To: The COAG Energy Council Secretariat
Via email:

From:John Herbst, Port Adelaide SA
Friday the 13th of March, 2015

Dear Sirs,

Thank you for the opportunity to provide public feedback on your consultation paper, “New Products and Services in the Electricity Market” published in December 2014 by the Energy Market Reform Working Group. As I’m sure you are aware, the process for regulatory reform can be sluggish, yet technological growthcontinues to outpace expectations. We cannot afford to wait for problems to emerge, thus a proactive approach to regulation is required. I believe this consultation paper is an important step toward that objective. Many threats to market players and power system operation have been identified, forecast, and hypothesised, butmost-importantly, the authors recognize that predicted issues are but representative examples of the many possible technological, structural and strategic changes that could requireregulatory reformin the near-term. Regulation designed for an uncertain future requires a robust, consistent system which does not favour any particular outcome, especially the status quo.

There are two specific points which I would like to bring to your attention in this introduction,to maximize their chance of being read.

The first key point is a direct response to your request for feedback onwhether regulatory reforms will be needed to accommodate new products and services. I consider strong, effective regulation of network and retail pricing essential for the efficient operation of these markets.This is because network prices define the incentives for customersto adapt. If costs are not signalled properly, customer decisions will not lead to correct market outcomes.Chapters 2 and 3 expand on this.

Second, the Consultation Paperrecognizes that a regulatory framework needs to be based on “principles that help all parties, including customers, businesses and the regulator, to understand the goals of regulation.”Current goals considereconomic efficiency, but ignore environmental efficiency. In the near future, global pacts are likely to result in penalties for continued inefficient levels of pollution and/or carbon emissions… including palpable costs whichno one can deny are real. If Australia makes an international commitmentto the environment but the energy sector refuses to do its part, thetotal cost of compliance rises and is distributed inequitably and inefficiently onto other sectors of the economy.Regulation must allow the AER to enforce national goals. Reform which accounts for environmental objectives will also provide confidence to negotiators when setting abatement targets.

The National Electricity Objective promotes long-term thinking, thus networks in particular should be role-models for sustainability, as their monopoly status frees them from competition. ‘Sustainability’should be a clearly-stated goal of regulation, perhaps even incorporated explicitly into the wording of the NEO.

Contents

Chapter 1) Identification of Products and Services to Be Regulated:

Chapter 2) Regulation of Innovative Retail and Network Tariffs

Chapter 3) Protecting Customers from Unfair Transaction Costs

Chapter 4) Customers’ Right to Easily Access Interval Data, and Freedom to Share Information.

Chapter 5) Barriers to Entry and Ongoing Predatory Costs for New Market Entrants

Chapter 6) Churn. What happens when long-term investments are no longer efficient?

Please note that I have used “off-peak controlled load”(OPCL) as a recurring example throughout this submission. My use of the term refers to systems and tariffs similar to those currently in use, mainly designed for hot water heating at night, as opposed to any “smart” technology or service. As I am only aware of the South Australian implementation, please assume that is my intended meaning in case this policy conflicts with policy of other networks.

Chapter 1) Identification of Products and Services to Be Regulated:

Consultation Question on page 5:

Do these three markets cover all new products and services that could be offered to small
electricity customers?

Response: The definition of an “energy product” or “energy service” ispossibly toovague, but I believe the scope is sufficient to include all products and services which should be included. I am more concerned about the scope being too broad, drawing in products like batteries and electric vehicles, which may not be appropriate to include. I cannot identify nor imagine a technology which would require special regulation and does not fall intoone or more of these categories. Of course, this does not imply that the technology does not or cannot exist. Other submitters will be better situated to identify potential additions that should be made to the scope.

I believe that it is unnecessary and difficult to sort energy services by specific market category, as the boundaries of “supply”, “demand management” and “energy information” are not clearly demarcated. Therefore, I recommend that regulations be made without need to distinguish the market category of the product or service. At the very least, regulations should be consistent across these three categories in order to prevent having different rules for similar services. Solar plus storage is a clear example of a product which crosses category lines, and should not be put at a disadvantage from being under two sets of regulations. Inspection of a future piece of technology which can perform different market functions for different customers should also be regulated similarly regardless of current function.

