The Californian power crisis presents all governments with a salutary lesson. For almost two years now Californians have been facing rolling blackouts and spiralling charges for electricity. The crisis has forced two of America's largest electricity utilities to file for bankruptcy. Global icon high tech firms like Intel have announced they will not build new factories in the State.
Some have sought to blame the crisis on power market deregulation while others sheet home the blame to continued and clumsy regulation of the power market. These claims and counter-claims are matters of major concern to Australia since our own electricity market shares much in common with the Californian.
There are however some important differences. Californian law, for the most part, forbade Californian suppliers from entering into contracts for long term power supplies, requiring them to rely on buying through the spot market. In contrast, about 90% of Australian electricity demand is covered by contracts between retailers and generators. These contracts are important in the context of a market where short term demand is highly inflexible. They make it difficult for generators to take risks with their supply availability since they may get caught being required to cover their contracts at a high spot price. In addition, they allow greater certainty to commit to building new plant
Until recently, California has been regarded as the leader of modern electricity development. The State's regulators had pushed solar power and forced the conversion of power stations from "dirty" coal to "clean" gas. On top of this, policies had emphasised energy savings as the preferred means of allowing demand and supply to be kept in balance.
Moreover, the State's leadership role in environmental matters had placed roadblocks in the way of new power stations. This started in the late 1970s under Governor Jerry Brown. And lest anyone think that the present Governor, Gray Davis, was unfortunate that the crisis hit during his watch, the same Gray Davis was the Chief of Staff under Governor Brown. Not only that, but his actions, once the crisis hit, fanned the flames by imposing caps on generator prices, thereby discouraging more power supplies.
Over the decade of the 1990s, the Californian economy grew by 34% and electricity demand increased by 20%. Yet supply was stagnant with only two small plants being built in the 1990s. Supply actually fell by 5% between 1995 and 2000. Regulations facilitating NIMBY (not in my backyard) and BANANA (build absolutely nothing anywhere near anyone) made it 17 years before one nuclear plant got operating. Even a standard gas plant that takes one year to get up and running in Texas takes over three years in California.
Some of this must strike a chord here in Australia. Nobody here would dream of running the gauntlet of regulatory approvals and government sanctioned protests that would accompany a nuclear plant in Australia. And, as night follows day, any new development will inevitably find itself in the midst of an endangered frog, worm or parrot.
To date, Australia's energy problems have been due to overbuilding of plant by bloated unionised workforces and over staffed facilities. Privatisation has solved much of this, but industrial muscle did force blackouts last year.
Australian governments have nonetheless been vulnerable to Greenmail over new projects. Right now there is pressure to de-rate the Snowy hydro system to divert water down the Snowy River. The most celebrated green victory was in preventing Tasmania building the Franklin Dam, the last major potential hydro operation in the Apple Isle. Less well known, but more serious, was the Queensland Labor Government's thwarting of a major hydro facility, Tully-Millstream, in the early 1990s. In the process, Queensland was transformed from the State with the lowest cost, most reliable electricity industry into the State with the highest electricity costs.
In Australia, the dangers for power system security and excessive energy prices stem not from a lack of government action but from a surfeit of it. Governments can easily destroy incentives to build facilities at the right time and place. This was made clear by ACCC Commissioner Rod Shogren in a recent address to an energy conference in Melbourne. Mr Shogren pointed out that, "Governments are likely to make decisions that protect their constituents from negative short-term impacts but which compromise the ability of the market to deliver long term benefits". And, in a pointed reference to the NSW and Queensland governments, he added that it is hard to be confident that the overall interests of the market will be promoted "given that some governments have vested interests in the market as owners of generation and retail businesses".
A new government transmission line, or a new power station built with government money or on the back of favourable treatment delivers a message to the market. It says that prices will be held back, thereby reducing entrepreneurs' incentives to undertake investment. For Victoria in particular, such government measures would put in doubt power station developments like those being considered by Mission Energy, AGL and AES Transpower. In turn, this creates risks of intensifying the role of government, shifting us back to the system of state provided provision of electricity that ill-served us in the past.
Populist actions by governments intervening in the supply of goods and services are pregnant with risks of undermining markets. In California's case, the crisis was the culmination of two decades of policies that opposed new power stations, along with politically correct statements about cutting down on fuel use while the hot tubs were left running. Just as poisonous to demand and supply finding the right balance is government intervening to build new facilities. Government is just too far removed from commercial pressures for this. It needs to confine itself to areas where it can contribute: the creation of stable overall rules. This will facilitate allowing market forces do what they do best -- efficiently provide the goods and services that consumers want.
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