26 June 2018 - Electricity Authority update on transmission pricing
The Electricity Authority has today updated stakeholders about the next steps for its review into transmission pricing guidelines.
The guidelines provide direction for the transmission pricing methodology (TPM) Transpower uses to charge its customers in order to recover costs associated with building and operating the national transmission grid.
Electricity Authority Chief Executive Carl Hansen says, “The Authority has in the past year reviewed all aspects of its work on transmission pricing and the Board is now in a position to indicate the next steps with the project.
“We’ve been thinking hard about a benefit-based approach to charging over the last year and want to send a signal that this will continue to be a key part of our next proposal. We expect to adopt pragmatic approaches where possible in order to get to a better and more workable solution.
“The current methodology has several very unsatisfactory features, one of which is that parties benefiting from transmission upgrades don’t pay for the full cost of those upgrades, and parties that don’t benefit at all are paying for them. This is leading to poor outcomes for consumers overall.
“Batteries are getting cheaper, which will be great for managing pressure points in the electricity system. However, the current transmission pricing approach will encourage businesses to buy them when the purpose is largely to shift their transmission charges to other customers. This will make electricity more expensive for others and not reduce the total cost. This is clearly not sustainable.”
Mr Hansen says reforming the TPM is needed now more than ever as new electricity technologies and business models are emerging fast in the sector.
“The longer the current transmission pricing methodology stays in place, the greater the risk that investors will make decisions that end up costing consumers more through higher transmission charges over the long term.
“Also, a substantial increase in low-emissions electricity is needed to allow for greater electrification of major industries and transport in the future.
“There have been very clear calls, in a recent Transpower forum, for the transmission pricing review and changes to distribution pricing to be completed as soon as possible. The changes were considered to be needed to provide a sounder footing for further investment in renewable generation and new technologies such as batteries and electric vehicles.”
He says a new cost-benefit analysis and modelling of potential impacts will need to be prepared as part of finalising a formal proposal for consultation.
“We can’t jump to any conclusions, about who will pay what and when, before this work is undertaken. But the Authority is confident from the work it has done so far that a benefit-based charging regime can be implemented without imposing a shock on consumers’ power bills compared with what they pay now.”
Mr Hansen says a date for consultation cannot yet be announced as the amount of work and time needed to finalise the policy, undertake the cost-benefit analysis and modelling still needs to be finalised.
“While we want to be pragmatic where possible, it’s important we deliver a high quality proposal for consultation.”
He says the Authority recognises a considerable amount of work has already been undertaken and feedback has been received on these matters which will materially inform the formal proposal.
“This is a priority piece of work for the Authority and we want a new transmission pricing regime to be in place as soon as possible.”
The Authority expects to provide another update in December 2018.
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What is the TPM?
Most of New Zealand’s electricity is generated a long way from where it is used. That means we need infrastructure in the form of a national transmission grid to transport electricity around the country. Transmission costs pay for the national grid and make up approximately 10 per cent of the average consumer’s total power bill.
That national grid is owned and managed by Transpower which is a regulated monopoly. Because there is no competition, the maximum cost Transpower can recover is set by the Commerce Commission and the way it allocates its charges is determined by the transmission pricing methodology (TPM). Transpower develops a TPM that is consistent with guidelines determined by the Authority.
Why do we want to change the TPM?
The national grid is the backbone of our electricity system. Who pays for the grid is an almost $1 billion-per-year question. While small scale generation close to consumers, such as solar panels, is likely to become more important, the grid is still likely to play a very significant role, and possibly a considerably expanded one.
For nearly 20 years much of the annual bill has been notionally spread across the entire country, although features of the way charges have been set have allowed some parties to effectively reduce their share and shift it to others.
During this time some generators and consumers in some regions have benefited from large and costly grid upgrades and now receive a more reliable service and cheaper wholesale electricity prices, which is money in their pocket. Meanwhile, consumers in other regions do not receive either of those benefits but they still pay for the grid upgrades.
In addition, generators in the South Island have been bearing the costs of the link between the North and South Islands (the HVDC) – yet consumers in the North Island benefit from lower prices and those in both islands benefit from increased reliability in dry years.
As a result many stakeholders say the current way costs are allocated is untenable and unfair. The Authority and its predecessors, and also Transpower itself, have been lobbied for years to have these problems addressed. There has also been several rounds of litigation. These on-going activities reflect the underlying position that, in our view, the current cost allocation method is not durable.
We are also concerned with the poor outcomes for consumers arising from the current allocation method. Right now, the way grid costs are allocated encourages people and businesses to spend money on investments that may not be needed, or are in the wrong place, or may cost more than alternative investments.
The current TPM also encourages some parties to make business decisions purely to avoid or reduce transmission charges for themselves or their client, rather than to reduce transmission costs. This simply shifts charges to other customers. Over time this will lead to consumers paying more than they need to for electricity. This will only get worse as new technology gets cheaper and more people are able to use it to shift charges to others. For example, batteries are getting cheaper which is great. But as the cost continues to fall, the current TPM could encourage businesses to buy too many, purely for the purpose of shifting their transmission charges to other customers which will make electricity more expensive for others.
What charges are we likely to include in our proposal?
TPM charges recover the costs that Transpower incurs building and operating the national transmission grid. We believe changing the way transmission charges are shared will lead to a lower-cost electricity system for New Zealand consumers in the future.
The following points indicate the main charges we currently see as making up our TPM proposal.
- Benefit-based charge: those who benefit from transmission investments pay for them and those that don’t benefit don’t pay. This means the amounts paid are based on the net benefits transmission customers are expected to receive from transmission investments. We expect to propose the benefit-based approach for all future investments and at least some recent major transmission investments and the HVDC. We are considering pragmatic options for the latter category of investments.
- Connection charge: transmission assets that connect a generator or consumer to the rest of the national grid are paid for by that party. This charge would remain similar to the current charge but with minor amendments to improve it.
- Residual charge: designed to pick up remaining costs and spread these out widely. We expect this charge to be allocated in a way that makes it hard for transmission customers to avoid paying their share and shifting it to others.
There will be additional components that go into our final proposal. For example, we’re considering a long-run marginal cost charge, which will be included if analysis shows a long-term benefit to consumers from adding it.
To further our aim to be pragmatic, we will also consider transitional arrangements when the likely impacts have been modelled.
What we’ve been doing and how we’ve arrived at this decision to announce next steps?
Since we put our previous proposal on hold in May 2017, new members were appointed to the Authority Board. Over the past year, the Authority’s Board members have thoroughly reviewed the considerable history of the project, including TPM charging options that the Authority and its predecessors had previously considered and stakeholders’ feedback on them. Our aim for 2017/18 was to decide the next steps for this review.
The principle that costs should fall on those who benefit was a key theme of our 2016 proposal. We noted that during the 2016-17 consultations some stakeholders questioned whether allocating costs based on who benefits from transmission investment would be practical.
To help answer these questions, during the last year we further investigated the workability of a benefit-based approach. We examined how similar approaches are applied in other electricity markets. For example, in New York and some other North American systems, the costs of many new transmission investments are allocated to those who benefit. With colleagues from the Commerce Commission and Transpower, Authority representatives met with staff from several US electricity system operators, and the New York regulator, as well as a world-renowned electricity market expert, Professor William Hogan from Harvard University. We sought to understand how the benefit-based approach had been applied and how it is working in the US. Authority Board members also spoke directly with Professor Hogan to test his views on the scope of a benefit-based approach and how it should be applied.
We have also reviewed alternative potential methods for the valuation of transmission assets over time under a benefit-based approach.