Key messages:

  • The ACCC has released its final report into retail electricity prices, following a 15-month inquiry.
  • The report is large (398 pages) and covers 56 recommendations – across the entirety of the electricity supply chain. 
  • For the retail market, amongst other things, the ACCC has called for the AER to be given power to fix a default retail price “as a fallback position for the disengaged” consumer.
  • The ACCC considers that a rule should be established preventing any future acquisition that would take a generator’s share in a NEM region (or nationally) over 20%.
  • Remarkably, in response to increased network costs over the last decade, the report calls for asset base writedowns by State Governments and for NSW to hand back an amount equivalent to the over-valuation of its poles and wires, privatised last year, through a rebate to NSW consumers.  The report relies on ‘top down’ analysis undertaken by the Grattan Institute to argue that asset writedowns would deliver 10-30% reductions in network revenues for distribution networks in Queensland, Tasmania and NSW.
  • The report takes up unfinished business following the Finkel Review – by calling for immediate smart meter rollouts and introduction of mandatory cost reflective network charges (issues not addressed well, or at all, by the Finkel Review).
  • To encourage more firm generation into the NEM, the report calls for the Commonwealth to take a greater role in financing generation through a program of low fixed-price offtake agreements for the later years of new generation projects.
  • Perhaps unsurprisingly, the report calls for a wider role for the ACCC and AER in a range of areas, including increased price and market monitoring – and for new rules to give the AER a role administering reporting of all over the top electricity grades, a new ‘market manipulation’ rule and substantially higher penalties for failure to comply with energy retail market rules.
  • The report calls for the AEMC to be given a ‘market making’ role in South Australia, effectively requiring large and integrated retailers to trade specified hedge contracts to support market liquidity (with a view that it may then be extended to other NEM regions).
  • The report estimates that if the recommendations are adopted there would be savings of $409 or 24% of annual bills by 2020-21.  Most of this estimated saving (over 50%, by our calculation) results from the impact of government asset write downs and increased government subsidies and rebates.  A significant proportion also relies on assumed reductions in NEM wholesale prices based on existing trends (i.e. without the recommendations).

What has happened?

On 11 July the ACCC released its final report following a 15-month Inquiry into the supply of retail electricity and the competitiveness of retail electricity prices.  The ACCC inquiry responds to growing public and political sensitivity about electricity prices and follows the major ‘Finkel Review’ of the energy market in 2017 as well as a range of other recent market reviews by other regulators.

The ACCC’s 398-page report makes 56 recommendations across all parts of the electricity supply chain and concludes that increased electricity prices over the last decade have been caused by pressures on all parts of the electricity supply chain: 

  • limitations and inflexibility in the regulatory framework and excessive government-mandated network reliability standards have led to high network costs;
  • perceived concentration in the market for generation has increased following the exit of large low-cost generators, primarily due to age but exacerbated by the distorted investment signals created by the Renewable Energy Target, and the fuel costs of the remaining baseload generators increased due to higher coal and gas costs;
  • State governments put in place excessively generous solar feed-in tariff schemes which spread substantial costs across all electricity users; and
  • retail pricing structures, including discounting structures which the ACCC criticises as opaque and not comparable across the market.

The ACCC makes 56 individual recommendations, the most notable of which are:

  • In relation to networks:
    • State governments should agree to voluntary writedowns of their network asset bases, or provide direct subsidies to electricity consumers, to provide redress for past ‘over-investment’ (recommendation 11);
    • the regulatory regime should be changed so that, in the future, the costs of ‘stranded’ network investments can be shared between networks and users (recommendation 13);
    • steps should be taken to accelerate the take up of cost-reflective network pricing which, initially, would involve demand tariffs based on customers’ maximum demand during peak usage times (recommendation 14).
  • In relation to wholesale generation:
    • sector-specific restrictions should be introduced to prevent any further acquisitions or other arrangement which would result in any market participant owning or controlling dispatch on more than 20% of generation capacity in any NEM region or across the NEM as a whole (recommendation 1);
    • the Australian Government should operate a program under which it would enter into offtake agreements for the later years (e.g. years 6 – 15) of appropriate new generation projects (recommendation 4);
    • the AEMC should introduce ‘market making’ obligations in South Australia to require retailers to trade specified hedge contracts, in order to support liquidity – with a view that it may be extended to other regions (recommendation 7)
    • the National Energy Guarantee should be adopted to provide a settled policy framework under which new investment is incentivised (recommendation 5).
  • In relation to retail markets:
    • the existing standing retail offer should be abolished and replaced with a default offer at or below a price set by the AER (recommendation 30);
    • any discounts advertised by retailers must be calculated by reference to the pricing level in the default offer (recommendation 32);
    • processes relating to customer losses and transfers should be changed to make it more difficult for incumbent retailers to make ‘winback’ offers to customers looking to transfer to another retailer (recommendations 8 and 9).

