The consequences of vertical fiscal imbalance

This is belated, but I still think worthwhile.

Jess Hill’s cracking article in The Monthly (you can read a limited number of articles online per month without a subscription), and the recent Four Corners program on renewable energy, are required consumption for anybody interested in the history and future of electricity supply in Australia.

In short, the electricity distributors (who hold a natural monopoly over their corner of the market) predicted continued growth in electricity demand and then persuaded the energy regulators to let them increase their charges to pay for said infrastructure. This accounted for most of the growth in electricity prices, despite the nonsense about the carbon tax from the right of politics. The reasonableness of these predictions can be debated; the fact that they led to massive profits for the distributors is now clear. In the face of these increased prices, something amazing happened – absolute demand for electricity dropped substantially. Part of this can be attributed to rooftop solar, some to energy efficiency; regardless, the huge infrastructure spend has turned out to be almost completely unnecessary. Along the way, grid electricity generators have felt the squeeze between falling demand and mandated construction of renewable energy through the RET, and are now lobbying hard to prevent more renewable energy being connected to the grid.

The future is a topic for another post, but there is one point about the past and present that Hill’s excellent report hasn’t really gotten in to. Particularly in NSW and Queensland where the price increases have been greatest, the electricity distributors are state-owned, and the profits have gone to the state governments. Dividends from the distributors have filled a pretty substantial gap in those state budgets; however, they’ve done so in an extremely inefficient way. Billions of dollars has been wasted building unnecessary infrastructure so that the state governments could collect revenue from the monopoly profits. Hill’s article reports $45 billion dollars worth of infrastructure has been built nationally; in Victoria’s privately run grid, one third of the infrastructure spending went towards peak capacity augmentation, whereas in NSW and Queensland about two-thirds was spent on the same area. Based on this, my rough guess is that in those two states, at least $7-8 billion was spent on unnecessary capacity augmentation.

In a sane world, if state governments need more revenue, they would raise taxes. But because of Australia’s strange fiscal arrangements, where state governments spend a large fraction of total government revenue but only collect a fraction of it, it’s easier to whinge about the vicissitudes of the Commonwealth Grants Commission and raise this kind of hugely inefficient stealth tax.

So next time somebody mentions “vertical fiscal imbalance” and “narrow tax bases”, try not to let your eyes glaze over. It’s boring, but it’s important.

18 thoughts on “The consequences of vertical fiscal imbalance”

  1. The real irony is that the problem with air conditioner driven peak demand could have been handled at a much lower cost by installing strategically located rooftop solar to reduce the need for electrons to flow over the grid. (Install solar where consumption is putting a high load on the grid.

    Keep in mind that the peak demand in states like qld occurs on hot days when the sun is shining,

  2. Thanks for this Robert.

    I note that Jess Hill’s article is based mainly on NSW and that she only mentions solar towards the end. It seems higher prices are one reason for reduced demand. Solar has come in on top of that and could well put the system into a death spiral.

    In SEQ, covered by Energex, I understand that peak usage is still increasing while overall usage is declining. Different patterns of daily usage occur at different times of the year and it is what happens on the exceptional days that really counts, given our low tolerance for blackouts.

    The rest of Queensland is supplied by Ergon, which I gather will experience an increase in demand as CSG gas processing in Gladstone comes on stream.

    It’s a while since I looked at Energex and Ergon finances, but I don’t recall windfall profits. In fact both must be considered together because a cross-subsidisation scheme yields constant prices to customers across the state.

    Recently a new regime wrt to solar has been announced. There was concern that large influxes of locally produced power were damaging infrastructure. From The World Today:

    Under Queensland’s existing system, customers with up to five kilowatts of solar panels can feed the power they don’t use back into the electricity grid, and receive a small fee for it.

    Customers with bigger systems can feed the power back into the grid too, but they’re not paid unless they work out an agreement with the company.

    But that’s about to change.

    Under the new rules, new solar customers will only be able to feed into the grid if their system is two kilowatts or smaller.

