Garnaut – time to write down value of power grids

As private companies bite the bullet and write off billions of dollars off the value of oil, gas and coal assets in the face of declining demand, plunging costs and the growth in renewable energy sources, a new call has gone out for Australia’s state governments to do the same with their network assets.

Professor Ross Garnaut said forcing high network charges on consumers in the face of declining use of the grid would impose a bigger penalty on consumers and businesses than a consumption tax, or even a carbon price. And it would be less efficient.

Fossil fuel companies have been forced to announce big write-downs in recent weeks, knowing that shareholders would no longer accept current valuations given the plunging cost of renewables, the shift to clean energy sources, and reduced demand levels.

BHP, Santos and Woodside have all flagged billion-dollar write-downs of oil and gas assets, coal mines are being sold – some at peppercorn prices (possibly designed to duck remediation bills) – and even Origin Energy has said it will review the carrying value of its LNG assets, as speculation mounts that it may consider a similar demerger to that put in place by European giants RWE and E.ON.

Garnaut argues that those metrics – falling cost of renewables, reduced demand levels – should be applied to network assets. In a speech to young energy professionals in Perth last week, he particularly pointed to the falling cost of solar and battery storage.

He said the emergence of “decentralised energy” would allow consumers in communities away from the main lines of the network to be serviced “much more cheaply” than from centrally generated power distributed through the grid, and also for lower costs to consumers throughout the state.

But this would only occur if the network was priced properly.

“The first step towards rational pricing is to write down the value of redundant grid capacity – of some investments that have been made redundant by technological and economic change, and others that were redundant when they were made,” Garnaut said.

“This is what the market economy forces in other sectors of the economy where there has been investment in supply capacity beyond demand.”

The network operators – both public and private – have argued strongly against any write-downs, and have not been required to do so because they are largely protected by regulated returns.

State-owned networks have been resistant to write downs because they are trying to sell or lease their assets. But Garnaut suggested attempts to retain high values would simply lead to a “death spiral” – where high prices provide big incentives to use the network less.

“Higher prices for electricity is an especially inefficient means to this end (recouping sunk investment),” Garnaut said.

“To the extent that it raises the cost of power to business users, it unnecessarily inhibits the emergence of exports from energy-intensive industries in which WA has comparative advantage.”

“And to the extent that it raises the cost of electricity to households, it reduces the standard of living more than comparable amounts of revenue raised from taxes on carbon externalities, on payrolls, or on consumption more generally.

“With the prices of fossil fuels having fallen dramatically in recent years, and with growing awareness of Australians’ responsibility to do their fair share in a global mitigation effort, a tax on fossil fuel use may be more attractive electorally than the most frequently canvassed alternatives: a higher tax on payrolls or on consumption in general.”

Garnaut’s comments were echoed by a new analysis from Oxford University’s Smith School of Enterprise and the Environment, which identified Australia as an economy most exposed to the “death spiral” of utilities.

Garnaut’s comments were focused on the WA market, but he said that general themes were applicable also to the National Electricity Market that operates in most of the rest of the country.

“Increased opportunities and interest in opportunities for energy efficiency have contributed to falling demand for power through the networks. So has the falling cost of decentralised solar power generation.

“Technological change and falling cost of capital have introduced opportunities for decentralised solar power generation and storage in batteries to reduce peak demand by electricity users – and therefore reduce demand for investment in increased network capacity.”

But Garnaut said that writing down the capital value of the grid to its “contemporary economic value” was not sufficient. It was important that network pricing structure introduced incentives for efficient investment in the grid in future.

“An economically efficient pricing structure would charge mainly for the use of peak capacity used by firms and households, and avoid purely fixed charges for access to the grid.

“Over time, this would lead to more even use of the grid through the hours of the day and the seasons of the year. It would encourage efficient use of decentralised power generation and storage to minimise overall costs of providing power.

“An economically efficient pricing structure would lead, over time, to the emergence of a new balance between centralised and decentralised power supply that reduced overall costs.”

This has been a contentious point for consumers, and particularly for the solar industry. Network operators, often with the support of state-based pricing regulators, have sought to increased fixed charges.

In those cases where “so-called” demand charges have been imposed, the tariffs have been criticised because they focus on peak use from individual users, rather than network peaks, suggesting that they are more about revenue protection than economically efficient tariffs.