Electricity pricing project EPP Impact assessment

1
Electricity pricing project (EPP) Impact
assessment
Final report - Presentation to ComMark 11 June
2009
2
EPP Impact assessment issues

• EPP objectives
• Ground crisis debate in hard facts
• Review impact of Eskom 10 sectorally
  undifferentiated reduction in electricity
  consumption. Assess the economy-wide impact of
  differently distributed electricity cuts
• Facilitate debate on appropriate electricity
  price path to minimise negative impact on RSA
  economy
• Assess potential for key sectors to reduce
  consumption in short, medium and long term
• Questions
• Was the research relevant to priority needs
  communicated by role-players
• Was research produced credible
• Were findings communicated to relevant
  role-players effectively
• Were recommendations accepted by role-players
• Were recommendations acted on by policymakers
• Was there behavioural change
• Were policy changes attributed to ComMark
  intervention

3
Methodology to assess impact

• Review timeline of events
• Understand underlying processes associated with
  crisis prior to January 2008
• Energy policy in particular.
• Electricity supply industry restructuring
• Electricity distribution industry restructuring
• Evolution of energy regulation and price
  determination (wholesale and retail)
• NERSA
• Eskom internal approach
• National Treasury/ DPE
• Private sector approach to electricity
• Timeline of key events between January 2008 and
  EPP final report in July 2008
• Timeline of key events post EPP report
• Initial desktop study, followed by interviews
  with key individuals/institutions involved

4
Electricity pricing project Key outputs

• Study commissioned - February 2008
• Interim report March 2008
• Input to NERSA hearings May 2008
• Final report July 2008
• April 2009 addendum report

5
Electricity pricing project main findingsprice
vs rationing

• Price increase of 72.3
• GDP -0.9
• Employment -1.4
• Rationing mining smelting 10
• GDP -1.6
• Employment -1.9)
• Rationing commercial by 10
• GDP -5.9
• Employment 7.9)
• Therefore price increases preferable to rationing

6
Electricity pricing project main findings -
Timing

• Unscheduled power cuts more damaging than planned
  cuts
• Impact of price increase/power reduction less
  damaging if spread over longer period

7
Electricity pricing project main findings
Sector impact

• Mining cant achieve 10 cut in short term.
  Life endangering
• Agriculture livestock dependent. little
  potential for load reduction - load shift
  preferable
• Motor job-shop. Cuts will only reduce
  production
• Food industry unscheduled cuts affect
  refrigeration
• Chemical short interruption have
  disproportionate impact on continuous processes
• Property 57 savings can be achieved relatively
  quickly
• Retail 10 cut can be achieved relatively
  quickly
• Residential 10-15 cut can be achieved
  relatively quickly

8
Electricity pricing project main findings
NERSA MYPD

• 100 real price increase over four years (19 per
  annum) sufficient to cover Eskom cost of
  investment, provide adequate debt/equity ratios
  and support needed cash flow and interest cover
• NERSA price decisions should be considered
  together with other initiatives
• Tight 2008/09 interest cover can be addressed by
  front loading states R60-billion injection in
  2008/09
• Proposed Treasury energy efficiency levy
  (R0.02/kW) will increase average price by 10.
  Treasury should defer introduction by 2 years, or
  allow Eskom to retain levy for 1 year
• EPP supports Eskoms request for NERSA rule
  change to allow primary fuel cost pass-through
• DSM should be separated from annual price
  increases and not be managed by Eskom
• Incentives for energy-efficiency investments
  needed and could result in significant savings
  between 6-18 months

9
EPP policy-related findings
10
Energy policy evolution

• ESI EDI Strategy (1998 Energy White Paper)
• Separate generation, transmission and
  distribution components of Eskom
• Transmission excised, becoming the national
  system operator
• Eskom distribution assets amalgamated with
  municipal distribution to form 6 wall-to-wall
  Regional Electricity Distributors (REDs)
• In2004, government rejected the multi-market
  model, mandating Eskom to be the single buyer
• 2004, Eskom mandated to urgently begin building
  necessary generation capacity to avert shortages
• Backdrop - Considerable institutional
  contestation and baggage

11
Evolution of energy regulation price
determination 1

• 2004 NER -gt NERSA
• 2006 Annual wholesale price determination -gt
  multi-year price determination
• Consistent adherence to regulatory guidelines
  rules
• Annual rejection of Eskom tariff application
  upheld twice on appeal
• 2007 Retail price rationalisation strategy
  adopted
• 2007 Commitment to review wholesale pricing rules
  in MYPD2