The remainder of this update analyses the broad themes in the ACCC’s report, takes a closer look at the ACCC’s claims of savings achievable if its recommendations are adopted and provides some additional commentary on each of the main three areas of the market in which the ACCC made recommendations.

Broad themes in the ACCC’s report

We consider that there are a number of broader themes in the ACCC’s report which are worth highlighting, specifically that the ACCC:

  • reveals a strong concern about inequality of outcomes, a concern which appears to be primarily motivated by equity concerns and not based on any analysis of economic efficiency;
  • makes a number of recommendations that would give the combined ACCC / AER a significant continuing role in overseeing the electricity market – and substantially expand this role into fixing default or standing retail tariffs;
  • focuses on the important question of efficient network pricing, and the associated question of improving cost-reflective network charges through increased rollouts of smart meters (this is a critical issue which was lacking in the Finkel Review); and
  • seeks to correct for what the ACCC sees as past policy mis-steps, including in relation to network regulation, reliability standards and environmental schemes.

In some cases, the ACCC re-visits old themes and concerns, although at times this feels more driven by historic policy views than any new or compelling evidence.  For example, the report criticises generation in the NEM as being “highly concentrated” – although this claim is not borne out by its own data, either in terms of capacity or dispatched NEM generation.  In fact, based on the concentration measure most commonly applied by the ACCC in its merger guidelines (the Herfindahl-Hirschman Index or HHI), NEM regions come in around, or even slightly below, the HHI threshold typically needed to trigger any concern. 

Despite this, the ACCC relies upon this concern to justify recommendations that:

  • would introduce a new redline test that would prevent any further acquisition of generation by a market participant that would take their share of capacity or dispatch above 20% in any NEM region or across the NEM as a whole;
  • call for the Queensland Government to divide its generation portfolio into three parts and ensure they are operated (and bid into the NEM) separately;
  • recommend the AER be given heightened powers to address future “market manipulation” in NEM bidding (despite the ACCC acknowledging this “is not a major feature of the market today”).

Moreover, the report fails to demonstrate that concentration or bidding behaviour are causing increases in wholesale pricing.  To the contrary, the ACCC report acknowledges that increasing wholesale prices are due to well-known dynamics such as the shift in generation mix across the NEM over the past five years.  Low-cost brown coal generators are the marginal (price-setting) generator in the market significantly less frequently, a role being performed more often by higher cost black coal, gas and hydro generators.  This change has been primarily driven by the exit of two large brown-coal power stations – Northern and Hazelwood. 

This trend has been coupled with an increase in the price of gas (arising from  increased demand for gas given the development of export facilities on the east coast) and black coal (arising from the expiry of some long-term contracts that were set significantly lower than current export parity prices).

A consumer focus – with concerns about inequality of outcomes leading to a call for the reintroduction of regulated retail prices

There is a strong flavour throughout the report that different groups of consumers are experiencing higher electricity prices in different ways.  The ACCC is clearly sensitive that the electricity pricing debate is not only about questions of competition and efficiency – but is being driven by distributional and social equity concerns.

In this regard, the ACCC explicitly recommends that consumer protection regulation in this area should embody a range of new principles including requirements to “reduce the risk of inequity in outcome between consumers in the retail market” (recommendation 47).  The ACCC recognises that flattening consumer outcomes in this way could mean that “some of the lowest offers available now will no longer be accessible, and consumers who seek out those offers may end up paying more for electricity” – an outcome it justifies on the basis that consumers currently benefiting from the very low offers “may be doing so at the expense of other consumers who are paying too much” (page 144). 

It is commonplace for products throughout the economy to be sold to different customers at significantly different prices, whether because some customers take advantage of time-limited discounts while others do not or as a result of individual negotiation off the ‘sticker’ price.   The ACCC does not make a strong case for why differences in consumer prices, of themselves, are unhealthy or undesirable

Interestingly, in other sectors where this has been a concern, the ACCC’s approach has been to focus on improved customer information and transparency measures – in order to improve levels of switching and competition.  However, the ACCC report in this case places less emphasis on consumer information and calls instead for more direct intervention into the market – including through the AER fixing a default retail price “as a fallback position for the disengaged” consumer (page 249). 

