An analysis of recent changes in the South Australian electricity market
Authors: Dylan McConnell1 and Mike Sandiford2
1 Australian-German Climate & Energy College, The University of Melbourne
2 Melbourne Energy Institute, The University of Melbourne
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South Australia has one of the highest penetration intermittent renewable generation portfolios in a liberalised energy-only market. In the year to the end of June 30th, 2016 (FY16) wind generation contributed 37.6% to the total grid dispatch in South Australia, while domestic solar PV contributed an estimated 6% of total electricity production. The rise of renewable generation in South Australia over the last decade has been accompanied by the progressive withdrawal of baseload coal generation, and a changing role for gas generation and reliance on exchanges with the neighbouring state of Victoria. Along with the opening up of the interlinked Australian east-coast gas market to international gas pricing, the dynamics of the South Australian electricity market has shifted accordingly, making it a test case for understanding how to manage the transition to a high penetration renewable energy system in liberalised energy-only markets. In the winter months of 2016, South Australian wholesale electricity prices rose steeply, generating intense interest in its causes and the consequences of the South Australian energy transition.
At around 38% of annual market dispatch, South Australia currently has one of the highest penetrations of wind generation in any liberalised energy-only market, and therefore provides important lessons for other jurisdictions contemplating similar transitions. Recently South Australian saw new records set for extreme wholesale electricity pricing in June and July 2016, and is of particular pertinence to understanding transitional issues associated with decarbonisation of the electricity sector with renewable technologies. The context for the developments in the South Australian energy market can be understood in terms of several intersecting factors, including the increasing penetration of renewable energy generation, rapid and unprecedented changes in the gas market, the level of market concentration, and degree of system-scale planning. Key findings of this report are as follows:
- The rise in renewable energy generation in South Australia since 2006 has impacted in several ways. The addition of renewable generation capacity and its heightened impact on merit order dispatch system has contributed to downward pressure on wholesale prices, which have declined in real terms since the 2007-2008, while also generating net Large-scale Renewable Energy Target certificates to the annual value of about $120 million. In so doing, it has contributed to decisions to close brown coal generators, and increased South Australian dependence on imports and, in times of low wind output, gas. As one of the largest stations on the National Electricity Market (NEM) in terms of its capacity relative to regional demand, the closure of Northern Power Stations in May, 2016, has tightened the demand-supply settings with consequent increases in wholesale prices.
- The eastern Australian gas market has undergone rapid changes as it adapts to issues associated with a three-fold increase in production to fulfill international export contracts. Because of its high proportion of gas generation, South Australia wholesale electricity prices are particularly sensitive to price movements in the gas market. The closing of Northern has increased its reliance on gas, especially in times of low wind.
- Concerns about the exercise of market power in South Australia have been evident in relatively low levels of liquidity in its market, and there is demonstrable evidence for the extraction of monopoly rents by some generators, arguably through physical and economic withholding of capacity. On top of pressure from rising gas market prices, electricity price increases were exacerbated by an unprecedented rise in gas generation margins as revealed by record high spark spread values. Since the closure of Northern, South Australia is the most concentrated region in the NEM, and this was further exacerbated by the earlier decision taken by Engie to effectively mothball its Pelican Point Power Station and on-sell its contracted supply into the gas market. We estimate the Herfindahl-Hirschman Index of the South Australia market at 3000 - 3400 (depending on the status of Pelican Point) making it severely concentrated, and well above the value of 2000 that the ACCC uses to flag competition issues.
- A disorderly sequence of station withdrawals and mothballing and interconnector upgrades in South Australia has clearly impacted the way the prices have unfolded. In particular, the closure of Northern, in May, prior to completion of interconnector uprgrades has severely accentuated the price impacts, and enhanced the conditions for the exercise of market power. At a broader level, the policies that have opened up of the east coast gas market to international gas pricing have had disproportionate impact in South Australia, and flag tensions between national gas market developments and the Renewable Energy Target.
The interdependence of these issues suggests remedies that can be used to avert future crises in South Australia and elsewhere. For example, new investment in alternatives to gas-peaking designed to alleviate pressure on gas demand in times of low-wind output, such as storage, concentrating solar thermal or enhanced interchange capacity, can be used to address price volatility concerns, and, with appropriate regulation, competition issues. Further, we note that the South Australian experience provides a salutary forewarning of the havoc that can ensue from lack of coordinated system planning in times of transition. It bears on the question of disorderly exit that will be faced in all markets requiring substantial decarbonisation, in part because of the scale of the fossil power stations that are displaced. We note there are already calls for fundamentally new market design rules, including the introduction of a parallel capacity market, which we argue is not yet warranted, although attention to details such as the level of the market cap price, or even the need for one, should remain open.
While we don't make specific recommendations in this report, we note that in order to avert future crises in South Australia, as well other Australian jurisdictions on their pathway to decarbonisation, particular attention should be given to the:
- potential for market power to be concentrated as a consequence of transitional arrangements,
- diversification of low emission generation and storage portfolios,
- alignment of national energy policy across related sectors, specifically the intersection of gas export markets and the Renewable Energy Target, and
- more coordinated system planning during transitional arrangements.