No cheap or easy fix for high energy prices

The gas crisis in Europe, for instance, predated the Ukraine war, leading to higher electricity prices. Picture: AFP

The budget handed down by Jim Chalmers in October left two lasting impressions.

The first was the prediction that electricity prices would rise by 56 per cent in the next two years and that gas prices would increase by 40 per cent. The second was the failure to predict any improvement to the underlying cash balance across the four years of the forward estimates.

This last point didn’t receive the attention it deserved. Budgets typically announce current bad news on deficits but assure us that things will improve. This was the tactic employed by Wayne Swan as Labor treasurer, and by many others.

By contrast, Chalmers told us the budget deficit would be $37bn this financial year. But in 2025-26 it would be $50bn. In other words, if the assumptions underlying the budget are to hold, the budget bottom line will be worse in four years.

This detail is particularly important to the current debate about how the federal government will respond to rising electricity and gas prices. Any initiatives that involve large additional outlays by the federal government are likely to be resisted by the Treasurer, not least because any significant loosening of fiscal policy settings will involve higher interest rates.

We also should not forget that Chalmers killed off the temporary cut to the petrol excise rate initiated by the Coalition because it was too expensive.

Before thinking about what the federal government can do about electricity and gas prices – Anthony Albanese already has said he wants the measures to be “temporary and meaningful” – it is worth setting out some principles that should guide the government’s thinking.

The first is to assess the reasons for the price rises and to make a judgment about whether they real­ly are temporary. The second is that the sanctity of contract must be respected. This means parties that have entered into contracts to buy and sell coal and gas, for instance, need to be honoured.

Third, the federal government cannot act on its own, given the co-ownership of the National Electricity Market by six states and the ACT as well as other factors.

A final consideration is that price caps/controls do not work and always have unintended consequences, particularly in terms of discouraging new sources of supply. It is also clear that, were the federal government to impose price caps, hundreds of millions of dollars at least would need to be paid in compensation to the affected parties. In the context of the current budget situation, that prospect is unpalatable.

While the Albanese government is adamant that high and rising electricity and gas prices are principally the result of events overseas, particularly the Ukraine war, the facts are more complicated. The gas crisis in Europe, for instance, predated the Ukraine war, leading to higher electricity prices. That several European countries and Britain have been forced to turn back to coal has led to a spiking of the international price of thermal coal.

In the case of the NEM, the partial closure of the Liddell coal-fired power plant in NSW this year was clearly associated with higher wholesale electricity prices. The looming full closure of the plant in April next year bodes badly for electricity prices after that.

It’s a moot point as to whether current high electricity prices on the east coast of Australia are temporary. While wholesale prices may fall back at some stage, the additional cost of the new transmission associated with the deployment of renewable energy will begin to feed into higher prices. Note here that wholesale prices make up only one-third of retail prices, with the largest chunk being the cost of transmission and distribution.

So what are the options open to the federal government? Is it really sensible for the Prime Minister to state that “all options are on the table”?

There is no doubt that the best solution to higher prices always is more supply. (There is a famous saying that the solution to high prices is high prices.) The trouble with electricity and gas is that there are forces constraining the addition of (reliable) supply that mean there are unlikely to be quick fixes that appeal to both governments and private investors. With coal setting the price of electricity in most instances, in theory, it’s necessary to deal with what is happening in the thermal coal market as well as the gas market.

(Climate Change and Energy Minister Chris Bowen may take the view that we should get used to high electricity and gas prices in the name of reducing emissions. His argument could be that relative prices will encourage new renewable energy, operating as a kind of quasi carbon tax, although how this source of intermittent energy can be firmed 24/7 remains a core problem. In time he may hope a system dominated by renewable energy will produce cheaper electricity, although this is a hope rather than a certainty.)

Dealing with the gas market is much easier than dealing with the coal market for the federal government. There are only a few producers and there already are agreements in place.

Essentially, the government needs to extract commitments to increase the supply of gas for the domestic market and to impose a default market option (like the electricity market) on the price of gas for smaller customers.

In exchange, the federal government could agree to facilitate new sources of supply, including reinstating the funding of a pipeline from the Bowen Basin as suggested by Queensland Premier Annastacia Palaszczuk. (Federal Labor withdrew the funding for this project this year.) The NSW and Victorian governments also need to come on board to expedite new sources of supply as well as ensure that the gas remaining in the Bass Strait will be extracted.

As far as the thermal coal market is concerned, the options are extremely limited given most coal is contracted and there is only a small spot market.

The imposition of windfall taxes on energy companies would be extremely unhelpful even if the revenue could be used to fund targeted energy rebates for less well-off households and some businesses. The fact is these companies already are paying more tax as a result of the higher prices and windfall taxes are likely to lead to lower investment, with a current example occurring in Britain. Rebates paid by the federal government also would be com­plicated to administer and cut across the current actions of several state governments, including Queensland and Western Australia.

The bottom line is that there are no easy or cheap fixes for the federal government. It needs the states to co-operate and they have numerous reasons for not doing so. Those federal ministers who talk about energy companies “price gouging” detract from the debate. Progress can be made in respect of the gas market, although facilitating more supply is essentially opposed by the left of the Labor Party.

If there were easy options for the federal government, it would have taken them by now.