6 minute read

Recent findings on retail price regulation

Gabby Sundstrom
25 October 2017

On 17 October, the Independent Pricing and Regulatory Tribunal (IPART) released its latest draft report into the performance and competitiveness of the NSW retail electricity market, its third such report since price deregulation in 2013-14.

Some of its draft findings are that:

  • competition in the NSW electricity market continued to improve in 2016-17;
  • that recent retail price changes reflect the changes in the cost of supply for electricity; and
  • that many customers are benefitting from competition with the lowest electricity offers in the market around 7% lower than they were before price deregulation.

In contrast, the Victorian Government has also conducted a review into its retail electricity and gas markets. This was conducted by an Independent Panel which released its final report on 13 August 2017and found that:

  • the competitive energy market in Victoria has failed;
  • gross margins in Victoria were higher than in other Australian states; and
  • the market requires regulatory intervention including price re-regulation.

The report has made 11 major reform recommendations to the Victorian Government. Most of these recommendations are not controversial and focus on making marketing information more easily comparable, better clarity of market contracts, fairer marketing practices and improved protection of vulnerable customers. They were largely supported by industry in the many submissions to the review (eg. the AGL Submission).

However, a central and contentious recommendation of the Independent Panel’s report is for price re‑regulation through a “Basic Service Offering”. This is based on the analysis by its consultants that gross margins for average electricity customers in Victoria are at much higher levels than other states.

The Australian Energy Council (AEC) asked Oakley Greenwood to review the analysis underpinning the Panel’s final report (Oakley Greenwood Report) and they identified major problems with the methodology used as well as basic errors in the calculations.

Some of the major flaws Oakley Greenwood identified in the analysis included:

  • The retail prices used in the gross margin analysis are the median offer for each retailer. There is a large spread of retail prices but it is public information that the majority are low market offers. Assuming a median price greatly overstates the retail prices used in the analysis;
  • That the assumptions on market offers and the conditional and unconditional discounts are based on a total sample of 36 customers’ bills. These are highly unlikely to be representative of the Victorian customer base and are also likely to overstate the retail prices used;
  • assuming wholesale costs were set 5 months prior to the analysis when the data implies it should have used 3 months. Using 5 months avoids much of the increase in forward contracts in 2016 and underestimates wholesale cost by at least $50 customer;
  • errors in estimating the costs of the Victorian Energy Efficiency Scheme (VEET) and the Feed-in-tariff schemes by averaging them across the entire consumption base. These errors mean it significantly underestimates the input cost of VEET and FiT for small customers; and
  • they assumed residential switching rates of 15-20% when AEMO data shows Victorian switching rates have been between 26-29% over the last 18 months.

The Oakley Greenwood report found that all these flaws overstate the gross margin calculations by at least 30 per cent and highlight that it can therefore not be relied upon.

It seems the recent preliminary view of the ACCC is similar.

The ACCC report covers many industry issues but used data collected from industry to examine the components of an average residential customer bill in the NEM and by jurisdiction. It found that gross margins were increasingly similar across all states in 2015-16 and that although gross margins had increased substantially since 2007-08, this was mainly due to increases in retail costs. As a result, electricity retailers’ net margins have been between 5-10% and in Victoria, have remained flat in the last 2 years.

The ACCC has also identified areas of the retail electricity market that need of reform such as reducing complexity, improving vulnerable consumers’ access to appropriate products and encouraging further market engagement.

However, the ACCC is very clear that it will not intervene in the retail market until it is sure that the intervention will improve the market and not have unintended consequences to the detriment of electricity consumers.