Australia: Energy White Paper 2012: managing peak electricity demand - who should pay to keep you cool this summer?

As summer starts people will be turning on their air conditioners in ever increasing numbers. One area where the energy market is currently distorted is in the determination of electricity prices paid by consumers, particularly as it relates to peak demand. The White Paper proposes a number of significant reforms in this area which are likely to be as unpopular as they are necessary.

In recent years peak electricity demand has continued to increase, while total electricity consumption has been flat or declining. The need to meet growing peak demand for electricity has driven large investment in generation and network infrastructure.

The limited period for which this peak capacity is required (25% of the capacity of the electricity system is used to supply power during peak events that last for less than two days each year in total) has resulted in inequitable cross subsidies between different groups of consumers to pay for that investment.

The White Paper uses the example of a 2-kilowatt electrical reverse cycle air conditioner which, while costing around $1,500 to buy and install, could impose capital costs on the energy system as a whole of $7,000 when adding to peak demand. The additional system capital costs are recovered over time through energy bills spread across all customers, because electricity is generally priced using a fixed tariff approach. Only a fraction of the real cost of that energy use is paid for by the purchaser of the air conditioner.

This cross subsidy problem feeds into two reforms advocated by the White Paper, being retail price deregulation and the rollout of enabling technologies (principally smart metres). Both of these present political challenges.

While most Australian states and territories have introduced or committed to introduce full contestability in the retail energy markets, only Victoria has deregulated retail prices. While the balance of the states and territories have committed to the removal of energy price regulation where effective competition exists, the White Paper is rightly critical of the lack of progress in this area.

The White Paper recognises that the transition to a deregulated retail price market may present challenges where retail margins have been set below market rates for some time, as there is likely to be a period of higher transition prices.

However, deregulated retail pricing is in the best long term interests of service providers and customers alike. Having prices set through competitive markets incentivises suppliers to be more efficient and innovative in the range of services and products offered to consumers.

The White Paper champions the rollout of smart metres and commits the Government to developing a national framework to guide smart metre deployment. Smart metres allow time-of-use pricing for electricity consumption (such that the customer pays the market price for electricity for each half hour interval). Victoria is the only State to have undertaken a rollout of smart metres and from 1 July 2013 customers can choose to move to a time-of-use pricing scheme.

Smart metres would remove the cross subsidies that exist in current tariffs. This is likely to see a reduction in peak electricity demand, where market prices are at their highest, which in turn could moderate the level of investment required in generation and network infrastructure.

The States face the challenge of delivering the reforms proposed in the White Paper. While the reforms are not new, the delay in their delivery speaks to the political challenges of implementing them in a period of rising cost of living pressures. The White Paper reports that on average household electricity prices have ballooned by more than 40% nationally over the past three years.

The rollout of smart metres combined with deregulating retail prices, could initially pose large risks to consumers especially where their knowledge is underdeveloped. The White Paper acknowledges that appropriate consumer safeguards and information tools are needed to mitigate or reduce those risks, particularly for vulnerable customers.

While other approaches to managing peak demand have been utilised (such as paying large customers to cut power usage in times of peak demand) the White Paper rightly promotes a longer term solution under which all consumers are given the right signals to change behaviour.

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