Our approach is not to throw out the market – but to reinforce its strengths

By Tim Nelson, Paula Conboy, Ava Hancock and Phil Hirschhorn (NEM Review Panel)

Australia’s electricity system is undergoing its most profound transformation since the creation of the National Electricity Market (NEM) in 1998.

Ageing coal-fired power stations are being replaced by firmed renewables and millions of household solar and battery systems around the county. If we get the right market settings in place, we can deliver a secure, affordable, cleaner electricity system that works better for everyone.

That’s the task we were given by energy ministers – to examine the wholesale electricity market settings and recommend reforms to ensure the NEM is up to the task of enabling investment in firmed renewables and storage after the Capacity Investment Scheme tenders conclude in 2027.

The NEM was designed to do three things: dispatch power efficiently in real time through the spot market (short-term); allow buyers and sellers to manage price risks through a vibrant contracts market (medium-term); and support new investment through forward price signals (long-term). 

Our draft report makes nine major recommendations aimed at re-establishing the NEM’s core strengths: using market signals to guide efficient dispatch, manage financial risk, and unlock investment in critical electricity services.

Underpinning all of this is a clear focus on consumers. Too often, market reform debates focus on the mechanics of dispatch or contract design, while forgetting the people who ultimately pay the bills.

We heard clearly from stakeholders that households and businesses want three things: reliable supply, affordable prices, and predictable bills.

Our recommendations are designed to deliver this – improving risk management tools so retailers can offer more stable contracts, and ensuring price-responsive consumers can benefit from participating directly in the market.

Our approach is not to throw out the market – but to reinforce its strengths so that for the first time since the NEM was created, spot market outcomes will be not only linked to derivative contract markets but to the long-term investment signal underpinning new investment.

First, we recommend retaining the real-time regional energy-only spot market. It continues to deliver sufficiently efficient dispatch, and in a future dominated by renewables, it will remain essential for underpinning investment in complementary flexible resources such as battery storage. 

Millions of small batteries, electric vehicles, and flexible loads will enter the system over the next decade. At the moment, these resources are “invisible” to the market operator.

Our reforms would require aggregators of these resources to participate in the energy-only market. This would result in a better outcome for all energy users by maximising the productivity of our infrastructure and minimising costs. 

Second, we need to make sure the derivative markets, which are the way in which energy producers and users manage risk, evolve to reflect the new firmed renewables technology paradigm. The challenge is not that renewables are variable – that can be managed. 

But as coal-fired power stations close, the types of financial contracts being bought and sold need to evolve to suit the new needs of buyers and sellers in a system of firmed renewables.

To address this, we propose that the industry regularly convene to determine the types of financial market contracts that are useful for both buyers and sellers across three services: bulk zero emissions energy; shaping; and firming. 

A market-making obligation (requirement to actively trade) would then apply to these standardised derivative products in each NEM region. This would ensure contracts are always available to trade, with tight bid-ask spreads. Critically, these contracts would also be then used to provide an explicit link to the long-term pricing underpinning new investment decisions.

Which brings us to the third and most substantial reform: a new Electricity Services Entry Mechanism (ESEM). The ESEM could build on existing schemes like the CIS, but with a critical difference – it would be a permanent, legislated feature of the market, embedded in the National Electricity Law.

Through a competitive reverse auction process, it could deliver the investment needed to ensure the energy, shaping, firming and security services needed over the longer term to ensure affordable and reliable energy for consumers. 

Crucially, contracts would only be for the later years of a project’s life. Energy companies would sell the output for the first few years of the project’s life to customers via the existing short and medium-term market signals.

This reflects what the Panel heard clearly from buyers and sellers of electricity that the barrier to investment in new electricity supply is the mismatch between the intention of buyers and sellers in relation to the length of a contract (the ‘tenor gap’). Buyers want short-term contracts whereas sellers need long-term contracts. 

The ESEM would effectively act as a warehouse – temporarily holding derivative contracts until they are sold back to the market. Think of it as a bridge between the medium and long-term market horizons: helping projects cross the financing gap caused by short contracting horizons, without bypassing the market altogether. It’s a tool for crowding private investment in, not crowding it out.

We are confident that the pathway we’ve set out – one that strengthens markets, supports investment, and puts consumers first – is the right one. But we welcome feedback from all stakeholders. 

The Panel would like to thank the hundreds of stakeholders who have engaged with us so far and the secretariat for their expertise and commitment.

Electricity is an essential service. It powers our homes, our industries, our economy. And with Australia’s abundant renewable resources, getting the reform settings right now will unlock huge productivity gains into the future. The NEM must evolve to meet the demands of our firmed renewable future – and do so in a way that’s fair, efficient, and enduring.