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Select Committee on Electricity Prices
02/10/2012
Electricity price increases in Australia

BEGLEY, Mr Richard, Principal Regulatory Adviser, Economic Regulation Authority

PULLELLA, Mr Robert, Executive Director-Access, Economic Regulation Authority

WATKINSON, Mr Greg, Chief Executive Officer, Economic Regulation Authority

[10:17]

CHAIR: Welcome. We have received your submission. Do you wish to make an opening statement to the committee?

Mr Watkinson : Yes, I would. First, I would like to thank you for the opportunity to appear today and, going by the previous discussion, would certainly welcome the opportunity to work further with the secretariat to provide any data and information you need. The Economic Regulation Authority is, as you probably know, the state's independent regulator. We cover all aspects of the supply chain for electricity. Some of those roles are regulatory; others are advisory. We have regulated Western Power. We provide advice on retail electricity prices and have done so in the past for both Horizon Power, the regional provider, and Synergy. We also have a role in monitoring the wholesale market for electricity, including setting various price limits and revenue approvals within that sector.

I would like to make a few comments in relation to your terms of reference—some of those in particular we can help with more than others. Terms of reference (a)—identification of the key causes of electricity price increases over recent years and those likely in the future—is informed by the ERA's work on Western Power, Synergy and Horizon.

As you probably already know, for the 10 years between 1997 and 2007 prices were kept unchanged. Over that time inflation increased by 47 per cent. Consequently, our regulated prices have had to increase sharply in recent years. Since 2008 prices have increased by 57 per cent. The additional 10 per cent increase over and above inflation addresses in part other cost pressures such as higher cost of gas and coal, increases in the cost of operating Western Power's network following a period of substantial underinvestment, significant increases in the subsidy to Horizon Power and increases in the cost of complying with renewable energy policies.

Going forward, in our view these costs are subsiding. Efficient wholesale electricity costs are estimated to increase only modestly in normal terms over the period to 2015-16 partly due to a reduction in the capacity price and also partly due to a reduction in the rate of return. Network costs are also expected to be relatively constant going forward. Following substantial growth in capex and opex we see these easing. The recent decision of the economic regulator was particularly influenced by the reduction in the WACC, and the ERA has been quite active in the Australian debate in relation to providing certainty about how the rate of return should be calculated. I can go into more detail on that later on if you like. We see the tariff equalisation contribution costs, which are a subsidy to Horizon Power, levelling off. However, we do see a catch-up in retail prices required. When we put the report into Synergy out this year we saw that there was a need for a 21 per cent increase in regulated customers tariffs overall and a 29 per cent increase for residential customers. That was prior to the budget and the new tariffs announced on 1 July. Following the 3½ per cent increase in residential tariffs plus the 9.1 per cent increase for carbon, we see the remaining increase to be in the order of 17 per cent for residential customers.

To term quickly to term of reference B, legislative and regulatory arrangements and drivers in relation to network transmission and distribution investment decision making, there are some significant differences between the network code that applies in Western Australia and the code that applies on the eastern seaboard. As a result of inefficient expenditure by Western Power during the first access arrangement period starting in 2006, the ERA reduced Western Power's asset by $261 million, effectively dismissing the capital expenditure incurred on the grounds that it was inefficient.

In addition to the ability to undertake ex post reviews, that needs to be seen in the light of another process which is similar to the eastern seaboard in which we do new facility investment test free approvals. If Western Power wishes to reduce the risk of an ex post review, they are welcome to come to the Economic Regulation Authority and ask for pre-approval of capital expenditure, which means that they would then have certainty that that expenditure would be rolled into their asset base at the next reset—assuming that it was relatively consistent with what had been approved.

There are a few other differences. In Western Australia we have an unconstrained grid. This means that potentially more expenditure is being incurred on network upgrades to accommodate new generation than is necessary. There is an investigation into that issue. The ERA is still concerned about some aspects of Western Power's performance, as highlighted in our recent decision for AA3. These go to issues around risk management and asset information which may lead to an inefficient investment.