    If new customers want a system up to five kilowatts and hope to feed power into the grid, they will need to install special, more expensive equipment to protect the network.

    And any power left from a bigger system won’t go anywhere.

    What appears certain is that places like Germany seek to modify the network to facilitate decentralised input, whereas here we limit the input.

    But I’m not too sure about anything I say about electricity pricing and I remain sceptical as to whether anyone has the ‘correct’ story!

  3. Brian, just to add to that, the house build in Reid River I’ve been working on the last few weeks for my brother-in-law and his wife sits on 100 acres over two titles, and they could only get approval from Ergon for a 1.5kW system.

    Friends of theirs up the road applied maybe 6 months or so ago, and got the go ahead for a 5kW system. They then applied to be able to upgrade that to 8kW – in the meantime, the new policy kicked in, and they received a letter back saying “nope, and now you can only have 1.5kW”…

    Needless to say, they’re seriously pissed off.

  4. The power distributors should have to pay compensation to households that they will only allow limited output from. That might concentrate their minds.
    My experience with control engineers is that some are inclined to say something can’t be done/won’t work. It makes me suspicious, particularly given the BAU stuff-up re growing air conditioner demand.
    Solar plus storage will add to grid stability, not reduce it as long as the control system is not another stuff-up.

  5. Thanks for this topic, Robert. Yes, I did watch that Four Corner’s program – but should have sought a clearance from my physician before doing so – Grrrrr!!!!

    SWMBO and I are a couple of pensioners; we do get the pensioner concession on our electricity bill – for now. We do live very frugally indeed (though choice as much as through necessity); we have energy-saving lights and nothing is ever switched on without careful forethought – yet our electricity bill is quite a slug; the biggest part of that is the connection fee, the standing charge, the poles-&-wires or whatever you like to call it. Maintenance is carried out on the infrastructure from time to time and the cost of that has to be met somehow – but the poles-&-wires have been there since Adam and Eve were kids so how come we are being slugged so much long after the capital costs of building the infrastructure have been paid? Are we part of a bottomless money-pit for the operators of the electricity systems?

  6. The Jess Hill article is indeed highly illuminating. There is another piece on the subject by Dr Bruce Robbins (I think Brian has a copy) which adds more detail to the history and technical aspects of the power pricing. The entire course of events was predictable right from the announcement of the CPRS and IPART’s announced schedule of price increases along with the time frame.

    What the Jess Hill article fails to cover is the fact that the original IPART price inrease announcement clearly stated that if the CPRS failed to eventuate then the cardon abatement factor of price increase would be removed. It is my observation that the power distributors used the price increase “license and expectation” that the CPRS offered them to jack up prices as rapidly as they could by every means available. The fact that the Carbon Pricing would be removed if the CPRS failed was of no concern to the distributors as this was applied against the power generators. With Abbott’s certainly short lived success this very small part of the price increases is now to be withdrawn.

    THE ELEPHANT IN THE ROOM that no one is talking about is,….. now that the electricity infrastructure changes have been made, and in duplicate, what happens to the electricity pricing now that the building program is complete.

    In principle electricity prices should fall back nearer to what they were 5 years ago, 13 cents per unit. The Carbon price has been temporarily removed and the infrastructure is mostly complete and should have been fully paid for by now. This is a simple calculation 225 billion units (Australia’s current electricty consumption, down from the 275 billion units that it was) times the infrastructure component of the price hikes, 8 cents per unit times 3 years comes to 54 billion dollars, considerably more than the oft quoted infrastructure build figure of 40 billion dollars.

    So,…..what will happen next?

    It is certain that virtually nothing will change from the consumer’s point of view. My observation of life is that greedy people with a pot of gold (usually always someone elses pot of gold) will do everything in their power to retain it.

    The next phase in this drama is certain to be as convoluted in appearence, and straight forward in fact, as the last 5 years have been. The appearence of the last 5 years has been that Labour’s action on Climate Change has, by declaration of Murdoch and the lock step Coaltion, pointlessly forced electricty prices to double……..

