Securing our energy future: practical considerations of the Finkel Report

The release of Dr Alan Finkel’s Independent Review into the Future Security of the National Electricity Market (Report) marks a climax in the on-going discussion surrounding Australia’s energy future.

The Report is a blueprint for the government, offering a clear pathway for energy policy. The task was (and still is) a complex one.

In the context of a country which is trying to balance;

• climate change and the global shift to renewables;
• reliability and security of energy sources; and
• the cost of energy to consumers,

the Report looks to provide a clear and focussed way forward.

The recommendations are currently being considered by Commonwealth and State governments and will require a level of cooperation from all parties if there is to be any real benefit. Let’s take a brief look at some of its key recommendations before posing some practical questions (and one or two suggestions) about its implementation.

Emissions Policy Overview

Given Australia needs stable policy to allow for business investment, the Report recommends that by 2020 the Australian Government develop a ‘whole-of-economy emissions reduction strategy for 2050’.

In respect of the electricity sector, the Report recommends the Australian, State and Territory governments set an emissions reduction target from 2020 onwards. No specific target is set but it should reflect Australia’s commitment to a 26 to 28 percent reduction in emissions from 2005 levels by 2030, as per the Paris Agreement.

The Report notes it may be ‘appropriate for governments to ask the electricity sector to do more than a direct application of the national target’. However, it recognises a more ambitious target may ‘have consequences for security, cost and reliability’. Therefore, an emissions reduction target for the electricity sector is, on its own, unlikely to allow Australia to meet its Paris commitments and provide secure, affordable electricity.

In this context, there are three key points coming out of the Report - a recommendation for a Clean Energy Target, the imposition of a Generator Reliability Obligation and the importance of gas to the National Electricity Market.

Clean Energy Target

A Clean Energy Target (CET) is the recommended approach to achieving reliable and low emissions energy generation. The CET is preferred over an emissions intensity scheme and a business as usual approach.

The CET would be based on the current Renewable Energy Target (RET) scheme, which is proposed to continue in its current form until its scheduled end date for new renewable generators in 2020. The RET would not be extended.

It’s clear that the CET is not an emissions trading scheme, a carbon tax or even an emissions intensity scheme. What isn’t clear is exactly how it will work.

How might the CET work?

Firstly, it is important to note that the CET will not actively punish high emissions generators. The CET scheme will award certificates to electricity generators whose emissions are below a threshold level to be set by the Federal Government. Certificates will be issued in proportion to how far a generator’s emissions intensity is below the threshold level. The more certificates issued, the lower the emissions intensity. This will mean generators which meet the threshold level but have a higher emissions intensity would benefit less from the scheme. This compares to the RET where 1 RET certificate is created for each megawatt-hour of electricity generated from renewable sources.

Retailers will be required to purchase certificates to show that a pre-determined share of their electricity came from low emissions generation. The CET would continue indefinitely but limit the period over which a generator could receive certificates – the Report modelled 15 years. The Report concludes that both the residential and industrial price of electricity would be lower under a CET scheme than under a business as usual approach or an emissions intensity scheme. [1]

All fuel types, including coal with carbon capture and storage, would be eligible to participate in the scheme provided they meet the emissions threshold. The Report’s modelling (which calculated electricity pricing under the different options) was based on a threshold emissions level of 0.6 tonnes or 600kg of carbon emissions per megawatt-hour of electricity generated.[2] According to the Report, open cycle gas generation operates with emissions of 620kg per megawatt-hour and ultra-supercritical black coal (High Energy Low Emissions coal) operates at 700kg per megawatt-hour. [3]

On a practical level, under the CET, new generators which do not meet the threshold emissions level would not be developed in the future. As regards existing high emissions generators, the Report’s modelling identifies they will be disadvantaged - being displaced in the merit order in which generators are dispatched in the National Electricity Market. This is because low emissions plants will have lower dispatch costs or because the revenue that low emissions plants generate from CET certificates will allow them to reduce dispatch prices below that of high emissions generators.

Generator Reliability Obligation

The Report recommends that the Australian Energy Market Commission (AEMC) and the Australian Energy Market Operator (AEMO) develop and implement a Generator Reliability Obligation (Obligation) by mid-2018. The Obligation would apply to new renewable energy generators connecting to the National Electricity Market. It is a security and reliability measure designed to ensure there is no shortfall in dispatchable capacity when market demand is high. In practical terms a new renewable energy generator would have to guarantee they can supply (at any time) a certain percentage of their nameplate capacity in order to meet dispatchable capacity for a required time period.

