Electricity Abroad

In the first of a new series focussing on international electricity markets, Peter Switzer analyses the deregulation of the Australian sector.

Australia embraced the privatisation of its public utilities during the 1980s, encouraged by business interests and governments grappling with chronic budget and trade deficits, as well as a currency that went into freefall. The then-Federal Treasurer, Paul Keating, who later became Prime Minister, referred to Australia potentially becoming a banana republic unless it embraced change.

These code words became microeconomic reform, with the general game-plan driven by the belief that the economy was 'broke' and it was time to fix it. The repair job included privatisation, tax and labour market reform, floating of the currency and deregulation of the financial system along with many other industries.

These reforms were a general assault on those hurdles frustrating productivity and restraining efficiency. There was a consensus of like business minds that costs had to be taken down to make the economy competitive. "Businesses were aided in promoting privatisation and deregulation in Australia by a network of government and industry-funded research institutions," wrote Sharon Beder in an academic paper entitled 'Critique of the Global Project to Privatise and Marketise Energy'.

In Australia, electricity pricing had been a hot political issue for decades. The bill that Aussies receive for their consumption of energy comes from a complex process. The Energy Association of Australia says "it is split between the cost of the energy traded in a competitive market and the cost of transporting it down the high voltage and suburban distribution wires, where charges are governed by national (transmission) and state (distribution) regulators."

But wait, there's more of this shockingly complex stuff.

The energy component of the bill also depends on how the wholesale electricity has been purchased. Depending on the market, retailers may buy relatively little of their power via the daily spot market. They can at other times buy as much as 80% of their purchases through long-term 'hedging' contracts with generators that allow the retailers to protect themselves against day-to-day price volatility.

Normal people aren't really supposed to understand this pricing process. However, what they can understand is what has happened to their bills since deregulation. Initially, wholesale prices fell steeply - to as low as 40% of their pre-regulation values. This reduced production as the price was a massive turn-off.

However, when the economy boomed in the late 1990s and the world fell in love with air conditioners and computers, wholesale electricity prices rose to around 80% of their pre-deregulation values. This, of course, encouraged more capacity to come online.

Apologists for a deregulated electricity market point to government ownership in some states as holding back the efficient operation of the market and therefore affecting prices. To date, Australia's deregulation experience has not resulted in anything like the U.S. Enron disaster, which created the largest Chapter 11 bankruptcy ever in American corporate history. The Australian electricity industry has not had a power calamity as serious as California's blackout but there have been small power problems.

Alex Badham, from the law firm Freehills, has put deregulation into a sensible context."The best safeguard against a Californian scenario is to ensure there is enough generating capacity in Australia to meet demand and sufficient infrastructure to distribute electricity between states with varying levels of demand. The Australian market and Australian regulators must give the right signals and incentives to promote this level of investment."

This is a lesson for all countries contemplating deregulation.

About the writer
A former economics lecturer at the University of New South Wales, Peter Switzer is the small business editor for The Australian newspaper and a well-known business and finance commentator. The author of several business and finance books, Peter is highly sought-after on the public speaking circuit. He can be contacted at peter@switzer.com.au.