Phil Ruthven, one of Australia’s leading independent business forecasters, analysts and strategists, cut through the static this week to sum up the reality of the current “crisis” in the energy sector.
“How on earth did the impression arise that electricity retailers are gouging customers and making a fortune?” the IBISWorld founder and director asked in a letter to the Australian Financial Review.
“The fact is that the five biggest electricity retailers, with a 54 per cent share of the market, averaged a pitifully low 5.5 per cent return on their shareholders' funds over the five years to 2017. That is lower than commercial property returns and way lower than we expect in superannuation returns.
“Is this ignorance, or dishonesty by our political leaders? Prices did go up, but not because suppliers are ripping off customers. Indeed, the entire energy bill (electricity, gas, oil etc) for households is less than 1.7 per cent of household income, and less than our net gambling (1.9 per cent) and less than alcohol & tobacco (2.5 per cent).”
Despite that assessment, borne out of Australian Bureau of Statistics data and the recent HILDA survey data which indicates that electricity prices peaked in 2013-14, suggestions that a royal commission may be required continue. It is unclear what the Prime Minister and Energy Minister mean when they refer to wielding a ‘big stick’, and certainly they are keen to distract from their failure to progress the National Energy Guarantee (NEG), but what is clear is that the political heat around energy costs has only increased in recent weeks.
This comes on the back of an extended period of increased and intense focus on the sector. That attention has included a series of reviews, including the Finkel Review, Australian Energy Market Commission assessments and the Australian Competition and Consumer Commission’s (ACCC) detailed look at electricity pricing.
Based on this work and actual available data it is difficult to see what taxpayers would learn from a royal commission that has not already been thrust into the light by the work of ACCC chairman Rod Sims and his team after 15 months of what can only be described as a forensic look at the energy industry.
In addition, electricity pricing will continue to be closely watched and monitored. On 20 August the then Treasurer (and now Prime Minister) Scott Morrison directed the ACCC to hold a public inquiry to look at prices, profits and margins in the electricity sector. Its first report is expected in March next year with subsequent reviews to be held every six months until the end of August 2025. The terms of reference given to the ACCC are extensive[i]. The ACCC’s earlier review into energy prices Restoring electricity affordability & Australia’s competitive advantage was also commissioned by the Prime Minister Scott Morrison when he was Treasurer, and did not find any evidence of misconduct in the industry. It did point to a range of factors that had led to the current energy situation including that “at all stages of the supply chain decisions have been made by many governments that set the National Energy Market on the wrong course”.
It felt that the NEG as proposed by the Energy Security Board could assist in “delivering electricity affordability” and recommended support for the NEG (recommendation 5).
This was amongst 56 recommendations delivered by Rod Sims based on industry cooperation and a comprehensive deep dive based on more than 10,000 documents from across the sector.
Looking through the microscope of these assessments, there is no secret why energy prices fluctuate. The major factor behind high power prices in the current market is wholesale price volatility because we’ve been existing in a policy vacuum for more than 10 years. We do not have sufficient levels of investor confidence to drive the kind of investment the market very badly needs.
The NEG promised investment certainty and lower energy prices for Australian households and businesses (in tandem with reliability and lower carbon emissions). At a time when the industry has been seeking policy clarity, the lack of which has been at the core of current high prices, Australians will be left without an energy framework or emissions reduction ambition. Managing carbon risk will remain a material issue for all businesses, but particularly energy businesses. The ability of these businesses to raise capital and invest increasingly depends on their ability to demonstrate prudent management of future carbon risk.
The energy industry has been worked closely not only with the Government and the Energy Security Board through the design of the NEG, but with the Finkel Review and the ACCC inquiry into the National Energy Market.
Both the Finkel Review and the ACCC inquiry offered thorough and considered analysis and these two reports together with the exhaustive consultation in the design of the NEG represent comprehensive deep dives into the industry and its practises and considered objectively form the basis for sensible, stable and potentially bipartisan policy.
As other industry bodies including the Energy Users Association have made clear, the single biggest threat to energy prices is a lack of certainty in energy markets. Business and industry need policy certainty and stability and a decade of policy uncertainty has only resulted in higher electricity prices and a less stable and reliable energy system.
A royal commission would add more sensationalism to energy politics. It would send the very worst message at this time for investment confidence and ultimately consumer prices.
The Financial Services Royal Commission was the result of allegations of illegal practises uncovered by journalists and the admission from the financial services industry itself that a royal commission was justified. No such trigger exists for the energy industry.
Nor do recent profit results for Australia’s largest gentailers signal the need for an inquiry at the Commission level. Profits have been largely driven by the wholesale part of the businesses, not retail and those higher wholesale profits are a direct result of tightening of firm supply. Again, proper policy encourages investment which in turn drives down costs.
The COAG Energy Council has already sought powers similar to those of a royal commission for the Australian Energy Regulator (AER), amending the national energy laws to give the regulator the power to compel individuals to appear before it and give evidence. COAG is also seeking to conduct a targeted review of whether additional provisions of the national energy laws or subordinate instruments should attract the highest maximum civil penalty amount.
It is a safe assumption the AER will get these powers soon, once the COAG Energy Council secretariat determines how to implement them. These are akin to a royal commission’s power to compel individuals to give evidence, compel businesses to hand over documents, make recommendations to government, or prosecute breaches of the law in court against businesses or individuals.
Australian households and businesses need policy certainty, not more regulation or interventions that have the potential to undermine confidence and lead to further unforeseen consequences. The NEG might indeed be dead, but the need for workable energy policy is very much alive.
In February Texas endured a winter storm that dragged temperatures well below freezing. Electricity generation plant and gas infrastructure proved unprepared for these temperatures and around a third of the state’s effective capacity went offline for some or all of this period, just as demand was spiking to a new winter record.
A perennial discussion in energy market policy is the contest between what we are ultimately trying to achieve: “customer benefits” or “market benefits”. When making market rules, or building monopoly assets, rules require that we assess “net market” benefits. A number of recent government policies have been justified on customer benefit assessments alone.
The economics of traditional plants are well understood, but since their construction, the way they need to operate has changed substantially. This has been driven by a combination of the age of the plants as well as the large influx of renewables, which is changing the supply and demand patterns of the grid.
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