Chapter 2) Regulation of Innovative Retail and Network Tariffs

The Consultation Paper mentions a current demand management service: the ‘hot water controlled load tariff’[1], a type of Off-Peak Controlled Load (OPCL) tariff. The current OPCL tariff in South Australia overcomes technological barriers by requiring customers to isolate their load on a second meter. This ensures it runs off-peak, obviating the need for previously expensive time-of-use meters and other enforcement measures. I am concerned that the authors have simply asserted that the OPCL tariff should fall under the scope of these retail market regulatory reforms. I believe the issueswith and goals of tariff regulation are inherently different from the issues which will emerge for other demand-management products and services, to the point that they cannot be resolved under the same set of regulations.

I wonder whether the Consultation Paper’s authors meant to say that the additional transaction costs for customers which take up OPCL tariffs are products and services of the demand management market. The installation of an appropriate tank, electrical isolation, meter installation and reading, inspection and enforcement of the controlled load are products and services that couldbe regulatedunder demand-management market reforms.

Istrongly recommendtreating tariffs under different regulations fromthe other energy products and services discussed in the Consultation Paper. Retail tariffs define the value of efficiency, thus lie on the opposite side of the cost-benefit equation from the rest of the consumer products and services being considered.It is essential that tariffs provide efficient prices signals in order for a level playing-field for new products and services to exist. I am concerned that the current regulations have not achieved efficient pricing outcomes, and that better regulation is required for tariffs. The necessarily strict tariff guidelineswould likely be too cumbersome toapply other consumer products and services. We should avoid over-regulating the Demand Management market. As long as the players are truly competitive,regulation shouldrequire little more than standard consumer protections. Efficiency solutions which are the most effective and least costly will rise to the top, unless held back by policy designed to promote something else.

I propose that retail tariffs be regulated using similar principles to those that apply to network tariffs. While current tariff offerings vary considerably from retailer to retailer, some are inefficient results ofshort-term pressures stemming from competition. Brand differentiation, marketing ploys, and implicit or explicit collusion (the case for many retailers and generators) distort the efficiency of retail tariffs under the current interpretation of the NER and resulting regulatory framework.For example, I have heard of a retailer migrating residential customers with Smartmeters to a “Daily Demand Tariff”.The advertised rates look attractive to the naïve consumer, yet can result in price-instability and customer inability to respond to incentives. This results in inefficient use of the network,and artificially stimulates consumption. This, in turn,causes increased pollution, waste of natural resources, higher network costs, and numerous additional flow-on problems.

There is now public debate about whether the AER may factor pollution and its environmental costs into the efficiency equation.The current interpretation of the Rules is that AER must look only at economic costs. Thus tariffs with low consumption charges, known to increase our total pollution levels significantly,are being approved because there is no direct, quantifiable cost at present.

When considering retail market reforms, we should consider the likelihood that Australia will soon enter some significant international agreements to lower its pollution levels. Should this occur (and it should!) there would then be a cleareconomic benefit to removing artificial stimulation of pollution-creating energy consumption. Present levels of pollution output due to electricity generation are acknowledged to be higher than what would be efficient if environmental factors were considered. This fact should be taken into consideration when setting national pollution-abatement targets, and certainly should not be used as an excuse to water-down Australia’s obligations under any future international agreement. As proposed reforms are meant to be as general as possible, I expect these reforms to be compatible with the implementation of environmentally-sound electricity policies which are likely to be necessary under the NEO in the near-future.

The current system of rule changes in the NEM clearly favours incumbents and needs reform. The National Electricity Rules make some very strong and broad claims, for example that customers with small energy generators cannot be treated ‘less favourably’ than others, yet we see discrimination against solar customers daily across all market States. This has become a barrier to entry and an ongoing cost borne by solar businesses and their customers.

Another specific proposal I wish to make is thatretail tariff reforms explicitly prohibit tariffs which exploit customers whose demand is highly price-inelastic, whose comprehension is low, or who face high transaction costs for switching retailer.[2]The ability of customers to switch retailer is the main factor differentiating regulation of retailers from that of networks, but the distinction has not created the diverse market which the Rules envision. Since the retail electricity market is not effectively self-regulating, stronger controls are required. It is up to the AEMC to strengthen the Rules, such that their interpretation and implementation will allow the AER to provide retailers with incentives which aligntheir profits with the NEO.

To be clear, I believe stronger regulation of retail tariffs would not impact the ability of retailers to innovate. It seems reasonable for regulatory reforms to directly prohibit tariff designs which work against the National Electricity Objective while promoting the many ways for different customers to determine their best strategy for efficiency. Only the customer can identify the tariff under-which it can optimize its operations most effectively, but it is up to the regulator to ensure that tariff offerings are efficient rather than demand-stimulating. Current network tariff regulatory upgrades should bring aboutmore efficient network tariff pricing, which should promote the regulatory goals for retail tariffs.Removingincentives for retailers to play short-term games would also help achieve retail tariff efficiency.