    And now, the next phase, after the people have been liberated by Tony the magnificent, something (nothing, if not for that damned PUP) should be done about it. And,…the electrity generation industry is too important to be left in public hands and should be sold to responsible private hands, with the proceeds going to pay off Labour’s wicked spending debts.

    Both straight forward and convoluted. I know that if you go back in LP to the day of the IPART announcement as spelt out in the SMH I predicted this entire outcome….. it was that obvious, even at the time, as to how this would play out. The mechanisms were not so predictable and have, as shown by Jess Hill, to be most devious and convoluted. The saddest part of itl is that all of this happened under Labour both Federal and State. The 54 billion dollars taken from the public by the electricity industry should have been sufficient to build 16 gigawatts of baseload renewable energy production infrastructure,…. but it was not as there was no imperitive other than the very watered down, by endless Coaltion interference and political infighting (and economist bickering for that matter) RET. Had that 16 gigawatts of clean energy infrastructure been built we would have already surpassed our 5% Kyoto commitment.

    So now, instead, we have a freshly fattened highly profitable electricity production and distribution industry ripe for the picking, with all blame for its cost sheeted home to Labour, what do YOU think a Coaltion government(s) will do with it?

  7. As an aside, the consequence of a recent and lengthy “discussion” I had on Catallaxy was that I learned that the amount of Lithium metal per kilowatt hour of battery is between 180 and 250 grams, at present. The suggestion from the denialist was that there is not enough Lithium available on the planet to give everone a battery powered car.

    It is quite entertaining how these old nutters seemlees flick around from what is endless and what is not. The current claim is that there is not enough land to cover with solar panels to provide our exponentially expanding electricity needs. Then in the next breath oil is endless, we will never run out of that, there is always more to find.

    Anyway, a quick search turned up a claim that Wyoming alone has Lithium reserves estimated at 18 million tonnes Lithium (metal, unclear), which by my simple calculation is sufficient to make some 72 billion kilowatt hours of recyclable lithium ion batteries, or 8 kilowatt hours of energy storage for every person of the Earth’s 9 billion terminal human population. All from just one (extensive) Lithium deposit. Conclusion, battery storage is not a limiting factor.

    The next factor is how can a person use 8 kilowatts of electricity storage capacity? Or rather how will I use my family share of that. It is no secret that I am a fan of the VWXL1, which as it turns out is not going into production, at least not in that form. What they have come up with for the moment in the hybride class is the VWGTE. This is a petrol plug in hybride with a 950 klm combined range at speed up to 220kph, but most importantly a 50 klm battery only range at speeds up to 130kph. When I thought about it the 50 klm battery only range works very well. For me I have a 32 klm round trip to my factory, with the occasional short local excursion. My wife has a commute of 25 klms each way with diversions.

    The interesting thing is that the VWgte has an 8.5 kilowatt hour battery which will cost $1.15 each day to charge on off peak power at home each night and either $2 to charge at the factory from the mains or nothing to charge it from solar panels. So for me my daily commute will cost per year $350 plus tyres and rego, my wifes will cost around the same as she does not work 7 days as I do.

    That leaves 15 kw hours of storage allwance for the kids and the household. I think that the kids will be hard pressed to use even 2 kilowatt hours each leaving 11 kilowatt hours for the household, another discussion for another day.

    Another thing that came out of the Catallaxy “discussion” was the notion that we are finding evermore ways to use electricity which will lead to an exponential growth in demand. Examining this claim in light of my assessment of my family’s energy storage needs the figures become even more interesting.

    If 10 million people charge an 8.5 kwhr battery each day from the grid this amounts to a big 31 billion kwhrs, and if they charge it twice a day it still comes to just a bit over what the Australian electricity consumption has declined by over the last five years to be 62 billion kwhrs onto the current 225 billion kwhrs.

    So all of the claims of Australia’s electricity needs blowing out can only be true if our population doubles in the next 10 years.

