Economic modelling of the National Energy Guarantee: will it ensure reliability and deliver the savings?

Brendan Rynne, Partner, Chief Economist
Brendan Rynne, Partner, Chief Economist

The National Energy Guarantee (NEG) – the centrepiece of the Government’s energy policy – should help put downward pressure on electricity prices. But securing additional sources of dispatchable or conventional energy is the key to a long-term solution to Australia’s energy needs.

Those are the findings of KPMG Economics’ report, The National Energy Guarantee, pricing and the Australian economy, published today.

The report underlines the importance to the economy of restraining electricity prices, with our modelling showing a further 10 percent increase in the cost of electricity generation would hit GDP by 0.24 percent in the short-term and 0.17 percent in the long-term.

This represents a short term cost to the economy of $4.2bn and 26,000 jobs – while over the long run each household would see their disposable income fall $150 per year.

The scale of the problem is clear: NSW, ACT, SA and QLD experienced higher than anticipated wholesale electricity costs of nearly 50 percent in 2016/17 compared to the Australian Energy Markets Commission’s original forecasts. This was on the back of a rise of wholesale electricity costs of between 50 percent and 60 percent across all the southern and eastern states and territories in 2015/16.

Households and businesses have been smart in adapting to soaring prices in recent years by reducing their usage. But while efficient consumption and demand management have a key role to play, ultimately only additional sources of supply will curb pressure on energy prices.

The NEG is capable of reducing electricity prices below a business-as-usual case, although that outcome is dependent on its precise design features.

Being a market-based solution, the NEG, will enable electricity retailers to choose the generation mix that optimises affordability, reliability and reductions in carbon emissions.

Our modelling shows certain sectors in the Australian economy are especially vulnerable, in the long run, to rising electricity generation costs. For example, relatively capital intensive sectors like Basic Non Ferrous Metal Manufacturing sub-sector and the Non Ferrous Metal Ore Mining sub-sector are projected to continue to be significantly adversely impacted.

This is simply because they do not get a significant offsetting benefit from the reduction in real wages. The relatively large reduction in household consumption is the key driver behind the entry of sub-sectors like Gambling, Water Supply, Sewerage and Drainage Services, Gas Supply, and Telecommunication Services into the bottom 20 performers.

Formalising policy settings for energy production, consumption and transportation have long been challenging. This has become even more complex with the overlay of mitigating global climate change. The high price rises in recent years is challenging for businesses and consumers, and while demand management is important, the securing of more dispatchable and flexible sources of generation remains a priority to meet our current and future energy needs

These will be combined with growth in intermittent renewables sources in the years ahead, as we continue with an orderly transition to an increasing share of renewables.

Our modelling is high-level, but suggests that the NEG contains the right mechanisms to put downwards pressure on the cost of electricity. This is an important step forward, given the serious consequences for the economy of a further significant energy price rise.

Understanding the next level of modelling and the details of the framework following the COAG meeting on 24 November is vital for all stakeholders affected by the current challenges experienced by the energy sector in Australia.

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