Breaking the link between gas supply and power prices and what it means for New Zealand’s energy future

For years, New Zealand enjoyed relatively stable wholesale electricity prices. While there were occasional spikes during dry years, the overall cost of generating electricity remained remarkably consistent from 1997 all the way until 2018.

But that changed in 2019.

The sharp and sustained decline in domestic gas production since then has been one of the most significant influences on New Zealand’s electricity market over the past decade. Understanding that relationship is important to make sense of today's energy challenges and to set expectations about where prices may be headed next.

Reliability is strong. Affordability is the challenge

New Zealand’s electricity system is performing well from a reliability perspective. Significant lessons were learned from the system stresses experienced in August 2024, and reliability remains a key focus across the sector. Fuel levels are at historic highs, and the Government is advancing a set of plans aimed at increasing reliability further, including proposals for an LNG import facility.

Affordability, however, tells a different story.

Energy represents a small but meaningful share of household expenditure, and New Zealanders have seen electricity, gas and fuel costs rise substantially in recent years. While some of these pressures stem from global factors outside our control, the question remains: what can we do domestically to bring costs down?

Around 40 percent of the average household electricity bill reflects the cost of generating electricity, while roughly 35 percent covers the cost of transporting that electricity through transmission and distribution networks. The remainder reflects retail costs, metering, GST and market administration.

Both generation and network costs have been increasing. But until recently it is the generation component and particularly the impact of declining gas supply that has had the most profound influence on market prices.

The gas shock that changed the market

Gas has long played an important balancing role in New Zealand’s electricity system. With large-scale domestic gas production, when hydro inflows were low or demand was high, gas-fired generation helped fill the gap. The large Rankine generation units at Huntly were even modified to allow the burning of gas as well as coal to take advantage of the abundance of fuel. But the fuel mix has changed. And as gas availability has unexpectedly declined, the market has lost a key source of flexible generation, putting upward pressure on electricity prices.

The result has been an enormous and sustained increase in wholesale costs. The average monthly wholesale price at the important Otahuhu node was about $100 / MWh from 1997 until 2018. Between 2019 and early 2026, the average leapt to $160 / MWh.

Investment has arrived and it’s renewable

The combination of higher prices and improving renewable economics triggered a wave of new grid-scale investment in electricity generation. Projects built recently and those currently under development represent about a 20 per cent jump in New Zealand's annual electricity generation.

None of this new capacity relies on gas.

Instead, investment has flowed into geothermal, wind and large-scale solar generation, as well as some upgrades to existing hydro stations. Renewable sources now account for more than 90 percent of New Zealand's electricity production, while the contribution from gas and coal has steadily declined. Distributed energy generation, like rooftop solar and household batteries, are also becoming more popular.

This transition is not being driven primarily by policy. It is being driven by economics.

Wind, solar and geothermal generation have low operating costs because their fuel is effectively free. Once built, they can generate electricity without the ongoing fuel expenses associated with gas, coal or diesel generation.

That matters because, over the long run, fuel costs play a major role in determining electricity prices.

Why more renewables means lower prices

As the amount of renewable generation grows, average electricity prices will tend to fall.

Wind, solar and geothermal plants typically can’t control their output or store energy economically for more than a short period. This means that they tend to sell the electricity they are generating at whatever the market price is at that time.

As more renewable generation enters the system, periods of abundant supply become increasingly common. During these periods, electricity prices can get close to zero because there is more than enough low-priced generation to meet demand in any given half hour.

The challenge is that New Zealand still experiences periods when demand is high and renewable output is lower, particularly during cold winter mornings with little wind. During these times, we need and will continue to need more expensive generation sources to fill the gap.

The likely outcome is a market characterised by:

• Long periods of very low prices
• Short periods of very high prices
• Lower average prices over time.

The critical test: will consumers benefit?

Expected wholesale market prices have fallen significantly recently, as new renewable capacity enters the system.

Consumers ultimately judge the success of the market by what they pay each month, not by movements in wholesale markets.

The key challenge for regulators, retailers and the wider sector will be ensuring that those reductions in generation costs flow through to households and businesses in a timely manner.

If wholesale prices fall but retail bills continue to grow or remain stubbornly high, confidence in the market model will inevitably come under pressure.

The ongoing challenge: keeping the lights on

Despite the momentum behind renewables, thermal generation is unlikely to disappear overnight.

Even with a lot more renewable generation, New Zealand still faces the challenge of managing “dry years”, periods when we have too little rain in the right places, meaning hydro generation falls well below normal levels. Historically, thermal generation filled that gap. And the recent agreement between the four large gentailers supports the availability of thermal generation at Huntly until at least 2035.

The difficulty is that as renewable generation suppresses average wholesale prices, thermal plants operate less frequently. Eventually, plants may struggle to recover their fixed costs, increasing the likelihood of further retirements on top of the many thermal exits we have already seen.

The important question is what will provide system-wide backup energy when thermal is no longer available.

One view is that hydro storage itself will become the system's primary source of seasonable flexibility. Those very low market prices created by more renewables could also outcompete hydro, meaning hydro generators store more water during periods of abundant renewable supply and use it strategically during periods of scarcity.

In effect, New Zealand's hydro lakes could become the country's largest battery.

However, the transition will require careful management. Long-duration, flexible generation and hydro storage both remain limited, and policymakers are actively considering how market design and regulation may need to evolve to ensure adequate backup supply remains available.

Looking ahead

The relationship between gas and electricity in New Zealand is far from over. The Authority expects we will continue to need thermal backup for many years yet.

The next decade will determine how New Zealand balances affordability, reliability and security of supply as the role of thermal generation continues to reduce.

The good news is that the transition is underway and under management. The challenge is ensuring that a more renewable electricity system is also an affordable and reliable one.