Finally there are some other comments as a result of our work monitoring the wholesale market for electricity in the state. Within the context of there needing to be a fit-for-purpose regime we see that there are some concerns—and we point you to the recent report we have provided to the minister for energy. We are required to provide such a report each year. We found concerns such as the lack of clear strategy to increase competition in the sector—for example, there is no clear time table to introduce full retail contestability—and some ongoing uncertainty about the structure of the government owned entities. We also see excess capacity in the generation market as a concern and something we are doing work on. High rates of planned outages, particularly by Verve Energy, are another area of concern. Understanding the costs associated with demand-side management and intermittent generation is another area that we are keen to investigate further and will be doing so as part of our report to the minister for this year.

Other issues in the terms of reference have not been considered by the ERA. They are really policy matters. But the Electricity Code Consultative Committee does monitor the developments on the eastern seaboard and make changes to the code here as they see fit. The ECCC makes recommendations to the Economic Regulation Authority for approval to changes in the small-use customer code. Over to you.

CHAIR: Thank you. You mentioned earlier the rate of return on network assets. I am keen to hear your view about how the system could be improved to improve efficiency in terms of those assets.

Mr Watkinson : The Economic Regulation Authority has over the last couple of years, partly as a result of work we did on gas access, reviewed a number of the parameters that make up the rate of return. One of those in particular is how the cost of debt is calculated. You may recall that there has been some reliance or dependency on Bloomberg as a data source, and increasingly we were concerned that the ability to use that data was becoming very difficult. It required extrapolation of the available data. We were seeing outcomes that were significantly higher than what companies were issuing bonds in the market for. I think it was back in 2011 that we started a process where we went through a discussion paper phase and consultation paper phase to propose an alternative arrangement where we simply observe a selection of bonds in the market. As long as they meet certain criteria as to the length of time on issuance and credit rating, for example, we then simply observe those bonds and take an average of the data to provide an indication to us of what would be the appropriate cost of debt underlying the rate of return. That has been challenged by service providers as a result of previous decisions and has been upheld at the Australian Competition Tribunal.

Another matter that we have developed is within the rate of return. The previous use was of the 10-year government bond rate as the risk-free rate. When we looked at that we saw that that was out of alignment with what we were observing in the market for bonds, where it seemed that companies are currently financing their investments using bonds which have an average terms of maturity of around five years. So, for the importance of consistency among the parameters within the rate of return, we have changed the approach from using the 10-year bond rate to the five-year bond rate. Again that has withstood scrutiny. So those are two examples of areas which have brought the rate of return down. An example of this is that at the time of the last Western Power access arrangement the rate of return was, I think, 7.98 per cent real pre-tax. The most recent decision provides a rate of return of 4.33 per cent on a real pre-tax basis. So it is a significant difference largely a result of a reduction in the risk-free rate but also compounded by the move from 10-year government bonds to five-year bonds and the use of the new debt risk premium range. The other thing we recently did with the Western Power decision was move to a post-tax framework. Western Australia was out of kilter with the eastern seaboard, which generally had been using post-tax for some time.

Moving to a post-tax framework just provides a more accurate way of calculating the tax liabilities for the company.

I should say there was another change we made to the Western Power decision, and that was to change the credit rating assumption from BBB-plus to a range—from BBB to A-minus. That permitted us to include in the sample of bonds, to calculate the cost of debt, a wider range, including bonds that were A-minus. That also had a downward impact on the rate of return.

CHAIR: Some of the other submitters have made the case that some of the regulatory bodies simply do not have the engineering expertise to properly assess some of the projections that are put in by distribution companies. I am wondering if that is a criticism that could also be levelled here in Western Australia. Also, where do you get your engineering advice from in terms of forward cost projections?

Mr Watkinson : This is certainly an issue for economic regulators. We tend to be economists or financial experts and very rarely have engineering expertise in-house. On the AA2 decision and the AA3 decision for Western Power, we relied on a company called Geoff Brown & Associates from New Zealand. We found them to provide exceptionally good advice. They advised us not only on the access reviews but also on the NFIT reviews, for example, that I—

CHAIR: So you do not employ any engineers in your organisation?

