Energy risks – and opportunities – for manufacturers in the renewables transition

energyrisks

Electricity is a major cost for many manufacturers and a business-critical requirement for all. Price and reliability matter. And right now both seem to be under a cloud. In South Australia, contract prices have been increasing sharply, and short-term spot prices reached extraordinary highs in July. Other regions of the electricity market are seeing an uplift, and the Australian Energy Market Operator warned recently that expected generator closures could see Victoria and New South Wales fall below their reliability buffers within a decade. What is going on?

Many factors are assailing SA, which sits at the end of the network and has long had higher and more volatile prices than anywhere else. Upgrades to the interconnector with Victoria have dragged on and wound up coinciding with winter peak demand for heating. Heating demand also saw the spot price of gas spike, with a tight gas market struggling to meet enormous new demand for Liquefied Natural Gas exports. SA’s generation sector is very concentrated, with several producers closing or mothballing capacity in recent years.

One of the common threads in these events is the rise of renewable energy, which has taken off fastest in SA but is set to play a growing role everywhere. Large scale wind and rooftop solar are variable, but it doesn’t look as though a lack of wind or sunshine was particularly significant in the SA events. Instead the growth of renewables has taken volumes away from incumbent generators and often suppressed wholesale prices. Inflexible ‘baseload’ generators have engineering and financial difficulties in ramping up and down frequently to supply in such a market, and this is part of the reason why coal-fired power stations have closed in SA. But variations in renewables supply and consumer demand still have to be met. The interconnector to Victoria becomes ever more vital, and expensive gas fired generators set the market price more frequently. Everyday prices increase and extreme prices will result when the interconnector is constrained.

With a new SA price surge looking likely when summer hits, should we be halting the rollout of renewable energy in Australia? No. The rise of renewables looks unstoppable; even without supportive public policies, it looks difficult for other energy sources to compete. Large scale solar energy projects are being contracted overseas for as little as 4 cents per kilowatt hour. That’s half the projected cost of energy from new Australian coal-fired power plants, even excluding a potential carbon price. If projects can be built at a comparable cost in Australia – a big if – future energy costs may be lower than we often fear.

But while renewables may dominate in the long term, in the here and now the transition is a massive challenge. The variability and intermittency of renewables becomes a serious problem for reliability at high penetration levels. The problem can be solved with a mix of inter-regional linking, demand side flexibility, stronger gas supply, energy storage and other steps. But it is not solved yet. Australia’s energy market rules, pricing structures, technical standards and investment conditions are very far from where they should be.

The Commonwealth and the States have been quick out of the gate with ambitious renewables targets, even while they drag their feet on the reforms needed to ensure the electricity market can actually digest the new capacity while meeting industry’s need for reliable, affordable energy. The latter include reforms to increase competition and ease new production in the gas market; a ‘demand response mechanism’ that would reward energy users who can easily cut back demand when prices are high; dynamic network tariffs that motivate consumers to reduce congestion; management reforms and new investments in interconnectors; and technical standards, market rules, incentive structures and seed investment to underpin the wide roll-out of energy storage.

In mid-August the Council of Australian Governments’ Energy Council met in the shadow of the SA price events, and Ai Group argued strongly for action on all of the above. Nearly all stakeholders from industry, energy supply, government and beyond agreed that the transition underway to more renewables is necessary – and difficult. But COAG moves slowly. Positive reforms on gas are moving forward, making it more likely that this fuel will be available and affordable while it plays a central role in balancing the electricity market. But other elements are more tentative.

None of these reforms will bear immediate fruit, and the Energy Council meets again in December, by which time fresh SA price spikes may be only a month away. Different actions are needed to minimise the immediate risks to energy users. Manufacturers with exposure to the spot energy markets should be particularly wary and ready to scale back activity on short notice if necessary; scheduling maintenance or other downtime for the January-February period could help. Energy retailers should seek out more businesses and other energy users who are willing to reduce demand for a few hours during extreme events. Governments should also encourage energy conservation and efficiency more broadly. The SA-Victoria interconnector upgrade should be complete by this time, and a great deal depends on how it performs.

Governments continue to make ambitious announcements on renewables; Victoria recently consulted on a policy to hit 40% renewables by 2025. At every opportunity, Ai Group will be encouraging all levels of government to get real, and make the reforms needed to ensure a more renewable grid delivers.

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Innes Willox
Ai Group Chief Executive since May 2012, Innes joined as Director International and Government Relations in 2008. Prior to this he held a number of senior roles in both the public and private sectors: Australian Consul General to Los Angeles (2006-08); Chief of Staff to Minister for Foreign Affairs, Alexander Downer (2004-06); and Manager for Global Public Affairs, Singapore Airlines (2000-04). He began his career as a journalist, with his positions including Chief Political Correspondent and Chief of Staff at The Age.

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