The Report notes that the first step in the process of imposing any Obligation is for the AEMC and AEMO to determine the minimum dispatchable capacity required as part of a regional reliability assessment. In regions where dispatchable capacity is near the minimum acceptable level needed to meet demand, new projects would be obliged to bring forward new dispatchable capacity to that region. In effect, generators would be required to bring online both new renewable generation capacity and new dispatchable generation capacity, potentially via a large scale battery.

Is a Generator Reliability Obligation practical?

There are some practical issues which the Obligation raises that are not addressed in the Report. Questions such as what percentage of back-up supply would renewable generators need to provide? What timeframes would be required with respect to calling on that back up? How long would they need to sustain any reliance on the back-up? The Report seems to indicate the parameters of the Obligation would be flexible in that multiple new renewable projects could be supported by one guaranteed source of dispatchable supply, such as a gas-fired power station. As the new dispatchable capacity would be reserved for back-up purposes, presumably it would be unable to participate in the market in the normal course. Given the current state of the gas market, the practicalities and capital efficiency of having a gas-fired power station providing back-up support only may be questionable.

The Obligation also raises a fairness issue, with new renewable generators arguably being required to provide back-up dispatchable supply for existing renewable generators, at no cost to those incumbents.

Gas Markets

The Report highlights the importance of gas as a low emissions substitute for coal and a viable energy source to complement the renewables sector. It notes that secure and reliable gas supply is crucial for secure and reliable electricity generation. AEMO has stated that in the absence of additional sources of gas supply there is likely to be a shortfall of gas for electricity generation between 2019 and 2024 as well as general electricity shortfalls. [4]

Impact on gas suppliers and gas consumers

Currently, there is no requirement to report to AEMO whether a generation unit has sufficient fuel to run. As a result, the Report recommends that AEMO should require generators to provide information on their fuel resource adequacy and fuel supply contracts to enable AEMO to better assess fuel availability.

The Report acknowledges that supply contracts are a commercial matter for generators but calls for greater transparency of fuel resource levels (including gas and coal). How this would work on a practical level and how it may affect suppliers and consumers is unclear. The Report calls for increased reporting but does not detail what obligations would be placed on generators. Would generators have to disclose the details of their gas supply contracts? Would gas suppliers also be required to give additional details about gas production? There are a number of factors AEMO will need to consider when requiring industry to report on, and forecast, fuel sources. Long term gas supply is essential for reliable electricity generation. However, the Report states that given the current gas supply market new technologies such as battery storage may be more cost-effective in securing reliable electricity.

Government restrictions on gas sources

The Report notes that governments should avoid ‘blanket restrictions and bans on gas projects’ and recommends that governments adopt evidence based regulatory regimes in respect of gas projects which should include an outline as to how governments will ensure landholders are fairly compensated. This is targeted at the moratoria on gas exploration that have recently been imposed in various parts of Australia. The Report calls for decisions to be based on evidence and for governments to approach projects on an individual basis adopting a regulatory approach which addresses and manages the risks associated with individual projects.

The recommendation that governments outline landholder compensation plans reflects the policy shift that State Governments are already undertaking. Both South Australia and Queensland have recently announced changes to the way landholder compensation is to be approached. Whether that policy shift is effective in getting community support for new exploration remains to be seen. The Scientific Inquiry Into Hydraulic Fracturing in the Northern Territory will provide additional clarification on the way forward for the gas industry.

The Report recognises the need for continued exploration and supports a scientific approach to gas development but falls short of calling on State Governments to lift the moratoria on gas exploration.

Summary

The Report is pragmatic and apolitical. It highlights the current issues in the National Electricity Market and calls for a clear strategy moving forward. It tells us what needs to happen but, as its title suggests, it is only a ‘Blueprint for the Future’. It leaves much of the detail unexplained and calls for new and existing regulatory bodies to take action and develop strategies. It raises many practical considerations relevant to all market participants - suppliers, generators, retailers and consumers will all be affected but exactly how and to what extent remains to be seen.

The true value of the Report will lie in the Federal Government’s ability to develop a strategic energy plan which the States support, which delivers reliable and affordable energy and which allows Australia to honour its global climate change obligations.