  8. Good to see you back BilB. This blog needs the contribution you make to technical (and other) discussions.
    There certainly needs to be a logical discussion re what should happen to power prices and the power distribution system.
    Logically those that support the carbon price should be demanding that the fixed charges should be eliminated and price per kWh be increased to compensate. After all, it has been the rising power price that has driven down emissions and encouraged more people to invest in solar. It doesn’t really matter if the price increase is due the carbon price or the distributors greed.
    Then there is all the macho talk about people who are already connected to the grid going off grid even though it means essentially free clean power will be wasted.
    Then there is all the lobbying by the fossil power industry that has seen its profits plummet due to the growth of renewables and solar replacing the very high priced peaking power.
    Looking forward to your comments.

  9. Yes indeed, JohnD, renewables have benefited from the high energy prices, which was after all the intention. That does not mean that the 50 billion dollar con job should not be exposed and the dullards who allowed the situation to get away from them simply because they were too lazy to do the research and structure the RET properly. It is only be accepting the failure and exposing the situation that the value of the lost opportunity can be turned around to a reframed RET with a 60% target. Julia Gillard towards the end started to make comments that registered that she finally knew that the government had been conned.

    So now the problem we have is that there is a hugely over cashed up gorilla of an industry with a huge stake in making sure that Labour remains a minor party in Australian politics. And they have billions to lose if they fail. This is not a small matter.

    Think it through, Liberal state governments with a stake in power industries that are pleased to be free of carbon restraints, and would be pleased to be free of all restraint. Federal Liberal government which has created the freedom and has the means and the madness to free this industry of even its RET restraint by framing it as a failure and cobbling it with any manner of arbitrary conditions to make it unworkable. Be ready for the great birdstrike propaganda campaign. The money to keep liberals in power for a long time will come from the dirty industries as is already the pattern.

    the only thing that will work in favour of the environment is the scale of the greed of the power industry. The key weapons available to the renewables industry are excellent technology, good marketing and a favourable financing structure. With that combination Australia could have 50% renewables in the form of distributed rooftop Solar Thermal in less than 10 years, irrespective of what the power companies do.

    From the “Power to the People” video Apple’s decision was based future energy price certainty and independent energy security. Against this the deniers only line is that “it has to involve cash handout incentives” which may or may not be true. I don’t think that it matters either way Apple was going with as will most people who know that they are building a better future for themselves. The message from every where is that the figures on renewables add up solidly on the green side of the ledger.

  10. BilB: the Abbott government has already killed the Howard government’s RET scheme even though (because?) it was one of the few emission trading schemes in the world that was actually working. In terms of driving investments that need a number of election cycles for the investment to be justified, the RET and carbon price were always vulnerable to a loss of bipartisan support. Investors need the security of contracts to invest when there is the possibility of an unsupportive government being elected.

  11. That was the problem with the whole carbon price scheme, John D. The funds collected should have gone to the building of the renewables infrastructure. Instead of that the bulk of thd funds became a social redistribution scheme and only some of the money was used to promote and finance infrastructure and research. But all of that was a sideshow beside how the energy distributors used the whole carbon price to rort the public and discredit the government.

    Now that I look at how the RET was structured I see that it is as I have been saying for soms time. The industry was misaligned. The funds being collected were going into the wrong hands. I suspe t that Abbott has shot himself and the energy industry in the foot by getting rid of the RET as it was.

    The next revival of a RET must require the energy distributors to use the funds that they are collecting to finance the energy infrastructure themselves. That is the most efficient process from a cost standpoint, but not st sll what they will want to do with “their” money. From what I could see thd RET was also not building CSP with storage and never would the way that it was structured.