Mr Watkinson : We do not. We do believe, though, that the package of incentives we have is quite robust. The ability to do ex-post reviews should an engineer find that expenditure has been inefficient, which we do have evidence of having occurred in the past, combined with the ability to do what is called a pre-NFIT—in other words, to come to the regulator for preapproval—is a good package in our opinion.

CHAIR: Have you had a look at the AEMC's Power of choice document?

Mr Watkinson : Yes.

CHAIR: It is basically a suite of recommendations that they have made in a discussion paper to increase demand-side participation as a policy, to remove some of the peakiness in the system. I am wondering what your view is on some of the recommendations in that document and whether they can apply in Western Australia.

Mr Watkinson : I have not looked at it closely.

CHAIR: Perhaps you could take that on notice.

Mr Watkinson : To the extent it is a policy matter, it would not be appropriate for us to give too much of an opinion.

CHAIR: Fair enough.

Mr Watkinson : But, within the context of the economic regulator providing an annual report to the minister, as I indicated before, we are looking at the way that demand-side management is being compensated in the wholesale electricity market in the state. I understand there is a working group of the IMO that is also looking at this issue. So there is some work being done on it. The issue there is to what extent you provide the financial incentive for demand-side management to participate in the market that you provide for other forms of capacity such as generation.

CHAIR: Thank you.

Senator LUDLAM: I might pick up where the chair left off. It has come through in a lot of the submissions that the committee has taken that we are dealing with an industry in which the more that is supplied the more money that is made. Whether they are state owned or private, they are businesses that are trying to make a return for their shareholders, whether they be the government or private shareholders. How do we turn that about? In some markets overseas—for example, California and a number of other markets where they tried white certificate schemes—you can make money by reducing, rather than increasing, power consumption. Is that anywhere on the horizon—pardon the pun—here in Western Australia?

Mr Watkinson : Again, that is a policy matter. It does not really fall within the ambit of the Economic Regulation Authority.

Senator LUDLAM: Okay. But you do advise on policy? I am not sure if I misheard you before, but you addressed the issue of full retail contestability. Is that something that the ERA believes that we should move to as soon as possible?

Mr Watkinson : I cannot actually speak for the ERA; the ERA is three members, the board of the ERA, and I advise them. In the report to the Minister for Energy in 2011 we did indicate that there was a need to have a clear timetable to move towards full retail contestability. I am not sure if the government or anyone else has done the work to establish the costs and benefits associated with that.

However, we have made other comments in the past about the importance of not necessarily waiting until you are at cost reflectivity to introduce full retail contestability. As I said before, if we think at the moment that we are 17 per cent away from cost-reflective pricing, all we are doing is trying to second-guess what would actually happen in a competitive market. In our view it would be better to open the market to competition, and then we will know when we are at cost reflectivity because a new entrant will come into the market and supply customers.

Senator LUDLAM: You would have been in the room when Ms Nolan explicitly linked the two and attempted to answer a question that I had not asked. I believe she said—we will check the record—that it was a pre-condition that we have cost-reflective pricing before we move to FRC.

Mr Watkinson : I would not necessarily agree with that.

Senator LUDLAM: It is helpful to tease that out. To what degree is there competition—we will leave Horizon aside for the moment—in the south-west system?

Mr Watkinson : Synergy's market share is in the order of 70 to 80 per cent. Obviously they have 100 per cent share of the franchise, the regulated residential and small business market. I think of the more contestable market their market share may be down to around 50 per cent, but we will have to check that number.

Senator LUDLAM: I am just interested to get a sense of construction at the retail level. How many independent retailers actually exist?

Mr Watkinson : I would have to come back to you on that.

Senator LUDLAM: Is it the number of fingers on one hand?

Mr Watkinson : Yes.

Mr Pullella : A matter of hands, because in the wholesale electricity market there are retailers and defined retailers.

