New Zealand faces a once-in-a-generation opportunity to transform the economy, but only if political leaders have the courage to address deep-seated structural problems in the energy market.
That is the message from the Auckland Business Chamber which, together with the Northern Infrastructure Forum and a host of independent energy companies, is today launching a two-step plan for reform of the energy market. The new plan is the latest phase in the Chamber’s campaign for policy changes that will help deliver affordable, abundant energy for Kiwi businesses and households.
Chamber CEO Simon Bridges says estimates by Transpower show that New Zealand stands to grow the economy by $30 billion annually if it can bring on an additional 20 terawatt-hours of supply (equivalent to around half of today’s total renewable energy generation).
This goal is real and achievable, he says, but it will require policy-makers to address two key structural issues in the energy market:
- Concentration in the generation market, with the four gentailers controlling 85% of New Zealand’s generation and 95% of firming (or back-up supply); and
- The gentailers’ vertically integrated model, where the generation and retail arms act as a single, integrated business.
Mr Bridges explains that the problem is one of incentives.
“Concentration on the generation side incentivises gentailers to hold back new supply, because additional supply will bring down prices and reduce income from existing assets. It also incentivises them to withhold firming from independent projects – those projects can’t get off the ground without it.
“Vertical integration allows gentailers to sell energy internally (i.e., the generation arm sells to the retail arm), at prices no one else in the market can see. This has led to a shallow and illiquid contracts market – independent retailers are shut out, and competition hasn’t developed.
“The inevitable result is scarce supply and high prices, which is exactly what we’ve seen for the last six or seven years, which is crippling businesses and households alike.”
While significant investment has gone into renewables over the last year or so, Mr Bridges says, it’s well short of the 20 terawatt-hour threshold.
“In terms of the projects that are actually committed to be built, versus what gentailers have signalled they might build, the anticipated new capacity is closer to 5 terawatt-hours – that’s to say, one quarter of what we need.”
The plan launched today consists of two measures, which are designed to work in tandem:
- Separation of the generation and retail functions of the gentailers, in order to open and intensify competition in the retail market; and
- Establishing Long-Term Energy Supply Agreements (LTESAs) for generation, to allow independent projects to bypass the firming barrier, thereby unlocking the massive uptick in renewable generation that is required.
Northern Infrastructure Forum Executive Director Barney Irvine explains that gentailer separation would be operational rather than structural, at least in the first instance.
“Each gentailer would be required to operate its generation and retail businesses as legally distinct entities, with separate boards, management and commercial decision-making.
“This is not a structural break-up. There are no forced asset sales. It simply means the internal deal-making that currently keeps the contracts market illiquid is replaced by real market trading.”
He adds that recent steps by the Government to force gentailers to treat competing retailers the same way they treat their own retail arms when supplying hedge contracts will not achieve the same thing as operational separation.
“Those measures are pointed in the right direction, but they don’t change the underlying issues that drive and enable competitive discrimination in the first place. Compliance will be hard to monitor, and it’ll be too easy for gentailers to find non-price ways to favour the in-house retail arm. Without addressing gentailer incentives – in this case, the incentive not to strengthen retail competitors – little will change.”
LTESAs, meanwhile, are long-term contracts between a new-generation project and a Crown-backed entity, and essentially function as a revenue support mechanism, helping independent projects get to financial close without having to rely on firming. The concept is based on similar approaches in Australia.
The LTESA gives the project the option to sell all or part of its generation to the Crown-backed entity, at a competitively bid fixed price.
When wholesale prices are below the project’s fixed price, the Crown-backed entity pays the difference; when wholesale prices are above the fixed price, the project pays the difference.
“This is not a subsidy, or a case of corporate welfare,” says Mr Irvine. “The project is required to repay the Government for any net support received.”
Mr Irvine explains that both initiatives are necessary.
“Operational separation alone opens the contracts market, but does not address the firming barrier, which prevents independent projects from being financeable. LTESAs alone reduce revenue risk for independent generators, thus bypassing the firming bottleneck, but do not address the illiquid contracts market. Implemented together, the two steps close both gaps at the same time.”
The Chamber-led campaign is calling on all political parties to adopt the two reforms as policy.
“The time for incremental adjustments has passed,” says Mr Bridges. “The question for every party standing for election this year is simple: do you believe New Zealand’s prosperity and living standards matter enough to fix the problems that hold them back?”
