The Australian Energy Regulator (AER) is urging policy makers to keep progressing with necessary reforms as the National Electricity Market (NEM) transitions to net-zero emissions.
The AER today released its Wholesale Electricity Market Performance Report, providing analysis of events and trends that have shaped the NEM over the past two years.
Since our last report in 2020, the market has been placed under unprecedented stress by a convergence of supply side issues largely due to sharp increases in international fuel prices, significant outages of thermal generation and fuel supply problems. This saw the market suspended for a period and is driving projections of high prices for consumers.
Our report shows that large-scale solar and wind generation have helped bring competition to certain times of the day, helping constrain prices to some extent.
However, events in 2022 highlighted that the NEM is still heavily reliant on coal, and its offers have significant influence on market outcomes. While supply-side factors are a major driver of higher offers, they may not explain all the shifts we have observed.
Dispatchable generation from coal, gas and hydro is becoming increasingly important in balancing fluctuations in demand and supply. Our report shows more flexible generation like gas and hydro, which can be switched on quickly when the sun isn’t shining and the wind isn’t blowing, has set the price more often in peak demand periods. It plays a vital role when the market is under stress.
Ownership of dispatchable generation remains concentrated during peak periods, leaving the market potentially susceptible to the exercise of market power of individual generators.
While we have not identified any widespread or systemic patterns, our analysis has revealed there may be some evidence suggestive of sustained exercise of market power through offering capacity higher than cost with the intention to increase prices, otherwise known as economic withholding. Our results require further analysis to test the potential drivers of the behaviours we have observed and to assess the significance on market outcomes.
AER Chair Ms Clare Savage said that while the observed conduct is not necessarily illegal, it may indicate that competition in the market is ineffective at times.
“The exercise of market power, and subsequent upward pressure on price, is not on its own a breach of the National Electricity Rules but it could point to issues in both market design and the effectiveness of competition,” Ms Savage said.
“The performance of the market over the last 2 years has highlighted some initial recommendations to support policy makers in the transition to net zero emissions.
“The AER’s role is to monitor what’s happening in the wholesale market and the behaviour of market participants. The appropriate powers to monitor these markets is needed to provide greater visibility of contracts, to better assess the competitiveness of wholesale markets, and better understand ongoing market liquidity.
“We want governments to continue reforming the market, including strengthening our monitoring powers and scrutiny of the market so that consumers can feel confident that it is working for them.
“Through our analysis we have identified considerations for policy makers as they develop the significant reforms needed to effectively transition the NEM to an efficient system which ensures the lowest costs to consumers in the long run.”
Further, the AER investigation into the market events that led to the suspension of the NEM in June 2022 has also provided crucial insights that will enable market bodies and governments to consider what changes might improve the operation of the market and the outcomes for consumers during times of system stress.
The investigation revealed generator behaviour that resulted in poor market outcomes. Some generators, in withdrawing capacity from the market, engaged in conduct that significantly contributed to the circumstances causing AEMO to issue a direction. Several generators appear to have had little to no regard about the effect of their actions on the broader system.
However, generators may have had a reasonable cause to withdraw capacity given they were facing limited fuel availability and wanted to conserve fuel for peak periods or preserve fuel stocks. Another cause – fearing having to supply at a loss – is less clear given the existence of a compensation regime designed to encourage supply during times of system stress.
“Currently, the Rules do not oblige generators to offer available capacity and they can decide not to do so for commercial reasons. However, the prioritisation of commercial freedom can be detrimental to power system security, particularly under times of system stress,” Ms Savage said.
The AER’s investigation raises a number of reform options for consideration which could tighten this aspect of the rules to ensure generators continue to generate during times of system stress.
Initial recommendations to support an effective transition
Through our assessment of competition and efficiency in the wholesale electricity market, we have identified initial recommendations to support policy makers to deliver an effective transition. These include:
- Enabling a contract monitoring function for the AER to ensure we can accurately scrutinise the behaviour of participants, as well as more clearly identify impediments to competition and efficiency to inform policy makers. This is also a key recommendation of the ACCC’s Inquiry into the National Electricity Market and is currently being progressed by Energy Ministers.
- Providing a clear and coordinated pathway to reduce the significant uncertainty that currently exists in the NEM, create confidence for investors and facilitate a smoother transition. An action which may support this would be to explore the increased regulation of coal-fired generators in some form, as its viability and exit pathway is a significant source of uncertainty.
- Facilitating competition during and beyond the transition to enable the NEM to function efficiently at lowest cost to consumers and reduce the exposure of market outcomes to the strategies or supply chains of individual participants. As an example, where governments have choice over their investments or underwriting, consideration should be given to actions to diversify the operation of dispatchable generation where possible, as its significant role will continue to drive market outcomes.
This 2022 WEMPR report is our third report covering all NEM regions. It presents a comprehensive picture of the state of wholesale competition, and analyses how the performance of the NEM has changed over the past 5 years, with a particular focus on outcomes since our last report released in 2020.
AER is required to report under the National Electricity Law (NEL) to undertake regular, comprehensive, longer-term assessments of the performance of the wholesale electricity markets every two years.