Senator LUDLAM: But if I am a big shopping centre just above the 50-megawatt-hour contestability threshold, I can shop around—what is my choice?

Mr Watkinson : No more than five, I would think.

Mr Pullella : Yes.

Senator LUDLAM: That is what I figured. And what about at the generation end? We have got the 500-pound gorilla, still, that was meant to be addressed by segregating Western Power in the first place. Who else is out there?

Mr Watkinson : I think Verve Energy has in the order of 50 per cent market share, as at 2013-14.

Senator LUDLAM: Are the rest of them just big generators supplying directly to industrial plant? Again, if I am the shopping centre and I want to stitch up a bilateral contract with somebody other than Verve, how many are out there?

Mr Watkinson : There are generators out there that do contract, but mainly to major loads. There is probably a handful of generators that would be interested in that sort of market.

Senator LUDLAM: So we have a very lumpy and non-liquid market, don't we. We do not have a great example here of a frictionless free market of buying and selling and competitive tension. That is reasonable?

Mr Watkinson : Correct.

Senator LUDLAM: I think we are going to hear later from the sustainability industry. I know Professor Wills is giving evidence later on. His single biggest problem is that his members cannot get onto the grid, and when they get there the contestability does not exist to allow them to find a market.

Mr Watkinson : It certainly is a small market, so potentially the extent of contestability is always going to be limited.

Senator LUDLAM: Even when we get down to the household level? Presumably that is why you are advocating that we do that.

Mr Watkinson : Yes, I still think of it as likely to be limited given the size. There are only one million or so customers in the Perth area. So I think there are always going to be significant risks associated with new entrants coming into the market.

Senator LUDLAM: If you were in the renewable energy industry, or if you were an advocate of reducing our reliance on fossil fuels—and we saw that during the Varanus Island explosion; I think it was the last time one of these committees investigated these things—what would you do to the market to make that possible? What would be your proposed reforms?

Mr Watkinson : The comments ERA has made in the past have really been about ensuring neutrality and how different technologies are treated. To that extent, if renewable energy is efficient then it will come into the market.

Senator LUDLAM: But at the moment it is not.

Mr Watkinson : To the extent that it is inefficient I do not believe that should come out of the market.

Senator LUDLAM: By 'efficient' do you mean it is able to compete directly with coal or with the lowest cost generator? Is that your sole definition?

Mr Watkinson : With the introduction of the carbon regime, to the extent that it deals with the externality associated with emissions, I would have thought—and I would hope, and my personal opinion would be—that once that is introduced then that has shifted the incentives towards renewable energy and therefore the regime that applies would be one that treats all technologies neutrally.

Senator LUDLAM: But you have just conceded that the market is lumpy and has a lot of friction, so it is not working at the moment.

Mr Watkinson : Well, we say have seen wind come into the market quite considerably. And I should have said before that we have a lot of data on this, which is included in part B of our report to the minister for energy, which we are quite happy to provide to you.

Senator LUDLAM: Yes, if you could. I am presuming this is at the top of page 2 of your submission, where you talk about a recent inquiry reference from the state government.

Mr Watkinson : That is probably the inquiry into Synergy.

Senator LUDLAM: Yes, that is right—relating to Synergy's efficient costs of supplying electricity. I just wanted to get a reference for that, if I could. When Ms Nolan was at the table she quite cheekily flicked a couple of my on-notice questions back to you. The two questions in particular were, firstly, whether you could provide us with a breakup of where my electricity dollar goes—

Mr Watkinson : Yes, I can do that. I will do that first.

Senator LUDLAM: and how different that profile is likely to be to the figures cited for the NEM and, secondly, of the $371 million loss that we are running the overall system at, how much of that accrues to networks, as opposed to generators? I presume the retailers will not be running at a loss.

