Wednesday, September 5, 2012

Privatisation of electricity does not mean loss of government control

I occasionally hear elements of the left getting very upset by the prospect of electricity privatisation. I understand the impulse. In most parts of the economy, selling off assets means you lose control of those assets (see also Qantas, Telstra). And electricity is an essential service for which universal access is a very big concern, which means it would surely make us feel safer and more secure for the government to have a tight grip on it.

However, I've come around to the view that the angst is actually misguided for two reasons.

The first is basically empirical. It turns out that if your goal is the cheapest and most reliable power for people within a given system, electricity markets actually do do roughly what boosters say they're supposed to. Generation markets do use the price mechanism to more efficiently generate and supply power. At the retail end, the experience in Victoria is that contestability (ie retail competition) does seem to bring retail margins down a bit compared to regulated tarrifs.

Private sector transmission and distribution grid operators, at least in Australia, actually do seem to result in cheaper grid costs in a natural monopoly environment. As an illustration, let's compare the revenue growth of the currently private and currently public grid operators in Australia. This comes from the Australian Energy Regulator with colouring added by me for emphasis.

As you can see, grid costs are going up everywhere (because we use shitloads more power than we used to). However, as a general rule the blue privately owned natural monopolies are clearly not going up in percentage terms more than the yellow public ones.

The actual reasons are a complex mess of issues and this isn't to say private good public bad (it might be possible to say certain state governments are shit, however...). I just wanted to demonstrate that existing private network operators clearly aren't price gouging relative to public ones. If anything it looks like the reverse, at least in Australia.


The second reason, though, is that the quibbles about who owns generation or does retail are actually really secondary to the question of how things are structured and how the rules work. You can dispute the details of a specific asset sell-off, whether there's fair value, whether it's being done alongside other shitty measures, and so forth.

However in a properly run system it should make basically no difference who owns electricity assets because regardless, the people making the rules and running things remain the same.

I think the biggest misconception in the minds of a lot of opponents to privatisation is that privatisation means the absence of control. However, the fact is that our whole electricity market system can only exist by the fiat of government and under its ongoing control.

Even in a fully contestable market with no price regulations on generation or retail, even if every single entity within an electricity system is privately owned, the government is still calling the shots and setting the rules. This must definitionally be the case, because physics.

Yep, physics. An electricity grid isn't like a road network or system of internet tubes. It is essentially a single giant alternating current circuit, meaning the electrons shoot back and forth 50 times a second (you can read more about this at Evan's excellent blog). Since there's no unidirectional flow of stuff, and a circuit must be complete to function, the physics of a grid dictates that it absolutely must be managed by a single entity with a clear set of rules and and the power to tell everyone what to do. Markets are a fiction created to enable the controlling entity to run the system better by ensuring everyone has a monetary interest in doing a thing, but the underlying physics dictate a monopoly of control must remain.

At the very least, the correct term of abuse over privatisation should be ordoliberalism rather than neoliberalism.


I don't think this is a trivial point. Because what it means is that in electricity production, a lot of ordinary market concepts become very utilitarian things. Having been conjured into being by government rules, features of the market are harnessed by the operator of the system as tools of coordination. That's why the idea was proposed in the first place.

The allocative efficiency of the price mechanism, for example, is here not just a principled argument for the superiority of free markets compared to command and control economies. Instead, the price mechanism is literally the principle which dictates what power generation occurs. Like, as in, a computer does all the allocation according to the price mechanism.

Price signals are obtained each day and sorted by the central operator (ie a government agency, in our case AEMO) and then as the day goes on, those prices are matched with the amount of  need at that moment. Then the operator tells all the power plants whether to generate or not (this is called "dispatch"). And they do what they're told. And then they get their money from the operator.

(The market operator's magical computers also factor in wind and solar movements in their telling everyone what to do, since the sun and atmosphere refuse to obey the orders of technocrats.)

The price mechanism is thus a tool for centrally coordinating and allocating power generation effectively. Ownership of the generators is actually irrelevant, as long as they're separate and blind and numerous enough to avoid market power. In such situations it's actually impossible for a generator to price gouge in this market. It's a market created and sustained by government which is pretty close to perfect competition.

This point becomes even clearer with the concepts of supply and demand. In the case of an electricity grid, they're not just abstractions. They're actually visible things, measured and tracked from moment to moment, because they need to match up. Not for economic reasons (though that's important for efficiency and thus keeping costs and emissions down), but literally so that the system doesn't blow up. In an electricity system, over-supply or over-demand trashes everything by throwing out the frequency from what it's built to carry (50 hz), causing damage and blackouts. So it's kind of important that physical supply moves to meet physical demand and the best way to match them up is to use a market.


I'm not talking much about electricity retail because basically it's not as interesting as the generation market, all they're doing is competing on the rights to bill you, trying to minimise their overhead and cut margins. The justifications or nonjustifications there are basically the same as having more than one telco retailer, so fill in your own blanks there. The biggest danger is either contracts becoming unfathomably complex a la mobile phones, and private companies having greater latitude to screw their workers.


So why are prices rising? Some of our problems in the electricity sector with price rises are to do with bad regulation (the so-called gold-plating problem with public network owners would be largely a product of dumb ministers and inexperienced regulators being bamboozled by natural monopoly grid operators).

Some problems are actually to do with incomplete market creation (for instance, we'd have less peak load and therefore cheaper networks if it were possible for customers to get a bill discount in exchange for someone having the power to remotely switch off air conditioning in 15 minute bursts during extreme demand days).

However, a lot of the price rise is just the inevitable consequence of our demand for air-conditioning.
But to blame privatisation of generation, networks or retail for power rises in Australia is pretty much wrong.

There's plenty more detail to go into, but this is basically why I think the fight over privatisation is misguided. The important issue is where control and coordination sits and how that control is used. In other words, the main game is the very unsexy work of making sure the rules work to do what they're supposed to - produce and deliver power reliably, as efficiently and therefore cheaply as possible.

1 comment:

  1. Yep, agree Mr Lwason; 'public good private bad' is a bit simplistic here.

    There was also some research done that I "heard about" (never seen the original) looking at "availability factors" for power-stations, pre and post privatisation. There was a demonstrable improvement with the private companies. That doesn't necessarily mean anything about prices, but I was surprised a difference was actually measured.