that the market 'understand[s] and
price[s] the cost of closure into the long term planning', and ultimately the
public purse should not pay for private closure.
Direct regulation of power station closures
Another set of options available to government would be to introduce
regulatory measures that directly police the emissions performance of power
stations, or mandate the retirement of coal fired power stations based on
specified criteria. Direct regulatory responses could include:
introducing standards for the emissions performance of new or
existing power stations, creating industry-wide standards;
facility-level absolute emissions baselines for high-emission
generators (i.e. where each plant has a baseline for their total emissions
that they must not exceed); and
mandated closure of power stations over time, on the basis of age
or emissions intensity.
The Australian Energy Council commented on regulatory closure options in
Regulatory closure, or even the requirement to give an
extended closure notice, may prejudice both financing arrangements and supply
contracts of power plants. This may then precipitate a disorderly closure if
loans are called in early or suppliers terminate contracts. However, all of
this depends on the type of regulatory closure.
Emissions standards for power
Mandating emissions performance standards for any new power generators
would prevent any new high-emitting coal fired stations from being built.
Canada has implemented an emissions standard for new and existing coal fired
generators, meaning that no new coal fired power stations can be built without
carbon capture and storage (CCS) technology.
Similar to Canada, the United States has adopted emissions standards for
new coal generators, which effectively require CCS to be implemented in any new
Emissions standards of this type have been considered by the Australian
and state governments in the past, and have been implemented only to be
subsequently withdrawn in some Australian jurisdictions.
Absolute emissions baselines for
This model would set a baseline constraint on emissions output of each
incumbent generating facility, without any market-based certificate trading
The emissions baselines for each plant can be decreased over time to steadily
increase the level of emissions reductions required and force generators to
adopt low emissions technology (e.g. implementing CCS retrofit for coal plants)
or exit the market.
The potential impact of a version of this policy in Australia was
modelled by Jacobs Group (Jacobs) in 2016 for the Climate Change Authority,
which found that its introduction would cause significant electricity price
increases in the 2020s, more so than other policy options.
Regulated closures of coal fired
power stations over time
This policy option involves the regulated closures of coal stations over
time, either on the basis of age or on the basis of emissions intensity. As
explained by Jacobs:
[These schemes] would close existing coal capacity in roughly
linear fashion starting with the oldest or most emissions intensive, with the
order of plant closure publicly announced at the time the policy is introduced.
Each plant identified for closure would be legally required to either close or
CCS retrofit by its closure date.
Modelling conducted for the CCA by Jacobs in 2016 investigated the
option of government mandating the regulated closures of all remaining coal
fired power stations operating in Australia by 2030 on the basis of age. Under
this scenario, coal generators that do not undergo a retrofit to incorporate
CCS technology would be closed on the basis of age, and no new coal capacity
could be built without CCS technology.
This scenario modelling found that pursuing this policy would lead to
less overall emissions reductions by 2050 than other policies modelled (which
are discussed further below).
The CCA also found that regulated closures would be a more expensive means of
reducing carbon emissions than market-based mechanisms:
[The CCA's] analysis of regulated closure indicates that
using it to achieve a large post-2020 emissions reduction goal in the absence
of other measures in the electricity sector would entail higher costs than
other policies and would not offer a direct incentive for new low-emissions
plant to be built.
Choosing plant age as the basis for progressive power station closure
under this model may also not produce the most efficient outcomes. Jotzo and
Mazouz argue that the information asymmetry between governments and plant
owners is a significant drawback to the directly regulated closures model:
Direct regulation suffers from government not having
sufficient information about business cost structures, and therefore it would
be difficult for the regulator to identify which plant would be the most
cost-effective to close and how much to offer in compensation if such
compensation was offered.
Further, they argue that in Australia's current political context 'it
appears unlikely that a government would choose a pure regulatory approach that
singles out power stations and imposes the full cost of early closure on the
owners of that station'.
