Labour-Greens "nightmare"power policy is "bass-ackwards", says Wolak

Friday 2nd August 2013

The American academic whose work underpins the Labour Party's electricity policy says New Zealand's existing market arrangements are starting to work better and should be improved further.

In a wide-ranging interview with BusinessDesk, Professor Frank Wolak of Stanford University described the Labour-Greens NZ Power single buyer policy as "a sham that might make me feel a bit better", but was the wrong weapon to attack "runaway" retail electricity tariffs, which he says are the real problem in current market arrangements.

Wolak was in Wellington this week as a guest of the Institute for the Study of Competition and Regulation at Victoria University and caused a stir at a heavily attended Minter Ellison talk on Wednesday evening.

In that talk, he made it clear he did not calculate the $4.3 billion figure which critics say are proof of excessive power company profits and a consumer "rip-off".

"That certainly attracted a lot of attention, most of it unwarranted," he said.

Wolak says the NZ Power policy, which would unpick a 25-year-old experiment in electricity market design in favour of a centrally planned model, "may not even solve the problem, which is runaway retail prices."

However, Labour' economic spokesman and architect of the single buyer policy David Parker hit back at reports that he said have "mischaracterised" Wolak's statements.

"He's absolutely clear there's been unilateral market power being exercised and that excessive prices are being extracted," Parker said.

Wolak urged more competitive reform in electricity generation and retailing and far tougher regulation of the monopoly parts of the system: the Transpower national grid and local electricity distribution networks.

"It may look good, but it's got lots of challenges," said Wolak of the Labour-Greens policy. "You're throwing the entire baby out just to get rid of the bathwater and you're going to start over, as if you have all these problems.

"My argument is that some of the changes since 2009 are pushing in the right direction," said Wolak, whose 2009 report for the commission found evidence of electricity generators wielding market power at different times, to maximise the value of their generation efforts.

From that, officials calculated $4.3 billion of "excess charges", which then Energy Minister Gerry Brownlee acted on by shaking up the national retail market, which is now more competitive, with high levels of customer churn.

Wolak says "the first mistake that everyone makes is to say that firms exercising market power are evil firms."

"My argument is no. "As a shareholder in companies, I buy companies that I believe do an excellent job of exercising unilateral market power because that's equivalent to maximising profits.

"The question for the regulator is 'does that cost so much to consumers that it justifies regulatory intervention?"

If so, the easiest thing would be to regulate retail prices, although Wolak warns "regulatory intervention is prone to costly errors."

"You want to be extremely cautious. Make incremental change at best," the experienced Californian market regulator and globally sought-after electricity markets expert says.

Parker said Wolak had "expressly said there is nothing in his analysis about whether it's fair that private generators extract the value of public water."

However, Wolak believes moving to a cost-based, single buyer model could be a disaster.

"If what they are going to try and do is say 'we are recovering costs and allowing you a fair return', then oh my god, it's just a can of worms that you wouldn't believe that's going to get opened," Wolak said of Labour's plan to calculate rates at every power station in the country on a cost-plus return basis.

"They are going about it in a kind of bass-ackwards (sic) way and saying 'we're going to say what each guy's price can be in terms of generators selling'. That's just a nightmare."

"What's simplest is to say we're going to make this thing as competitive as possible."

Where New Zealand's power reforms have failed most obviously, he says, is in allowing residential electricity tariffs to rise far faster than the rest of the market through most of the last decade, a problem that more intense competition would help solve.

Current market arrangements are encouraging the right generation decisions, he says, moving to renewables as they've become competitive with fossil fuels, but generators are not sharing enough of their profits with customers.

"You could still get these runaway retail prices because most of the power is trading through these very untransparent bi-lateral agreements between suppliers and that's getting through into retail prices."

Wolak is no fan of New Zealand's vertically integrated industry, where electricity companies own both generation plant and retail businesses - a reform Parker described in a statement as "a patently necessary step."

Wolak said retailers and generators were usually separated in single buyer markets but the change was not worth it as it wouldn't solve the underlying problem of high residential tariffs."

"If there's one person or 1,000 people that represents this demand, it doesn't matter. You are going to get the same market outcome," said Wolak. "The only way a single buyer is going to matter is if the single buyer can say no," he said.

"But the single buyer can't say no, they are just buying on behalf of existing inelastic demand. If you've got no ability to say no, you've got nothing," he said. "Single buyer is just a sham. It might me feel a bit better, and it probably creates a new administrative office for the government, which costs money, but it doesn't do anything for you."

On network monopoly regulation, Wolak described the Commerce Commission's price path methodology approach to regulating monopoly utility pricing, currently mired in the courts, as "bizarre", and a system where decisions were concluded "under cover of night " by the commission.

"The simplest thing is to have a public regulatory price-setting process. Standardised accounting treatments and benchmarking, involve stakeholders, well defined process a world where you don't want to have regulated prices and you have vertical integration, your only option is essential a very uncongested wholesale market and very active consumer participation.

BusinessDesk.co.nz

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