New energy market rules must be guided by consumer outcomes

The electricity market offers something for everyone. For engineers, integrating new technologies while maintaining system stability offers a compelling challenge. For economists, the allure of creating efficient market rules proves irresistible. For the environment, transforming the electricity system represents an urgent priority. For consumers, the electricity market offers opportunity and trepidation in mixed measure.

There are no clichés left to describe how rapidly the electricity market is changing. What was unimaginable 10 years ago is now the new normal. What was impossible three years ago now seems imminent. What can only be imagined today is probably already in development in someone’s garage.

The latest effort to tackle this symphony of invention was released by the Energy Security Board (ESB) in September. It's a wide-ranging proposal comprising seven market reform initiatives. They focus on creating submarkets to facilitate investment in new services and the efficient use of assets (including assets owned by end-users). Unfortunately, the proposed reforms are also extraordinarily complicated.

Read more: The case for re-creating Australia’s energy market

The ESB’s proposal is motivated by the huge operational challenges facing the electricity system, but an operational imperative for reform doesn't guarantee its success. Enduring success depends on how the reforms are experienced by the community.

The ESB recognises concerns about the fairness of its proposals, but it defers consideration of these to some later time with the development of a consumer protection framework. This is the wrong approach. If market rules are the source of adverse outcomes for consumers, then alternative market rules are the only effective remedy.

In a submission to the ESB, I identified four projects that would help establish an enduring community mandate to support electricity market reform.

Consumer rights and market responsibilities

First, the ESB should acknowledge the essential nature of electricity by clearly establishing consumers’ rights to different services, and the responsibilities of all market participants (including the market operator and regulators). The absence of such a framework is already straining the reform process.

There are many current debates solely because there's no overarching framework of rights and responsibilities governing the electricity market. Examples include whether households should pay to export their solar power to the grid; whether large-scale solar and wind generators should pay more for access in areas where the transmission network is congested; and whether the market operator should have the power to curtail exports from household solar units.

The ESB’s market design initiatives seek to efficiently balance the supply and demand for different services across the electricity market. That's a necessary but insufficient objective for the ESB. Markets can be very efficient at producing the wrong outcome if no one defines the right outcome upfront. A framework of rights and responsibilities would provide the foundation for assessing the efficacy of any proposed market reforms.

A standard of fairness

Second, the ESB should develop a standard of fairness to govern the conduct of any provider of electricity services to consumers. The standard would be principles-based. It would sit above a consumer protection framework and, if designed well, should negate the need for heavily prescriptive regulation as currently seen in the National Energy Retail Rules and the Victorian Energy Retail Code.

The standard of fairness would recognise the essentiality of electricity, and would reflect the social licence under which service providers are expected to provide this essential service. It could even oblige anyone providing electricity services to customers to act in each customer’s best interests.

Who should pay, and how much?

Third, many of the ESB’s reforms are necessitated by the emerging operational needs of the energy system as large synchronous power plants are replaced by variable sources of electricity. Until now, these services have been provided as a free by-product of energy production. With the exit of old power plants, these services increasingly need to be procured. Alternatively stated, formerly uncosted services are becoming costed.

Read more: Renewables can still play an important role in Australia's energy roadmap

Regardless of the legal incidence of these costs, they will inevitably flow down the supply chain, and ultimately be paid by electricity customers. It's not self-evident how these costs should be recovered from those customers – that is, who should pay, and how much? To avoid leaving these decisions to the discretion of service providers, the ESB should develop pricing principles to guide the recovery from customers of costs associated with system reliability and security.

Modelling the reforms

Fourth, it's difficult to picture how the multitude of reforms being explored by the ESB will reshape the national electricity market, or how sensitive these outcomes will be to different market conditions. The limited modelling proposed by the ESB will not look at the impact on consumers of these reforms in their totality.

The ESB would facilitate greater confidence in its package of reforms if it applied sophisticated modelling techniques to:

• identify the co-optimisation strategies service providers are likely to apply across the various submarkets being proposed, and whether these strategies align with the interests of consumers
• test whether the many price signals will, in fact, be transmitted efficiently through the energy market, and the consequences for consumers when frictions arise
• assess the evolutionary paths the market may follow when consumers display heterogenous preferences, differing capital constraints, and varying levels of discerning market participation.

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Electricity is an essential service. This means redesigning the electricity market is never just an economic challenge. It's also a challenge of political economy. New market rules must be guided by clearly-articulated and widely-agreed principles focused on consumer outcomes.

None of this is easy. Market reform is never easy. Successful market reform is even more difficult. But unsuccessful market reform will be devastating for investors, consumers and the entire economy.