Associate Professor Jotzo commented further at a public hearing:
The regulated approach, according to a timetable, age or
emissions intensity would obviously give great predictability of the schedule
of exit. In my view, it has the disadvantage of not being the least-cost
pathway. Almost by definition, the least-cost pathway of exit will deviate from
45 years out or whatever it may be. If a government wanted to go down the
regulatory closure pathway, you would want to combine that with flexibility
instruments such as tradeable operation rights.
Doctors for the Environment Australia recommended that the degree of
pollution and its danger to local communities should be a major factor in
deciding priority for closure and in advising community and workers of the need
for closure. It noted that several states in Australia already impose pollution
licensing fees on power plant operators that could in theory drive the closure
of heavily-polluting plants, but argued that these schemes 'have been
ineffective due to the inadequate scale of fees imposed'.
The CCA concluded in a research paper in August 2016 as part of its
Special Review that a market‑based mechanism to reduce carbon emissions
should be implemented in the Australian electricity supply sector:
A market mechanism in the sector would allow Australia to
meet its targets at a lower cost to the community than would be possible
without such a policy in the toolkit. The sector's characteristics (measurable
emissions, relatively small number of large emissions sources, sophisticated
profit-seeking investors operating in generally competitive generation markets)
suggest market mechanisms will be feasible and more cost-effective than the
alternatives. In addition, market mechanisms can be scaled to achieve deep
emission cuts, and are flexible to changing market and technology conditions.
The market-based policies considered as part of the CCA's review
included: a cap and trade scheme; an emissions intensity scheme; a carbon tax;
and a baseline and credit scheme.
Under all the policy scenarios modelled as part of the CCA's review
(including the direct-regulation models discussed above), coal fired generation
would decline significantly in Australia in the medium term. As Jacobs stated
in its final modelling report, all the policy scenarios modelled involve the
entire brown coal fleet and two-thirds of the black coal fleet being
decommissioned by 2030.
Emissions intensity schemes
The CCA ultimately recommended the introduction of an emissions
intensity scheme for the electricity supply sector in Australia.
Jacobs gives an overview of how such a scheme would operate in its modelling
report undertaken for the CCA:
An emission intensity baseline is set for the electricity
supply sector as a whole (based on tonnes of carbon dioxide equivalent per
megawatt hour sent out). All generators are allocated permits (representing one
tonne of carbon dioxide equivalent) equal to their own generation multiplied by
the baseline. At the end of the compliance period all generators surrender
permits for each tonne of carbon dioxide equivalent emitted. This effectively
means that generators with intensity below the baseline have surplus permits to
sell (so receive a subsidy) and generators with intensity above the baseline
need to buy additional permits (so incur an extra cost). Emissions permits can
also be banked indefinitely for future use or borrowed in limited quantities.
Demand for permits available in each year creates an explicit
carbon price, and the relative price of electricity made from more
emissions-intensive sources increases. In contrast to a conventional cap and
trade scheme, there is no absolute emissions cap, so in practice overall
sectoral emissions will vary depending on electricity demand.
Jacobs' modelling on this policy scenario predicts that during the first
decade of implementation (that is, 2020–2030) all coal fired power stations are
shut-down as a result of the imposed policy, with mostly wind generators and
combined cycle gas turbines replacing the retired capacity.
The generation mix for electricity supply in Australia to 2050 under this
scenario is shown in Figure 3.1.
Origin Energy stated its support for a mechanism like this to manage the
transition to a low-carbon electricity sector:
Origin supports the progressive decarbonisation of the
electricity sector in Australia and an eventual goal of net zero emissions by
2050 or earlier. We believe the introduction of a well-designed cost of carbon
abatement for the electricity sector, such as an emissions intensity scheme, is
the key to managing this transition.
Jotzo model for regulated closure
of brown coal power stations
Jotzo and Mazouz advocate for a different type of market-based mechanism
to drive the closure of the most emissions-intensive brown coal station(s) in
They argue that in the absence of any policy intervention, the economics of
Australia's fleet of coal fired power stations is such that black coal stations
may close operations first, before the more emissions-intensive brown coal
This would lead to poorer environmental outcomes in terms of overall carbon
emissions and air pollutants than if brown coal capacity was closed earlier and
black coal generation capacity remained online.
