Fiddling the electricity market, while consumers burn

Once again the government is fiddling with the electricity market to try to make it do two contradictory things. Once again it will fail.

The Minister of Energy is gradually drip feeding results of the Electricity Market Review,  which is to be considered by Cabinet this morning. It seems it will abolish the Electricity Commission, set up by the Labour government to ensure security of supply and oversee the performance of the electricity industry against the goals of the Government Policy Statement.

That may be no huge loss. When the Commission tried to do its job under its first chair, Roy Hemmingway, and ensure that all more cost-effective alternatives to the new 400 kV line through the Waikato were properly considered it was embroiled in a stand off with the chair of Transpower, Ralph Craven. The Minister sacked the wrong one, and it was established that “build and be damned” still reigns, as it always has.

The Minister is saying he will not interfere in the commercial imperatives of the SOE generators (well, he can’t, given that the government wants to privatise them after the next election) but that he will also bring prices down. That is the push-me-pull-you that has bedevilled the power industry ever since Max Bradford’s reforms of 1998, which promised the same and did the opposite.

Electricity is unique among industries. With shoes or toothpaste, increased demand gives economies of scale and tends to bring prices down. With electricity, which cannot effectively be stored on any scale, and where the cheapest sites for hydro and wind and geothermal are always built first, and the price of fossil fuels is rising, increased demand raises prices. The next power station to be built will cost more than the last; and if it is fossil it will cost more to run than the average.

We will never be able to rely on competition to keep prices under control in the NZ market, as some of us repeatedly told Max Bradford and his government in 1998. Our market is closed and small. We cannot import or export electricity. There are few players – in most parts of NZ there are only three substantial players in the retail market. Generator-retailers have an advantage in the area where their generation is based.

There is little price competition because the market structure dictates that every generator whose plant is run at any given time gets the same price, which is the price bid into the market by the marginal generator. This creates all kinds of perverse incentives for gaming to keep the price high at the margin even by holding back cheaper generation at off peak times when the price is lower. It is virtually impossible to prove the extent to which this behaviour happens.

The message has been clear for several decades, but for some reason people just don’t want to accept it. There is a direct trade off between electricity prices and the degree of security we demand. If we demand no need for energy conservation in a 100 year drought, it will cost more on daily power prices than if we demand no  conservation in a 60 year drought.

The more security we demand, the more power plants will have to be built and stand idle most of the time, waiting for that rare combination of dry winter, unexpected plant outage and record level of demand. Idle plant costs money. Consumers have never really been asked how much they are prepared to pay for this level of security, or whether they would rather turn off a few things they aren’t really using when the lakes are very low, and how often they are prepared to do this. Instead successive governments have pretended we can have it both ways.

In a market system, prices have to be high to incentivise power companies to build more plant, and low to satisfy consumer and  political demands, particularly when so many people are existing on such low incomes. Prices can’t be both high and low – except under a progressive pricing tariff system, which the Greens have advocated for some 30 years, where a basic allocation per household is made available at a basic rate and above that increasing demand faces a rising stepped tariff. The higher price at the margin would provide the signal to build new plant. That is harder, but not impossible, to achieve under the system we have now.

The cheapest way to ensure security of supply would be to agree a series of conservation steps and a series of trigger points to implement them. These would be well publicised, and invoked early in what seemed to be shaping up as a dry winter. In March or April consumers would be told, “we are bringing in step one on the conservation plan, to avoid taking stronger action later. It’s time to do a simple check – make sure the towel rails are off when the towels are dry; that the computer and screen are off when you’ve finished for the day; that you turn off the TV at the wall and that you don’t leave lights and heaters on when you aren’t in the room”. This is much more agreeable than being told in July “everyone needs to save 10% immediately”.

Skimming the top off the load in Autumn would usually prevent a winter crisis but in a particularly bad year we could move to steps two and three as we needed to. Foyer lighting in commercial buildings could be reduced, as could street lighting in areas where there are no pedestrians. There are heaps of other opportunities that are not onerous. This would keep power prices affordable for everyone without power cuts. But successive governments have been made aware of the idea and rejected it out of hand.

So once again the government of the day will tweak the electricity system, promising both security of supply and low prices, and once again we will get neither.