The ACCC goes to pains to seek to distinguish the new ‘default offer’ from the ‘basic service offer’ or “BSO” that had been called for in August 2017 by the Thwaites Review of Electricity and Gas Markets in Victoria.  In essence, though, the primary difference is that the ACCC default offer is more generous (allowing retailers to also recover customer acquisition costs) in order that it not be the lowest price in the market and so that there is still an incentive for both consumers and retailers to develop innovative and competitive pricing alternatives.

An expanded and ongoing involvement of the ACCC / AER in the electricity market

We have previously been critical of the multiple, overlapping and fragmented regulatory bodies that operate in the energy sector.  If accepted, elements of the ACCC report would make this worse.

By our count, 23 of the 56 recommendations that the ACCC have made in its final report would result in more powers being given to the ACCC or the AER (which shares staff, resources and facilities with the ACCC), or for existing powers of the AER to be expanded or strengthened.  Many of these recommendations involve ongoing roles for the ACCC or AER in overseeing or regulating aspects of the electricity market, including:

  • ongoing oversight of the proposed cap on ownership of generation capacity (recommendation 1);
  • administration of a repository of over-the-counter hedge contract trades (recommendations 6 and 41);
  • monitoring the effect of writedowns and rebates on network charges (recommendation 12);
  • setting the proposed default market offer (recommendation 30);
  • application of the consumer data right to the electricity sector (recommendation 31); and
  • regulation of a proposed mandatory code of conduct for third party intermediaries (recommendation 34).

It is also possible that the ACCC or AER would be the body tasked with administering the suggested NEM-wide retail price monitoring (recommendation 40), which the ACCC suggests should be modelled on the way data was collected during its electricity inquiry.

Even if only a proportion of these recommendations are adopted, it is likely that the ACCC / AER will be tasked with substantial additional ongoing functions in the electricity sector.  A similar trend was observed following the ACCC’s 2015/16 gas inquiry which, among other things, recommended increased regulation of gas pipelines, a task ultimately performed by the AER, and additional transparency of gas market prices, which likely formed the impetus for the ACCC’s ongoing 2017-2020 gas inquiry.

Focus on mandatory cost-reflective network pricing and smart meters

In our analysis of the 2017 Finkel report, we observed that the report made concrete proposals to deal with system security in generation, but was less focused on the critical issues arising from the longer term disruption that is occurring in the electricity grid.  In particular, we observed that the Finkel report did not deal with smart meters and failed to directly address the issue of network price signals and tariffs. 

These are important issues that directly underpin the efficiency and cost-effectiveness of electricity supply. The ENA / CSIRO estimate in their Electricity Network Transformation Roadmap that almost $1 trillion of investment will be made in the electricity system in Australia by 2050 and that more effective investment – which is critically underpinned by cost-reflective investment signals – could result in cumulative total savings of over $100 billion by 2050.

It is positive therefore that the ACCC report places emphasis on these issues.  It recommends that governments should agree to mandatory assignment of cost-reflective network pricing on retailers, ending existing opt-in and opt-out arrangements (recommendation 14).  It recognises that the benefits of these reforms can only be realised in conjunction with smart meters, and so the report also recommends steps to support their take-up (recommendation 15). 

Whether these reforms go far enough to support the types of long-term network planning envisaged in the Electricity Network Transformation Roadmap remains to be seen, but there is no doubt that motivating smart meter deployment and increased cost-reflective network pricing would be a strong step in the right direction.

However, the immediate implementation of cost-reflective pricing could lead to bill shock, and so the ACCC is careful to include a recommendation for legislation to ensure transitional assistance is provided for residential and small business customers.

Recommendations to lower network costs – including a call for asset writedowns

Network costs represent the largest component of the average NEM customer bill (around 43% of the average bill) and the report estimates that changes in network costs have accounted for 35% of the increase in customer bills over the last 10 years. 

It is worth noting that the ACCC gives recognition to particular State-based reasons for the observed increases in network costs – for example, the smart meter rollout in Victoria, onerous network reliability standards which were introduced in NSW and Queensland in 2005, and the big, lumpy nature of investments in transmission networks.  The ACCC nonetheless recommends significant reform of the regulatory framework, to address what it sees as past policy mis-steps.

The ACCC has recommended specific action from governments, as outlined below.