Their suggested model is in effect a hybrid market-based regulated
closures model. It is summarised as follows:
The principle of the proposed mechanism is that government
offer power plants the opportunity to bid for the closure of some amount of
capacity, leaving it to the bidding process to determine which plant(s) will
close and what the magnitude of the payment to the closing plant is. The
remaining plants are then mandated by government to make financial transfers to
the plant that exits the market, in line with their emissions.
Jotzo and Mazouz argue that such a mechanism would: provide emissions
savings from plant closure at least cost; rely on a market mechanism to
identify which plant should close and what magnitude payment is required; avoid
budgetary costs by sourcing the payments for closure from the power stations
remaining in production; and provide some incentives to adjust the power mix to
Competitive bidding process to
identify which stations to close
Under the Jotzo model, relevant plants (most likely Victoria's brown
coal fired power stations) would be invited to submit a bid for the amount of
money they would be willing to accept in return for ceasing operations by a
predetermined date, remediating their plant site and funding an assistance
package to their workers and local communities. A government regulator would
then assess the bids, alongside the likely emissions savings resulting from
each possible closure, and choose the most cost-effective bid.
The generator chosen for closure would then receive the full amount
specified in their bid, in pre-determined instalments, paid for by the other
generators remaining in the market. Under Jotzo's preferred model, the share of
payments each remaining generator would need to contribute would be determined
on the basis of their carbon dioxide emissions during the year following the
closure of the chosen plant, creating further incentives for high-emitting
plants to submit low bids in the bidding process.
Jotzo and Mazouz consider that the cost of such plant closure (and its
capacity exiting the market) would be reflected in some rises to electricity
prices. They estimate an increase of five to 14 per cent in wholesale prices
over the course of one year (and dropping again afterwards), with a
corresponding increase in retail prices in the order of one to two per cent,
over one year.
Associate Professor Frank Jozto discussed his model with the committee
at a public hearing:
Our proposal, in a nutshell, is for a market mechanism
whereby existing power stations submit bids as to financial compensation
required to shut down according to a pre-agreed time line. A government or
regulator would choose the most attractive bid, which may well be the bid that
delivers the greatest expected emission savings per dollar of compensation
required. This is a competitive process—best bid wins—and the money is then
levied on the remaining power generators. The logic behind that is that these
are the power generators that will benefit through increased capacity
utilisation of their plants and, to some extent, through increased prices in
the wholesale market. This would enable for exit according to a timetable. It
would create a source of funding for structural adjustment, and possibly also
for improved site rehabilitation above and beyond the level that is required by
law of the exiting companies.
Criticism of Jotzo model
The Jotzo model has been criticised, most notably by Frontier Economics
in a May 2016 paper.
This paper argues that the predicted electricity impacts of a closure of one of
Victoria's brown coal power stations, as advocated for in the Jotzo model,
would be much more significant than Jotzo and Mazouz allow for. Frontier's
estimates are that retail prices would rise by up to 25 per cent in Victoria in
the year immediately following closure, with sustained price rises of 9 per
cent in following years, as well as less severe price rises in New South Wales
and South Australia.
Options for implementation of
policy combinations and need for further research
Stakeholders highlighted the fact that a combination of policies may be
required to effect an orderly exit from the market of coal generators and
concurrent increase in generation capacity from renewable sources.
In particular, some argued that the continuation of a large scale renewable
energy target beyond 2020, when coupled with other policy mechanisms to
constrain emissions from coal generators or regulate their closure, would be
the most effective means of managing this transition.
Associate Professor Jotzo made the point that currently, research on options
to facilitate closure of coal fired power stations in Australia has been relatively
limited. He argued that additional work is required to fully understand the
options and provide input to policy, including by further investigating:
how policy mechanisms for power station closure would interact
with other policies, such as baseline-and-credit or the renewable energy
how predictability of exit can be achieved without unduly
compromising cost effectiveness, including the potential role for industry
options to provide effective support for structural adjustment,
and how to raise funds for structural adjustment ideally without relying on
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