9 Comments Posted

  1. Drakula, I have seen comments that the agreed price made no allowance for inflation. That wouldn’t initially have been a problem in the second agreement since Comalco was to repay for the entire construction costs of the scheme, unless it omitted to allow for inflation during the construction period. But once the loans were payed off and the price Comalco payed had to cover operating costs then not including inflation would have been a killer in the ’70s. In fact even modest 1% or 2% inflation would have been a killer by now.

  2. I am still looking for the info I know that they (Comalco) had a deal with the government of the day for a very cheap rate of power for 99 years.

    Even Muldoon tried to overturn the contract without any success.

  3. Drakula, I’ll look forward to any more-up-to-date info you can find. The original agreement was the one Labour signed with Commonwealth Zinc Corp, under which Commonwealth Zinc Corp was to build the scheme in return for the water rights to Manapouri and Te Anau. That agreement was amended in 1963 when what was now Comalco decided their lines of credit wouldn’t stretch far enough to fund the Manapouri scheme so responsibility for building the scheme was transferred to the government with the govt retaining the water rights and Comalco receiving electricity at a price that covered the full cost of capital on the scheme.

    I don’t know what amendments to the agreements may have followed from the government deciding not to raise Manapouri as it had agreed to in both the ealier agreements.

  4. OK Kev: What you are telling me about Comalco’s capital expenditure doesn’t seem to square with many of the articles that I have read in Campaign Against Foreign Control (CAFCA) articles that I subscribe to.

    Because according to them New Zealand got very much the short end of the deal.

    One thing is for certain we know that the profits are not staying in this country.

    I am going to go and find those articles!!!!

    I’LL BE BACK!!!!!!!

  5. There is no power monopoly in New Zealand, though few note that the retail sector was effectively nationalised over the past ten plus years by the generation SOEs buying up retail arms or setting up their own. If they were all privately owned, the incentives to compete more vigorously would be higher, but by and large the electricity reforms have delivered.

    The problem is the Greens want cheap power for some, but want everyone to use less – the best way to encourage less usage is higher prices. A conflict between environmental motives (energy conservation) and socialist motives (have some people pay less than the cost of providing the product).

  6. That’s a very selective memory you’ve got there Drakula. Electricity couldn’t have been much cheaper than it is today because electricity was in short supply and we all had to pay a price premium for all the new power stations that were being built, just like today.

    Comalco’s original deal with the government was that they would pay for the capital and interest costs of building the Manapouri scheme with six turbines, sufficient to operate the smelter, over thirty years. I haven’t seen detailed costings that justify the current cheap price but the fact that the smelter still draws all it’s power from a dedicated grid and power station means there is no ethicly acceptable reason for charging them for any part of the costs of the national grid or newer power stations. That might explain the entire difference in the price payed by Rio Tinto or it may not.

    Those who worship the cash cow of ‘free enterprise’ will be delighted that Bradford’s reforms have led to a 75% price reduction for energy saving lights, a 25% real reduction for insulation and 0% real price increase for solar water heaters.

    Those who understand the free market rather than worshipping it will see that the free market has delivered a textbook solution to meeting the economy’s energy needs at the lowest cost. People who have never bothered to check the basic economic theory think the reforms failed to deliver cheap electricity. IMHO, there seem to be a lot of NZ First voters in that latter group.

  7. Provided they are prepared to pay a reasonable price, the aluminium smelter is good for New Zealand. This is one load that can be reduced when we have a “dry year”. New Zealand has abundant sources of renewable energy for electricity generation so it makes sense to use these and export the energy that we don’t need.

    What doesn’t make sense is importing coal (or gas) so we can burn it in an inefficient power station so we can import bauxite and refine it just so we can export the aluminium.


  8. I think things were a lot simpler in the 1970’s when electricity producer and supplier were under one umbrella: New Zealand Electricity Department.

    That is not to say that power was much cheaper, it could have been but it wasn’t because NZ had a very large monkey on it’s back: Comalco (now known as Rio Tinto)

    The aluminium smelter uses the equivilant of approx. 500,000 domestic homes daily. Rio Tinto has often threatened to leave and go to other shores!!
    Should we stand in their way?

    Or should we give them the Chinese burn?

    For those who worship the cash cow of ‘free enterprise’ I don’t see much evidence (in Dick Smith etc.) of supplying the public with reasonably priced solar cells, and wind turbines.
    Could this upset the applecart for those carving up the power monopolies?

Comments are closed.