Mr Watkinson : I will deal with each of those in turn. I will go through the costing, first of all—and you can find this on page 2, I think it is, of the executive summary of the inquiry into Synergy. We estimate that the cost of generating electricity accounts for around 46 per cent of total costs. I just need to be clear here that these numbers that I will give you are our estimate of total costs, not what households or businesses pay at the moment; it is a percentage of total costs. So, the cost of generating electricity accounts for around 46 per cent of total costs. The costs of transmitting electricity across the transmission and distribution network make up to 33 per cent of total costs. The costs to retailers of meeting their renewable energy obligations and the costs associated with the newly introduced carbon pricing regime make up around 11 per cent of total costs. The billing call centre and other costs associated with running a retail electricity business make up seven per cent of total costs. And the return that the electricity retailer must earn to have an incentive to provide a service makes up around three per cent of total costs.

Senator LUDLAM: That is a very, very different profile to that of the east coast. Why are our generation costs so much higher? Is it mainly the amount of gas that is on the network?

Mr Watkinson : Our gas costs certainly are higher, as I understand.

Mr Begley : Absolutely. We face international export prices in gas here, so there has been huge pressure on gas prices in Western Australia over the last 10 years or so.

Senator LUDLAM: Can we assume that that upward pressure on gas prices will continue?

Mr Begley : That is actually a very hard question to answer. I think there are conflicting views as to what the future holds for gas prices. There was recently a parliamentary inquiry here in Western Australia into gas prices, which is an interesting survey of the issues. As I said, there are conflicting views. Some people believe that we have seen the large bulk of the run-up in gas prices and that we should see that start to stabilise or maybe even fall back a bit. Others see that we have a looming problem with gas, with the North West Shelf perhaps starting to run out of supplies from, say, 2015-16 on. If that is not backfilled with some other source of domestic gas then we would start to see significant real pressure come back on gas prices in the future.

Senator LUDLAM: Okay. I am out of time, so perhaps you could take that other one on notice: where the losses are accruing over the different parts of the system.

Mr Watkinson : Yes.

Senator CORMANN: In your submission you state that the ERA's powers under the electricity networks access code allow it to exclude capital expenditure from Western Power's regulatory asset base that it considers inefficient and that this power, which extends to forecast investment ex ante and to actual investment ex post, has helped to ensure that capital expenditure is efficient. Are you able to compare the power you have to rule investments inefficient with that held by the Australian energy regulator in the eastern states? Can the Australian Energy Regulator similarly rule investments inefficient, both ex ante and ex post?

Mr Watkinson : Ex post the answer is no. I believe we have a power that they do not have. Rob, would you like to comment on the ex ante?

Mr Pullella : On the ex ante they have similar powers in terms of assessing their efficient investment, but once that decision is made that is locked in and ex post the capital expenditure is allowed to be rolled into the capital base.

Senator CORMANN: So you are willing to say in your submission:

… $261 million ($ as at 30 June 2009) of incurred capital expenditure from the first access arrangement was disallowed in the second access arrangement decision.

Can you give us some more detail on why that $261 million of investment was disallowed?

Mr Pullella : That disallowance was based on information from our technical advisers at the time. And a review of the government's processes and information obtained from the actual service provider provided us with compelling evidence in order to make that determination. This related to issues such as the inability of the company to demonstrate that they had actually considered alternatives and the processes that were critiqued about the service provider being able to deliver efficient outcomes. There were problems with contracting. There were a number of issues. I do not want to go into any detail at this point, but if you need further detail we can provide copies of the final report, which went into some of that.

Senator CORMANN: Are your decisions to disallow investment subject to a review by the courts?

Mr Pullella : They can be appealed.

Senator CORMANN: Was that particular decision to disallow $261 million worth of investment challenged?

Mr Pullella : It was not challenged.

Senator CORMANN: It was not or it was?

Mr Pullella : It was not. There was another application made during the more recent access arrangement revisions approval process where Western Power was again claiming that disallowance and seeking to claw that back.

Mr Watkinson : There is a difference in the appeal mechanism here. Appeals go to the state based Electricity Review Board; whereas, for the AER, appeals go to the Australian Competition Tribunal. With gas, our appeals go to the Australian Competition Tribunal but not on electricity.

