All sides of the climate wars should give the NEG a chance

by Tony Wood

Published in the Australian Financial Review, Wednesday 15 August

Australian homes and businesses need lower electricity prices. How to make that happen is now a three-way debate between federal Labor, the federal government and a vocal minority in the government. Addressing climate change has been downgraded or vilified.

To assess the opposing claims requires returning to the basics of electricity pricing. According to the Australian Competition and Consumer Commission’s recent report on electricity affordability, the average residential consumer now pays $1636 a year for electricity. The components of the bill are: network (43 per cent), wholesale (34 per cent), retail (17 per cent) and environmental (6 per cent).

The ACCC concluded that there are affordability issues in all four components. The report supported the National Energy Guarantee (NEG) and made 56 recommendations to reduce electricity bills by an estimated $404 by 2020-21.

In 2017, the Energy Security Board recommended the NEG as a model that could end the climate wars by directly linking emissions reduction with electricity reliability at low cost. Economic modelling for the ESB, with an emissions reduction target for the electricity sector of 26 per cent below the 2005 level by 2030, indicates that wholesale prices will be lower with the NEG than without, based on the assumption that the investor confidence and contracting arrangements flowing from this policy would lower wholesale costs.

They can’t all be right

Prime Minister Malcolm Turnbull and his Energy Minister Josh Frydenberg are now assailed from both sides. Federal Labor wants a higher emissions reduction target of 45 per cent, and an objective of 50 per cent renewables. The Coalition minority wants to either scrap the emissions target completely or build new coal plants. The government, federal Labor and the Coalition minority all argue that their alternative would deliver lower prices. They can’t all be right.

The primary price impact of emissions policy is on the wholesale component of electricity bills. From 2015 to 2017, average wholesale prices increased from around $50 per megawatt hour to more than $100 per megawatt hour in real terms, and this flowed through to consumers. This price hike was mostly due to higher gas and coal costs and the closure of some low-cost power plants. In the past six months there has been some relief on wholesale and network prices, through a combination of government actions and gas availability.

Most economic modelling shows that wholesale process will fall to $60 per megawatt hour or less over the next three years, due to the increase in rooftop solar panels and the wave of large-scale wind and solar projects that will be delivered through the Renewable Energy Target before it peaks in 2020. More supply, especially if subsidised outside the market, and flat or falling demand will lower prices (although the cost of the subsidies gets added to the consumer bill).

What happens after 2020? The closure of the Liddell coal plant in NSW, scheduled for 2022, is expected to increase prices, as did the closure of the Hazelwood coal plant in Victoria in 2017. And even without the NEG, the share of renewable energy is projected to increase from 17 per cent today to around 34 per cent by 2030. The ESB modelling projects this share will be 36 per cent with the 26 per cent emissions reduction target, and that the NEG will deliver savings of $140 a year for the average household.

Decentralised system

Analysis for the 2017 Finkel Review indicates that the cost of all sources of electricity generation, including new coal and renewables with storage to balance intermittency, will be around $70-$80 per megawatt hour between now and 2030. Federal Labor and some Labor states argue that their higher emissions reduction and/or renewable energy targets will reduce wholesale prices further than the current federal government target. But for this to happen would require some combination of existing, and even new, investors losing money, further subsidies for new investment, or costs falling much further again.

All are plausible. But the first is unlikely to be sustainable and could accelerate plant closures, the second requires higher consumer prices to pay for the subsidies, and the third is inherently uncertain. And, at some point, more distributed renewable generation and storage will require additional investment in transmission infrastructure – and that spending will flow through to consumer bills.

Australia is moving to a lower-emissions, decentralised energy system. Clear emissions policy to guide that transition, maintain reliability and deliver lower prices is today’s urgent priority. The NEG, or something similar, can meet that need and be “scaled up” in future to meet more ambitious emissions targets. It should be given a chance.