Tariffs must be set independently of the solutions designed to respond to them, or conflicts of interest, collusion, and inefficient pricing results. This leads to inefficient customer behaviour through distorted incentives in these new markets.For example, a network which over-signals the cost of Agreedor Peak Demandfor business customers causes over-investment in energy storage and load-shifting where generation would be a more efficient investment. This waste eats through budgets, leaving less to be spent on real efficiency measures. Right now, a small sports club in SA can’t spend its $30,000 public grantto install solar panels due to its only tariff option being one with an invalid, demand-stimulating price-signal[3]. The club may spend its $30,000 to install storage rather than solar, as it wouldreceive a much lower price for lowering its individual peak demand.

The problem is that investment which provides the customer the best value does not provide any actual benefit to the network.The sports club’s peak demand is never in the local or globalcritical peak, because the club is closed for most of the summer, and during extreme heat all sport is cancelled and the lights stay off. The demand spike caused by sports lighting doesn’t actually result in a network capacity problem, thus there is no benefit to ‘fixing’ it.

There are many businesses in a similar situation, whose demand peaks are uncorrelated with their neighbours’.Load-shifting would be an absurd and useless practice for these businesses, whereas generation would still have great value to the network. Efficiency budgets are sucked away and the customers may even feel like they’ve done a good thing, but absolutely nothing of value has been accomplished. This is a perverse outcome, and a direct result of an inefficient network price signal!

There is no hard limit to the damage that can be caused by inefficient price signalslike this, and pricing which is not cost-reflective will have customer incentives rewarding absurd or even damaging behaviour. Damage is not limited to consumers but also hurts peripheral markets, business productivity and the State’s ability to promote its goals through grants.

If networks continue issuing pricing and regulatory proposals which overstate problems and undervalue on-network solutions, this increases the incentive for individual customers to seek individual solutions. This can result in tremendous inefficiency, but networks have no incentive to invest their own capital in solutions if they can convince customers to take on the costs themselves.

For example, consider a representative residential 15,000kVA feeder in suburban SA, serving 3,000 households. Let’s assume that at one point last summer, the total demand of these 3,000 customers reached exactly 15,000 kVA. This indicates the need for the network to do one of 3 things to maintain reliability…

1)Incentivize customers to reduce individual peak demand,

2)Buffer the load with storage on the network before it reaches the feeder, or

3)Increase feeder capacity (or add a new feeder).

Options 1 and 2 do effectively the same thing, and if the 3rd option were the most efficient then there would be no need for an ‘innovative’ solution, just more of the same old infrastructure.

There is currently no reason for the network to invest in its own storage if customers can be incentivized to do it themselves, at their own cost. However, as we just saw in the Sports Club example on the previous page, individual efforts may not be as effective as a network solution. While shifting loads out of critical peaks will result in some network gain, the fact that customers don’t always run their loads in every peak means that batteries on individual residences don’t always reduce stress on the network by their full kVA output. The statistic for the percentage of utility an individual battery provides to the network has been named ‘diversity’ in recent publications. Simply put, if you are home for only half of all heatwaves, but run your full load when you are home, your diversity would be 50%. This is a topic that requires study far beyond the scope of this submission. Its value is somewhat subjective, based on the definition of “peak time”, which could be broad (say, 12pm-8pm weekdays) or very narrow (actual critical peaks, which is just a few hours per year in SA)[4]. A 2014 study by Energaiea assumed residential Diversity = 0.5, or 50% in SA, but will vary heavily depending on the time-period chosen as the peak.

An interesting result of diversity is that the sum of individual peak kVA demand is well over the joint peak demand for any set of customers. Those 3,000 customers jointly using 15,000kVA, likely have individual peak demands which sum to 25,000kVA or more.Let’s say conservatively that the sum is just 20,000kVA. If each customer installs 1kw storage to flatten their individual peak, the total individual peak demand will drop by 3,000kVA, down to 17,000. (this is assuming storage doesn’t run out during a peak, which would reduce the benefit somewhat). But the benefit to the joint peak won’t be a full 3,000kVA. The benefit may be as low as half of this, just 1500kVA, but likely closer to 3/4ths, which is 2250kVA. It is certainly an oversimplification to say that the cost of storage remains fixed in $/kVA terms as scale increases, but if we do make this assumption we can compare the relative costs of individual vs network storage. In this example, the effect of individuals installing 3,000kVA is equivalent to the network installing roughly 2250kVA, thus it is 25% more efficient for the storage to go on the network.