Senator CORMANN: What is the practical impact of that?

Mr Watkinson : We have been appealed on gas where there was a local review prior to the time it moved to the ACT. I am not sure if there was actually any practical impact of that.

Mr Pullella : No. It is a presiding member review—experts—similar to the ACT.

Senator CORMANN: The Prime Minister is on the record as saying:

Investment which gets the balance right between affordability and reliability.

We know that isn't happening today.

Is that true in Western Australia, in your view? Has there been inefficient over investment—that is, gold plating—in WA?

Mr Watkinson : Our view is that there has certainly not been gold plating overall of Western Power's network. Indeed, we saw a period of significant catch-up expenditure needed to meet the service standards.

Senator CORMANN: So you do not think there has been gold plating in Western Australia?

Mr Watkinson : No.

Senator CORMANN: Does the Economic Regulation Authority only compare efficiency against providers in the eastern states, or do you also benchmark costs against overseas electricity providers?

Mr Pullella : It is primarily the eastern states that we do benchmarking against. When I say 'benchmarking', it is very difficult to do accurate benchmarking. We and our consultants engage in looking at what data is available for benchmarking. Typically, it is more general information and that only gives you a broad perspective on cost.

Senator CORMANN: Do you have a figure on how much the subsidy is to keep urban and regional tariffs uniform costs?

Mr Watkinson : We do. I will direct you to the inquiry into Horizon Power, which we undertook. I think the final report was in early 2011 or in late 2010. The main reason for our undertaking that inquiry was to work out what the subsidy should be. We were keen to establish the efficient costs of Horizon Power and, given the uniform tariff that applies across the state, to calculate how much the subsidy should be. I think the most recent tariff equalisation contribution that has been gazetted is in the order of $180 million a year, which is similar but slightly higher, I think, than the estimates that we found in the review of Horizon Power.

Just give me a moment and we will check that $180 million.

Senator CORMANN: Maybe take that on notice in the interest of time.

Mr Watkinson : Sorry, I stand corrected. The gazetted amounts for the tariff equalisation contribution are $173 million in 2013-14, then reducing over time to $166 million in 2014-15, $146 million in 2015-16 and $143 million in 2016-17. Those are actually lower numbers.

Senator CORMANN: Why are those figures are reducing?

Mr Watkinson : It depends on the assumption that was used by the government—and we have not been privy to the analysis—but I presume that with tariffs increasing Horizon Power earns more revenue from its customers and the need to receive a subsidy in the form of a tariff equalisation contribution reduces.

Senator CORMANN: Your submission states that the carbon tax adds $16.95 and the renewable energy target adds $10.81 to the per megawatt hour cost of wholesale electricity in WA. Does that represent about 20 per cent of wholesale cost of electricity in Western Australia?

Mr Watkinson : We would have to work that out.

Senator CORMANN: What is the total wholesale cost of electricity per megawatt hour?

Mr Watkinson : Let me just pull up the appropriate document. I direct you to about the third page of our executive summary into the report into Synergy. It shows there that the current tariffs in 2011-12 overall, averaged across all customers, was 22.93c per kilowatt hour. The cost of carbon added 1.9c or 8.3 per cent, in our calculation, to that cost. Then there was a need for an additional cost catch-up of 2.33c and an additional amount for inflation of 0.57c to get that 21 per cent increase that I referred to before. Carbon of 1.9c is not anywhere near 20 per cent; it is around 10 per cent.

Senator CORMANN: I am looking at your submission where you talk about adding $16.95 from the carbon tax and $10.81 from the renewable energy target to the cost per megawatt hour of wholesale electricity in WA.

Mr Watkinson : Wholesale electricity is around 50 per cent, so that is 10 per cent of the total cost and it would 20 per cent of wholesale electricity.

Senator CORMANN: How does that compare to the impact on wholesale electricity generation in other states in the national electricity market?

