Opinion article

Why do we need a National Energy Guarantee (NEG)?

With the National Energy Guarantee (NEG) legislation to be introduced to Federal Parliament in coming weeks, AGL Chief Economist, Associate Professor Tim Nelson discusses why the NEG will be important to avoid a ‘disorderly transition’ to a new energy supply mix in the future. 

There are three key factors driving significant change within Australia’s electricity markets.

Firstly, a significant reduction in the cost of renewable technologies has resulted in a shift in investment towards solar PV and wind generation (Australia now has some of the highest penetrations rates of rooftop solar of anywhere in the world).

Secondly, Australia has agreed to reduce greenhouse gas emissions by 26-28 per cent of 2005 levels by 2030 and the electricity sector is responsible for around a third of Australia’s emissions.

Finally, electricity demand is fundamentally changing with underlying energy demand falling due to energy efficiency initiatives (for example LED lighting) and solar uptake but evening peak demand continues to grow (due to air conditioning penetration).

The case for the NEG – avoiding the ‘disorderly’ transition

The absence of a policy framework that integrates all of this has resulted in Australia’s electricity system undergoing a ‘disorderly’ transition to a more modern electricity generation fleet.

Since 2012, 10 coal fired power stations operating within the National Energy Market have closed, with more than 5000 MW of capacity withdrawn from service.

The cheapest form of ‘energy’ in Australia is now wind or solar PV and several thousand megawatts of new capacity are now under construction.

But there has been a timing gap between the closure of coal-fired power stations (often with very little notice) and the new investment in renewables underway.

The resulting very tight demand/supply balance has led to a very sharp increase in electricity prices. Understandably, customers are rightly concerned about energy affordability.

New renewables technologies have different characteristics which require new ways of thinking to ensure the system remains reliable and affordable as emissions are reduced.

Renewable (except hydro) generation is not considered to be ‘dispatchable’ in that electricity cannot be generated on demand. Instead, energy is only generated when the fuel (i.e. wind and sun) is available.

With increasing variable renewable output, existing coal fired power stations are more frequently ‘ramped’ to respond to the fluctuations in generation by wind and solar PV. This ramping ages coal-fired power stations, potentially eroding their reliability and possibly bringing forward their retirement.

There is therefore a growing requirement for rapidly dispatchable ‘firm’ generation that can be made available to the market within five5 minutes to complement variable renewables.

It is likely this will be delivered through reciprocating gas engines in the short-term and possibly battery storage, pumped hydro or even hydrogen in the longer-term.

With significant investment underway in new renewable and ‘firm’ complementary generation underway, many commentators are expecting wholesale electricity prices to decline in the coming years.

This leads to an obvious question: How can policy ensure that in the future, we avoid the disorderly transition we are going through today? This is where the NEG is important.

The NEG and a more orderly transition

The NEG seeks to integrate energy and climate change policy for the first time. Electricity retailers are required to comply with two obligations under the policy.

Firstly, they must progressively purchase more energy from low-emissions or renewable generators so that the emissions associated with supplying their customers falls over time to achieve the 26-28 per cent target by 2030. This should stabilise long-term investment in new renewable generation.

Secondly, retailers must ensure that they have contracted enough ‘dispatchable’ capacity to keep the electricity system reliable and secure.

The combination of these two obligations will result in retailers seeking to develop a portfolio of generation and contracts that reduce emissions while allowing them to continue to compete with each other for customers on price and value.

If implemented successfully, the NEG is likely to ensure that power stations will not be retired before new capacity is available, avoiding in the future the very disorderly transition that we are currently going through.

Simplicity and transparency of retail electricity prices

As the NEG is being developed, it is important that governments continue to focus on improving outcomes for consumers in the retail electricity market.

Given the complexity of the electricity system, comparing electricity offers can be confusing. The ACCC has recommended a number of policy responses to this problem which seek to ensure that retailer energy offers are more simple and transparent. While the industry has already begun to change, offering simpler products that are easily comparable, it is important that governments maintain their focus on the industry to ensure this continues.

Background research by the author:

The future of electricity generation in Australia: A case study of New South Wales
Decarbonisation and wholesale electricity market design
Links to other research by the author can be found on the AGL Hub
About the authors

Tim Nelson

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Associate Professor Tim Nelson is the Executive General Manager Economic Analysis at Australian Energy Market Commission (AEMC), an independent body responsible for providing advice to Australian governments on the electricity and gas sector since 2005.