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Power Play

By 13 November 2023Feature Article

Power Play

While one in five households report having trouble paying the power bill, and one in eight are cutting back on heating because of the cost, the big four electricity companies’ gross earnings for 2022/23 totalled $2.61 billion, or about $7.1 million a day. Are we being ripped off by the electricity generators? And, if so, what needs to be done about it? Michael Fletcher investigates.

By Michael Fletcher

Luke Blincoe, CEO of Electric Kiwi, is an affable, cheerful sort of bloke, but when it comes to New Zealand’s electricity market, he’s not one to mince his words. In mid-September he wrote a bluntly worded email to the company’s 70,000 customers that, among other things, accused the big four electricity companies of “squeezing retail competition out by subsidising their bloated retail arms with the excess profi ts from generation”. He also told his customers that Electric Kiwi had lodged a formal complaint with the Commerce Commission.

The “big four” he’s referring to are the large generator-retailer (“gentailer”) firms Contact, Genesis, Mercury and Meridian Energy, which between them generate over 80 percent of New Zealand’s electricity and have about 85 percent of the residential retail electricity market. His comment was prompted by the release of the four companies’ annual reports for 2022/23 showing record high combined gross earnings of $2.6 billion. A level of earnings which itself followed last year’s record of $2.28 billion. Combining generation and retailing is not uncommon in other countries, but is typically accompanied by regulations and systems to ensure independent retailers can compete fairly against electricity companies who both sell them their power on the wholesale market and compete with them in the retail market.

As an electricity retailer, Blincoe obviously has skin in the game but he’s not the only one expressing concerns. Consumer NZ has also been raising questions about the structure and performance of our electricity markets and the size of the gentailers’ profi ts. Consumer NZ CEO, Jon Duff y, says a survey by his organisation showed the cost of energy was a concern for 60 percent of New Zealanders. It estimated that 40,000 households have gone without power sometime in the last 12 months for cost reasons (see “Power and the Powerless”). In that context he says, “the optics of huge profits at the height of a cost-of-living crisis are not great… We acknowledge that profi ts are a healthy and normal part of business, but there’s a question around what is excessive.”

Robin Morrison, Power pylons, near Winton, circa 1979. Photo: Auckland War Memorial Museum Tāmaki Paenga Hira

“The optics of huge profits at the height of a cost-of living crisis are not great… We acknowledge that profits are a healthy and normal part of business, but there’s a question around what is excessive.”

Blincoe and Duffy’s use of the e-words — “excess” and “excessive” — is significant. The existence, or otherwise, of excess profits is a critical and disputed question. In economists’ terms, excess profits, broadly defined, are profits over and above what a firm would make in a competitive market. As Marcia Poletti, a New Zealand-born executive at Octopus Energy in London, explains, in many US states the regulating agency uses an algorithm to automatically override any generator’s selling price offer in the wholesale market if it is judged to be using temporary market power to raise its offer price. Ultimately, if the market rules aren’t working, the losers are us — the ordinary residential power consumers who wind up paying extra for our electricity, while also missing out on the benefits of innovation a properly competitive market would lead to. So, do the gentailers have market power (sorry, the pun is unavoidable in this topic) and, if so, are they exercising it to their benefit and consumers’ cost?

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Geoff Bertram, an economist working until recently at Victoria University of Wellington, has studied the electricity sector for more than 30 years. His answer to both questions is an unequivocal yes. He described it in a 2013 paper as a “straight wealth transfer from consumers [to the gentailers], reflecting the exercise of market power”.

New Zealand’s
electricity markets

The shape of our present-day electricity sector reflects its origins in the reforms put in place during the heyday of pro-market ideology in New Zealand in the 1980s and 1990s. The so-called “Bradford reforms” were named after the National Party’s Max Bradford, Minister of Energy from 1996–99, although in fact the process began earlier, under the Labour Government of David Lange and Finance Minister Roger Douglas. Under the reforms, the old Electricity Department was broken up into the government owned and controlled Transpower, which was responsible for the national grid, and four gentailers established as State-owned enterprises (SOEs), with the big hydro dams and other generation assets allocated between them. Local power companies, many of them community-owned trusts, were required to choose to sell off either their retailing business or their local lines networks (most opted to keep the lines). Under the 1986 State-owned Enterprises Act, SOEs are required to act as commercial competitive entities, maximising returns to their government owner. Alongside these SOEs was one other big privately owned gentailer, Contact Energy, plus a few smaller generators and a small number of electricity retail firms. In 2013/14, the four SOEs were semi-privatised, becoming listed companies, with the government retaining a 51 percent cornerstone shareholding in each firm. Finally, in 2022, Mercury bought out Trustpower, making it the largest electricity retailer in the country, and taking what was ‘the big five’ down to the big four.

The theory behind the reforms was that allowing electricity firms to set their own prices in a competitive market would drive efficiency, leading to the best possible deal for consumers. Consistent with this belief, the regulatory regime was deliberately established to be as light-handed as possible. The main tasks of the oversight body, the Electricity Authority, were to monitor the sector, encourage maximum competition and to ensure barriers for new investors to enter the market were not artificially high. If this story sounds familiar, at least to readers of a certain age, it is because it was. This was the period of peak corporatisation (and privatisation) of state-run activities. In electricity terms, it was unquestionably radical — few developed-country jurisdictions have no direct regulatory control over maximum prices. Supporters argue that, overall, the reforms have proven successful. They point to the fact that there are now almost 40 retailers that consumers can choose between. The chief executive of the Electricity Authority, Sarah Gillies, while acknowledging that some regulatory settings will need to continue to evolve, notes that the authority’s May 2023 review of the wholesale market “concluded that the electricity market has served consumers well [and] competition is most likely to deliver the best outcomes for consumers”. Gillies also notes that the non-integrated (ie, non-gentailer) retailers’ share of the market has risen from 2.8 percent in 2009 to around 16 percent now.

Benmore Dam is the largest dam within the Waitaki power scheme. Photo: Benmore Dam by Simon Bloomberg;

But evidence of competition is sometimes in the eye of the beholder. Consumer NZ is rather less persuaded that we have seen competition that serves us well, and Paul Fuge, its electricity sector specialist, sees that same 16 percent figure as an indicator that competition has been very slow to emerge.

Consumer NZ also notes the large rise in the price of electricity since the reforms were introduced. Ministry of Business Innovation and Employment (MBIE) data shows that since 1999 the price of electricity sold to residential consumers has risen by 35 percent after adjusting for inflation, even though the increase has been less than inflation in the last five years (see Figure 1). Had the price increased at only the same rate as other household costs over the last 23 years, what is a $200 power bill now would be less than $150. While there are other reasons for some of this increase — investment in new lines, an increase in GST, among others — the question remains as to why the freemarket model has not delivered lower prices. These doubts are reinforced by the fact that the increase has all been on residential customers. Larger industrial users who typically have more bargaining leverage have not experienced any inflation-adjusted increase over the period, and for commercial users the price has fallen.