  12. Bilb: The RET is an offset credit trading scheme. One of the key features of this type of scheme is that it is not a tax. It is a market mechanism for setting a levy on dirty power which is (almost) all used to subsidize clean power. Because all of the levy goes to subsidizing clean the price of power only rises slowly as the percentage of clean power increases.
    As I have argued in a separate post offset credit trading schemes can work without bipartisanship to do things like driving down the average emissions from from new cars because it is all about short term customer decisions.
    The Howard government’s RET is under heavy attack at the moment because it is one of the few emission trading schemes in the world that actually works. The fossils have realized that it is successfully cutting their profits and putting them out of business.

  13. One can dream up all manner of schemes, JohnD, but it is vital to understand human nature in the process.

    An example. Many years ago in Christchurch where I was living I learned that the city council had to buy 1000 parking meters from the UK and the going price for them was $1000. I had some dealings with a very well respected electronic engineer so we together put forward a proposal to supply the meters with improved functionality for 500 each. The benefits to the city of building a new business to offset imports were obvious.

    After being mucked around by the council for 6 months we finally learned that some councillor had come up with the idea of a punch out parking voucher which people would buy in advance and have displayed in their windscreen with the parking time marked with the punched out holes.

    The idea was great from the council’s point of view as they sold lots more parking time cash in advance, but the scheme was lousy from the public’s point of view, as virtually no one wants to pay for parking ahead of their time of need. The outcome was that the parking spots assigned to this scheme were left mostly unused and the scheme failed miserably. Some time later the council bought 1500 imported parking meters and huge opportunity was lost.

    All of these Carbon schemes are failing because although they can be shown to work from one groups point of view, they all fail the human nature test. At the end of the day it is the end user who foots the bill for no matter what scheme is proposed, so let the end user do the paying at the time and point of their consumption. That is why I proposed a levy on the electricity retail price with funds then available to build the infrastructure, funded directly . So rather than alienating the energy producers, a bunch of well resourced complainants as we discovered, they would be engaged in the building and management of new fully funded infrastructure in exactly the same manner as all of the previous infrastructure had been successfully built.

    So by dreaming up all manner of indirect schemes to “induce” people to change their modus operandi we have achieved a massive failure which has become the vehicle for those with resources to rort the public on the one hand and sink the government on the other. Not a great success. Yes we have wind turbines and yes electricity consumption went down 18%, but progressing beyond that has now been blocked by those who were aggravated by a poorly conceived and poorly targeted “scheme”.

    In business I routinely come up against greedy people who say “of course they will pay this extortionate price” when talking of their customers, but then will as a customer themselves say “that is a ridiculous price, I’m not paying that”. What ever scheme you dream up, give it the human nature test. And don’t make assumptions that people with money will be happy to pay for your scheme unless it is to their benefit rather than yours.

  14. Bilb: I am surprised you missed it but I have been advocating contract based direct methods to drive investment in renewable power for years.
    Having said that, the Howard government’s RET scheme worked well for years until Abbott broke the bipartisanship.

  15. That is great, John D. The task now is to establish that direct approach. If there was urgency 5 years ago, there will be extreme urgency in 3 years at the next opportunity to drive action, another 10 years lost.

    What I am lamenting is the fact that the funds that should be building the renewables infrastructure are being sucked off into corporate coffers and the renewables that are, or rather were, being built were being funded from other sources, as far as I can discern.

    My interest is predominately the electricity generation sector, with particular focus on distributed energy production. Most of the pieces are in place for a community wide uptake of rooftop solar. But the financing is still the mzin sticking point forbothvsmall and large systems.

    Home owners should be able to get an automatic bank interest loan for solar pv as this is a property improvement which improves the homeowner’s ability to pay their mortgage.

  16. Bilb: I am planning to write a post setting out how contract based renewable power programmes will work for both large and small rooftop installations would work. As you would well know there are well established processes for setting up and running “contracts to supply, build, maintain etc.” The guts of all these processes is a contract that gives investors certainty and a competitive tendering/auction process that uses market forces to minimise costs to consumers.
    One of the interesting things about most forms of renewable power is that the power is very very cheap once loans have been repaid. A good system will take advantage of this fact so that, in the medium to long term, the real cost of electricity will be much lower than it is now.

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