Mr Watkinson : My understanding is that the carbon increase has been in the range of eight to nine per cent, as recommended by other regulators.

Senator CORMANN: You are talking about the retail end; I am talking about the wholesale.

Mr Watkinson : It depends on what their wholesale component is and that is what we were talking about before. I am not sure what that is on the eastern seaboard.

Senator CORMANN: Electricity generators like Verge Energy will have to pay the carbon tax to the tune of about $200 million a year without any compensation. To what extent does that play out in the wholesale electricity prices compared to generators on the eastern seaboard where there has been significant transitional assistance in particular to brown coal fired power generators?

Mr Watkinson : In our inquiry into Synergy, we spent some time talking about this issue. When we estimated the carbon cost, we used the method called long-run marginal cost, which attempted to identify pre carbon what the efficient portfolio of generators was and post carbon what the efficient portfolio of generation was, and we calculated the carbon impost as being the difference between those two—the 8.3 per cent.

That can be potentially different to the costs that Verve has as a result of its existing portfolio. From an efficiency perspective, it is important to recognise that, when a new factor impacts price, the efficient price should be based on the efficient portfolio, including carbon, which could be very different to the existing portfolio, and therefore that Verve Energy, in this case, would be expected to face a reduction in profitability to the extent that it had a portfolio that was not considered to be efficient. I must qualify this as somewhat of a theoretical exercise, and it is not as good as if there were a competitive market operating, but it is an attempt to identify what would happen in the event that there were a competitive market. But what that analysis indicates is that you would expect that profitability of carbon-intensive generators would be reduced as a result of the introduction of the carbon—

Senator CORMANN: Sorry. There is a pretty important follow-up question here. You talk about efficient price. When you talk about efficient price for somebody like Verve Energy, what you are really saying is that, if you are faced with a carbon tax impost, you should lower those energy sources that expose you to that additional cost. That means you have to lower the contribution of coal as part of your energy mix. To what extent, in practice, is Verve Energy going to be able to improve its efficiency in the context of the carbon tax?

Mr Begley : It is not necessarily the case, because we have an Australia-wide market for carbon permits. What happens is that there is a national price set for carbon and generators are faced with a decision: are they going to change their mix or, within the current market and where it settles, will they buy permits in? One of the very interesting things about the Synergy report is that we found that the coal mix does not decline here, because—

Senator CORMANN: It does not decline?

Mr Begley : It does not decline, because given gas here—the price of gas and the switching cost—we do not see any change in the fuel mix. In fact, all of the work for carbon reduction is done over on the east coast, because that is where it is cheaper to do it than in Western Australia.

Senator CORMANN: But what is the point, then?

CHAIR: I will have to finish you there. Sorry, we are running out of time.

Senator THORP: Referring back to your powers to impose conditions on the pricing structure of service providers or the operation of generators and transmitters, you are assessing what price service providers want to charge, basically, aren't you? What power do you have to say, 'That's too much; that's too little,' and reflect a change in the way they determine those prices?

Mr Watkinson : The access regime here is a fallback or default regime similar to the eastern seaboard, so if negotiation breaks down between Western Power and the parties seeking access then they have a right to seek access under the terms approved in the access arrangement, which is approved by the ERA. That is how the regime functions.

Senator THORP: The reason I asked that is that you referred earlier to some concerns you had: Western Power's performance, particularly around infrastructure needs and information on that; concerns about having an unconstrained grid; lack of policy about introducing contestability; and outages planning. Do you have any powers to say to those people, 'Before we can give you approval for this, you need to do this, this and this and put these things in place,' or not?

Mr Watkinson : We look at their efficiency within the context of the current policy arrangements. But moving from an unconstrained to a constrained grid is a significant policy matter. Moving to FRC is a significant policy matter. When we highlight concerns such as Western Power's risk management and asset information, it just means that, when we do the analysis of any proposals, we make sure that we are very cognisant of those matters. Indeed, in licensing Western Power, we require the auditor to consider various matters that home in on some of our concerns.

