Can power systems stand-alone?

We live in exciting times.  The Australian Energy Markets Commission (AEMC) recently consulted with stakeholders in its review of the regulatory frameworks for stand-alone power systems. 

A stand-alone power system (SAPS) is a local energy grid with control capability, which means it can disconnect or be remote from the wider grid and operate autonomously. These systems have technology that is capable of managing power flows, voltage and load. They could be a remote community or maybe a district neighbourhood equipped with forms of distributed generation that are capable of servicing the households’ energy needs for significant periods of time, or even all of the time.

What’s exciting is that these SAPS are becoming increasingly economically viable as a substitute to not only grid extension, but to the existing grid itself, according to some commentators.  The time when consumers can transition themselves away from the interconnected grid may be fast approaching.

The AEMC review asked stakeholders to consider a range of issues associated with developing a fit for purpose regulatory regime that is consistent with the NEO (National Electricity Objective) and if it is in the long term interests of consumers.  Fundamental to this is the type of model we should use to facilitate SAPS – market led or regulated?

The Energy Council’s view is that the long-term interests of consumers is best met through the development of competitive markets in services which are or should be contestable.  In a market-led facilitation of SAPS, therefore, it is appropriate to restrict the ability for regulated network businesses to earn a regulated return on behind-the-meter and/or in-front-of-the-meter assets specifically associated with the provision of SAPS.  This is because when networks supply and/or own these assets, competitive neutrality in the provision of these services to customers could be compromised.

Where the network owns these assets they can in practice access the network support benefits far more easily than other participants in the market, allowing them to offer the customer services at a lower cost.  This seems like a positive at first glance.  However over time, this could allow the networks to dominate the market for behind or before the meter services in their own service area, which would deny customers the dynamic benefits of effective competition. This is not least because the network will seek to retain as much of the value as possible, so any price differential will only be just enough to keep other competitors out.  However the dynamic benefits of effective competition will over the medium  term outweigh any short-term gains to customers from obtaining network provided behind-the-meter and/or in-front-of-the-meter SAPS related services slightly more cheaply in the short term.  Over time, the dynamic efficiency benefit would be expected to overtake the initial network provision benefit. 

Direct investment by networks in energy storage and generation (SAPS) is a form of vertical integration.  Vertical integration is generally more likely to result in the exercise of market power if at least one of the segments of the integrated entity is a monopoly.  Networks in such circumstances are much more likely to have the incentives and ability to leverage the monopoly power they have in order to restrict competition in the other market.

Rules to protect competition against this kind of vertical integration in transmission and generation already exist in the cross-ownership law.  The Energy Council view is that this principle needs to be applied rigorously to network investments. 

This is not arguing that networks should not have access to the benefits that SAPS can offer. In fact it is essential that they do so in order to achieve a lowest cost system for the benefit of customers. But they should be required to procure them from the competitive market, which may of course include a ring-fenced affiliate of the network.

In order for end-users to benefit from services that are capable of dynamic competitive offerings, it is essential that there is non-discriminatory access to these markets.  This is where strong ring fencing is important.  Ring-fencing is an important safeguard to protect the emergence of a functioning competitive market.  The arrangement still  allows network businesses to augment opportunities for growth in revenues, and substitutes to network investments, without the establishment costs of competitive market entry. Competitive businesses do not enjoy this comparative advantage.

The Australian Energy Regulator (AER) is already responsible for monitoring, investigating and enforcing compliance with various aspects of the energy laws and rules, including Ring Fencing.  The AEMC consultation asks what new powers the AER might need with SAPS. The review is timely.