Max Bradford
Minister of Energy
MP for Rotorua
2 June 1998

Power Play or Power Reforms?

The Official Information Act (OIA) has one virtue: it exposes with startling openness all the information and debate between Cabinet Ministers and officials as major public policy issues are developed, then decided.

It has two problems though. The material can fall prey to vested interests who can cherry pick the released material and give it to a media often only too willing to print the sensational and sympathetic views of these interests.

So it is with the electricity reforms. Last week, the Government released all the background Cabinet papers and supporting analytical material, which led to the electricity reforms announced on April 7. The "commercially secret" papers prepared by the electricity industry are not of course subject to the OIA, so the public will never know what advice power companies or their organisations have accepted or ignored.

As I said to the Select Committee who will hear the power companies submissions next week, the OIA material contains a veritable wealth of material to enable anyone to prove what they want.

In recent days, the power companies have done just that. We have heard cries of "they (ie the Government) are confiscating our assets", "they ignored their officials' advice", "there is no evidence to support what they have done", "they are ramming the reforms through Parliament", and "there will be a loss of value for companies".

But where are the stories from the consumer organisations who support the reform package? The Government is certainly aware that the Consumers' Institute, the New Zealand Manufacturers Federation, the major energy users group, and now ECNZ vigorously support the reform package.

The problem with the electricity reforms in the past is that they faced up to only some of the steps needed to get competition in the industry.

Consumers missed the benefits of significant drops in wholesale (generation) electricity costs achieved by ECNZ and Contact Energy. Even though there was rebalancing of tariffs between industry and households to remove the cross-subsidies in power companies, there should have been a drop in overall average power prices.

There weren't. The benefits of lower wholesale prices were soaked up by power companies revaluing their assets, which then led to higher power prices and profits.

Consumers missed out, because power companies could resist the arrival of competition by the structure of the retail end of the industry. The generators, most of them owned by the Government, were raising their efficiency and lowering their prices. Consumers can't choose the electricity company from which they buy their power. Statistics provided by the industry to the Government show the already appalling degree of competition is shrinking, not increasing. Less than 4.5 percent of all electricity sold by power companies is sold in other power company's area.

Why is this? The major reason is that every power company - with one exception - owns a monopoly business as well as a (potentially) competitive business. These are the lines (poles and wires), and energy (or electricity) trading, businesses.

There is enough evidence in New Zealand and overseas to show that power companies will use their lines business to cross subsidise their energy business, and to frustrate the arrival of competitors wanting to sell energy to their customers across their line networks. Indeed, the recent prosecution of Southpower by the Commerce Commission, which was settled out of court, was about these very issues.

Most countries, like New Zealand, have used various forms of regulation to prevent such corporate behaviour. It hasn't worked, and many countries are moving to do what the Government's latest reforms are to do : namely, to separate the monopoly and competitive businesses of power companies so there can be no opportunity for cross subsidy or anti-competitive practices.

The alternative is heavy handed regulation which would not give any guarantee of competition, and would invariably tie consumers and power companies into expensive regulatory machinery and in expensive litigation -- both paid for by consumers -- in the courts.

That has been the experience in the UK and in the US, and both countries are moving to require divestment of the generation and energy trading activities of power companies, so competition does develop, helped by the new metering technology becoming available to consumers.

Did the Government ignore officials' advice? The answer is yes and no. We did accept the advice with regard to the splitting of ECNZ into 3 companies, against the advice of ECNZ itself. We did not accept the early advice of officials who were promoting a regulatory approach to control the power companies (the approach now being rejected by the UK and the US), rather than separation of their lines and energy businesses.

But the Cabinet took other advice, and as the internal debate progressed over many months, the officials' advice changed. They consistently advised against corporate separation of the companies favoured by the power companies (an approach which builds the infamous "chinese" walls between the monopoly and competitive parts of a company) in favour of either regulation or ownership separation. The Government chose the latter as the only way to get enduring competition in the industry, an approach that has the full support of officials.

Indeed, they said, as have many others, that ownership separation should have occurred in the first stage of deregulation in the late 1980's so competition could develop properly.

Is there evidence to support what the Government has done? In one sense the proof will only emerge when the reforms are put in place. But the experience here and overseas gives Ministers abundant confidence to proceed.

Is the Government "ramming" the reforms through Parliament? The answer is clearly no. The shape of the reforms has been known to the industry for months. I have given speeches since April last year, and the Government has had meetings with key representatives of industry over many months. It is perhaps revealing that those groups supporting the reforms - including ECNZ - aren't complaining about the 5 week Select Committee process.

Will there be a value loss for companies? That depends how commercially adept power companies are in a truly competitive environment. In future, the companies will not be able to pass on the costs of investment mistakes to captured customers as they can now, nor will they be able to revalue assets to raise their profits above that of efficient power generators and energy traders.

Another significant benefit is that the risks will belong to the power companies. The unacceptable debacle with Mercury will belong to the company and its shareholders in future, and not to consumers who pay the bill when they aren't able to choose their energy supplier.

There will be some loss overall. ECNZ will lose balance sheet value because it now has few incentives to generate low cost power given its dominant market position (it produces 70 percent of the country's power). The Government is prepared to lose that, provided the lower costs are passed through to consumers and not soaked up by retail power companies as in the past.

The power companies may lose some value if they are high cost operators. If they are efficient, as they all tell the public they are, then there will be no loss of value. But if they aren't efficient, or are abusing their local monopoly power, then they will. Either way the consumer will get the benefit in lower power prices, which is properly theirs in a competitive market.

There are a lot of scare stories being put about by some of the power companies at present.

Rural customers losing electricity is one of them. The facts are quite different. The present lines network is guaranteed by law until at least 2013, so nobody will lose access. It is up to the independent lines and energy trading businesses to offer a cost effective solution to rural consumers, which could see the introduction of low cost distributed generation.
Another story is that communities will lose ownership of their local power companies. They won't. There is almost certainly going to be amalgamation of power companies, but the industry has known, and supported, this for some time.

The trust owned power companies will be retained in local ownership, unless the trustees decide otherwise. The Government has no role in this decision. The only change is that the generation/energy trading business must be separated into a "mirror" trust owned by the same community but with different trustees.

A third story is that some overseas-owned private companies - especially Transalta - are threatening to withdraw from New Zealand. That of course is their decision, but in the end we cannot let overseas companies dictate how the electricity industry in our country becomes truly competitive, and gives consumers a better deal.

The discussions I have had with a number of overseas companies or potential investors tell a different story. Some power companies are preparing to increase their investment here significantly, and others (usually major energy users) have said that unless they can get access to lower priced power, they will not increase their investment in New Zealand.

The Government went into this final round of major electricity reform with two objectives in mind.

One is to get a better deal for domestic consumers, in the form of choice of energy supplier and lower prices. Both will happen under the reforms, but not otherwise.

The other objective is to get lower cost energy for industry, and especially exporters. They need it to improve their international competitiveness.

The Government will not be dissuaded from doing right by consumers, even if it means an uncomfortable period of change from power companies who have been sheltered from real competition for too long.

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