Writedown of existing RAB values

The ACCC has recommended voluntary government write-downs of existing RABs of Government-owned networks in NSW, Queensland and Tasmania.  To calculate the value of the write-downs, the ACCC favours the adoption of estimates of overinvestment derived by the Grattan Institute in a report published in March 2018. It is worth noting that the Grattan Institute report adopted a broad ‘top down’ approach rather than a granular ‘bottom-up’ assessment of the utilisation of particular network assets.  As the ACCC acknowledges, the Grattan Institute report did not attempt to identify specific network assets that could be considered excess to requirements, or ‘stranded’.

If the Grattan Institute estimates of “excess” RAB growth were to be used as a basis for asset writedowns, there would be reductions in network revenues of between 10% and 30% for Government-owned networks in NSW, Queensland and Tasmania.

In NSW, where assets have recently been either fully or partially privatised, the ACCC has recommended that network overspending be recouped by way of rebates on network charges (paid to the distribution company to be passed on to consumers) to offset the impact of over-investment by in NSW (Recommendation 11).

Regulatory reforms to deal with future asset stranding

The ACCC has also recommended that the current regulatory regime be reformed to more explicitly deal with the potential for asset stranding on an ongoing basis.  The ACCC considers three options for reform:

  • amend the regulatory regime to allow for greater scrutiny over the efficiency of actual capital investment (perhaps taking cues from the gas laws);
  • amend the regulatory regime to explicitly recognise the risk of future asset stranding, and specify how the recovery of the cost of stranding is to be shared between businesses and users; and
  • allow network assets to be periodically revalued, using a depreciated optimised replacement cost (DORC) methodology (though the ACCC cites difficulties with this option, and does not consider it should be adopted.

The ACCC appears to favour the second of these options, and recommends introduction of new rules to this effect.

Lowering the impact of environmental costs on electricity bills

There are currently in place several environmental schemes which promote cleaner sources of energy or encouraging the take-up of energy efficient devices.  Some of these include the national small-scale renewable energy scheme (SRES) and state-based solar FiT schemes, which the ACCC considers have resulted in overly generous FiT payments to owners of rooftop solar PV systems. 

To address this, the ACCC has recommended that any costs remaining from premium solar feed-in schemes should be borne by state governments through their budgets rather than being recovered through charges to electricity users.

Analysis of ACCC’s achievable savings

One of the headline claims in the ACCC’s report is that significant savings in the average customer bill are achievable by 2020-21 “if the ACCC’s recommendations are adopted”.  The ACCC calculates these achievable savings for each NEM region, highlighting the effect on customer bills in NSW in the following graph:


It is interesting to analyse savings calculated in the above diagram in detail:

  • Wholesale component ($155 total):  The largest proportion arises from a currently forecast forward reduction in spot prices due to changing market conditions ($125).  The remaining amount comes from the assumed effect of government subsidies for new generation ($30).
  • Network component ($174 total): This almost entirely results from RAB write-down which is proposed to be funded by State Governments, potentially with support from the Commonwealth Government ($164). The remainder comes from the effect of AER decisions that have already been made, or which are currently being consulted on ($10).
  • Environmental component ($43 total): The majority of this results from shifting the cost of premium feed-in-tariffs from electricity bills to State Government budgets ($25), with the remainder resulting from abolition of the small-scale renewable energy scheme ($18).
  • Retail component ($37 total):  It appears that this figure is entirely based on the effect of implementing the proposed default offer which is assumed to result in an reduction in prices paid by both customers that are currently on standing offers ($22 averaged across the whole market) and market offers ($15 averaged across the whole market).  The ACCC also notes possible savings of $4 per customer across the NEM from harmonising regulatory regimes.

In total, 54% of these savings arise from additional government expenditures which, in effect, shift costs which are currently borne by electricity users directly onto taxpayers more generally.  While these measures would result in lower electricity bills, the ACCC does not analyse the economic efficiency or broader social implications of this form of cost shifting. 

A further 33% of these savings arise from forecast changes in wholesale market conditions or AER decisions that are entirely independent of the recommendations in the ACCC’s report. 

Of the remainder, 9% is assumed to result from the calculated reduction in retail prices linked to introduction of the non-binding ‘default offer’ while 4% is a direct saving that comes from ending the costs associated with fulfilling an existing renewable energy subsidy.

Conclusion / next steps

One thing is clear – this final report will not be the end of the story.  The recommendations now need to be considered by the COAG Energy Council, which will hold at least one more meeting before the end of 2018. 

Any change to the rules of the NEM require the unanimous approval of all affected governments.  The slow progress of the NEG through COAG – which was announced in October 2017 and has not yet been accepted – shows that major reforms of the electricity system do not move quickly.