Gas, transition and the energy trilemma

In a previous post I talked about the energy transition that is underway across the globe and the investment risks that is presents, especially in the Australian context where gaming the system seems to be a national sport.  

I will talk about energy bill and tariff structures in a future post, but for context within this post a standard consumer energy bill is made of 4 major parts.

• Wholesale market costs (Generation and services)
• Transmission and Distribution network costs 
• Retail charges and margins
• Government charges 

The assumptions embedded in the energy transition are that, in the long term, wholesale market costs will go down due to the entrance of cheaper generation, but there is a requirement for a large investment in new transmission to augment the network to re-architect it to work in new ways in order to get there.

The reason it is important to balance these effectively is because within the energy sector there is a set of well-known constraints called the energy trilemma.  This is a simple term to describe what energy consumers expect from energy markets and service providers:

• Affordability – e.g. keeping energy prices down, making energy more affordable for households
• Reliability – e.g. ensuring stable supply of energy at all times, preventing blackouts
• Sustainability – e.g. increasing use of clean renewable energy, reducing carbon emissions

And this is the heart of the issues we are currently seeing.  Independent studies do show that people care about sustainability, but only if affordability and reliability are not impacted in a measurable way.  The need for new investment in transmission , both in new network and network services, means that there will be an increased cost in transmission over the next decade and without a corresponding offset in some other part of the consumer bill, people are going to get very upset, very quickly.

And this brings me back to gas , but firstly a quick backgrounder.

The wholesale electricity market operates in a marginal price setter environment. This means that electricity prices are set by the most expensive source that has to be on at any given time. Currently in Australia there is not enough VRE sources (backed up by storage) to provide 100% of electricity needs at any time. This means that there is always a need for coal or gas in the system, in fact on most days coal still makes at least 40-50% of electricity generation , even during daylight hours.

This has two impacts:

1. Until there is enough VRE+storage in the network to provide close to 100% of energy needs,  prices are essentially ‘coupled’ with coal and gas prices.
2. The cost benefits of renewables are not properly passed on to consumers even though they produce electricity at significantly lower $/MWh.

The inevitable outcome of this is that consumers cannot see the advantage of energy transition. The high cost of electricity over the last few years has actually been driven by coal and gas prices, but it is easy for an uninformed public to think otherwise and to blame renewables.

The reality is that large transmission projects in support of the renewable transition have barely begun, and due to the nature of how these projects are funded,  are in most part not even in consumer's bills yet. 

Independent research of the Australian electricity market clearly shows that:

There has been a near-perfect correlation between natural gas prices and electricity prices in Australia’s National Electricity Market (NEM), regardless of the underlying supply-demand balance and despite gas plant only operating for a small percentage of the year.

And that ,

Coal units regularly shadow price the marginal gas unit, as noted by Australia’s competition regulator (ACCC, 2018):

“A bidding strategy document from that same [coal] generator noted that its intention was, after its contract position was covered, to ‘bid our remaining coal generation at the staggered prices that ensure full dispatch at the highest possible price before gas generators start.”

In other words, even when gas isn't in the mix, Coal will be bid at a price just under what is profitable for a gas turbine to be in the market, so basically it is in the market at all times.

So with Australian gas run by a unfettered cartel, wholesale prices are going to be permanently high based on market dynamics, even when gas isn't in the mix.  This will mean that consumers will be paying both high wholesale prices and, eventually, much higher transmission costs at the same time.

And with state government's releasing statements like this.

Over time, batteries and pumped hydro will be developed to store excess renewable energy to release when needed. This will gradually reduce dependence on gas. However, until storage solutions are widespread and cost-effective, gas will remain essential for grid stability, ensuring reliable electricity supply during periods of low renewable generation while also reducing carbon emissions compared to coal.

those higher prices are baked in. 

Whatever your thoughts about de-carbonisation and the energy transition there is no way to balance the energy trilemma with gas at current prices. 

If this continues then the transition will stall, energy policy will flip-flop and the consumers will likely end up with none of their 3 wants.