Senator THORP: Is that information that informs your decisions, or is it information that gets out there, if you like, so that when a decision is made you list your concerns in a public forum?

Mr Watkinson : No, the concerns are simply matters that we take into account when doing any analysis of efficiency proposals.

Senator THORP: How would your energy minister know about your concerns?

Mr Watkinson : In our licensing role—for example, Western Power has a compliance notice against it at the moment for various matters to do with noncompliance with some issues on the small use customer code and the network code—all of that information goes to the minister, as well as to Western Power.

Senator THORP: I know this is going to be an incredibly difficult question for you to answer, but perhaps you could step outside of yourselves at the moment. In relation to imposing things like changing the way some of these businesses do business—in terms of some of the issues that Senator Ludlam was raising about constantly increasing capacity as opposed to looking at demand-side management—could your powers be changed so that you are able to impose those kinds of things?

Mr Watkinson : I think it is appropriate that we are the regulator and that the policy framework is set by the policy bodies.

Senator THORP: Okay. But in your capacity as the regulator you have access to lots of information and expertise.

Mr Watkinson : Yes. An example of one area where we have recommended that it be improved is in the appointment of auditors to undertake licence reviews. At the moment the auditors are appointed by the service providers—for example, Western Power—and we would like to have that appointment capability.

Senator THORP: Right. In terms of the concerns that you have, some of which you raise today, currently you have work within your regulator format, you have access to a lot of information and you can see how things could potentially be improved—

Mr Watkinson : Correct.

Senator THORP: But that is not your role in imposing that knowledge onto the conditions you give?

Mr Watkinson : Correct.

Senator THORP: Who can do it?

Mr Watkinson : That is a policy matter.

Senator EDWARDS: I just want to go to wind energy. Verve Energy is planning to significantly increase Western Australia's share of renewable energy supplies, spending $600 million to build the state's biggest wind farm. In documents lodged with the Western Australian environmental watchdog, Verve said that Warradarge wind farm, about 270 kilometres north of here, could produce enough electricity to power 140,000 homes, with up to 100 turbines. What role do you have to play in Western Australia achieving its renewable energy targets and how does that fit with this proposed development that Verve—

Mr Watkinson : That is a commercial matter for Verve, so we do not interfere in commercial matters, obviously. We have no role other than observing whether the market is working efficiently or whether any party is abusing market power. The ERA has particular powers to investigate those matters.

Mr Begley : Can I just add one thing, just as a sort of an oblique matter that is interesting here. At the beginning of the discussion Greg talked about a pre-approval of a new facilities investment test, where we can pre-approve investment by Western Power. One of the proposals that Western Power came to us with recently was the Midwest energy project, which is a major new transmission line up to the north towards Geraldton. Part of the business case for that was to allow up to 200 additional megawatts of wind power to come onto the system. It was very interesting, as part of that analysis, that, without that project being in place, the system was saturated as far as its ability to take on board new wind power. But we did approve the project, and as part of the pre-approval for that investment to take place, which will happen over the next couple of years, it will facilitate a whole bunch of new wind power to come on board in Western Australia on commercial terms.

Senator LUDLAM: As an economist, what do you make of the fact that if I am on 100 per cent natural power, I am also getting hit with a carbon price? Whose idea was that, and can that be stopped?

Mr Watkinson : No, I have no comment on that.

Senator LUDLAM: No comment—you do not have a view or is it outside your—

Mr Watkinson : It is outside our remit.

CHAIR: I have one follow-up question just to clear something up that was discussed earlier. The government representatives that appeared before us said that the cost of the carbon price in terms of retail and energy bills was about 9½ per cent, on average. There was a discussion earlier about 20 per cent. That only relates to generation, doesn't it?

Mr Watkinson : I said earlier that 8.2 per cent was our calculation of that.

CHAIR: 8.2 per cent on the retail component?

Mr Watkinson : Yes.

CHAIR: Do consumers get compensation through the Household Assistance Package?

Mr Watkinson : That is a matter for government.

CHAIR: Thank you for your evidence.