12
Evolution of energy regulation price
determination 2

• December 2007, NERSA rejects Eskoms 2007 tariff
  application approves 14.3 for 2008 under MYPD
• January 2008, Generation shortages. Eskom
  effectively declares force majeure large mining
  industrial users
• Country shakeup scheduled load shedding
• Business disunity reflected by Standard
  Bank-BHP Billiton tiff
• March 2008, Eskom applies for revision of MYPD
  tariff to 53. NERSA calls for comments
• 16 May 2008 Electricity summit
• 23,27,29 May 2008 NERSA hearings
• 18 June 2008 NERSA announces 27.5 price
  determination

13
EPP Impact on NERSA price determination

• Considered to be one of 5 serious and impartial
  inputs into price determination hearings
• Caused NERSA to reflect on its own General
  equilibrium model assumptions
• Some differences (eg. interest cover ratios)
• But EPP had similar outputs to NERSAs own
  findings
• NERSA July 2008 decision in line with approach of
  previous determinations
• Consistent application of methodology
• Resistance to unjustified pass-through costs
• Recognition of need to periodically review rules,
  but not in response to crisis
• Resistance to using tariffs to address
  capitalisation of applying entity. December 2007
  decision taken on assumption that shareholder
  would forego dividend

14
EPP Impact on Treasury decisions

• EPP recommendations
• Front-loading of R60 billion capital injection
• Delay introduction of 2c/kwh levy
• Little impact
• EPP model architecture shared with NT. Some
  differences with assumptions in NTs own CGE
  model. NT growth outcomes lower than EPP model
• NT general stance was that rationing was an
  inefficient method, but
• Concern that 50 price increase would have
  adverse impact on GDP and lead to increase in
  interest rates
• Eskom-NT dialogue on capitalisation began
  mid-2007 and pre-dated crisis and EPP. Front
  loading of R60 billion capital injection evolved
  from this dialogue and not from EPP
• Rationing vs Price depended on sector assumptions
• Levy introduction delay based on impact of a
  range of NT proposals (including mineral
  royalties) on sectors and inflations not
  directly influenced by EPP

15
Impact on DPE/DME matters

• EPP recommendations
• Remove DSM management from Eskom
• No impact
• DSM removal not a new proposal and has been a
  policy intention for some time
• DSM more effective as part of a coherent energy
  efficiency programme
• NERSA disallowed Eskoms DSM cost in 2008
  determination
• DME intend to regulate to remove DSM from Eskom
  during 2009/10
• DPE concern more challenge of financing Eskoms
  new build programme
• DPE also developed a model to examine the
  economic impact of tariffs on different sectors,
  the focus being on GDP impact. Agreed with the
  general EPP thrust, but DPE view coincided more
  with Eskom that a higher price than the EPP
  estimate was required to achieve the targeted 10
  demand reduction

16
Impact on business sector decisions

• EPP price input to NERSA hearings
• BUSA endorsed (appropriated?) EPP work,
  particularly to reject rationing option
• EIUG felt EPP did not account for Eskoms
  new-build capital cost efficiency
• EPP findings - Differential sector impact
• EPP work too aggregated to be useful
• Report output not easy to understand
• EIUG only in 2009 commissioned sector impact
  analysis so as to engage in the review of the
  proposed PCP

17
Was EPP research relevant to priority needs
communicated by role-players?

• Yes
• EPP TOR crafted within emergency circumstances
• NERT institution evolving
• Very nasty relationships compounded by heavy
  contestation around ESI policy
• EPP output aimed at charting a constructive path,
  cutting through much historic baggage
• But.
• EPP did not build on existing CGE models and
  capacity

18
Was EPP work credible?

• Three main research thrusts modelled
• Impact of price increases on the National
  economy price increases vs electricity rationing
  as a way of reducing consumption were compared
• Impact of price increases or rationing on how
  firms in different industries might respond
• Impact of price on Eskom balance sheet and income
  statements
• Consensus that results were credible but
• On price needed for 10 reduction
• Some disagreement other models needed higher
  price
• Concern that price elasticity is not helpful if
  an immediate cut is necessary - How long before
  price results in consumption drop
• EPP assumed average tariff, whereas tariffs vary
  quite considerably
• On sector response
• Price driver not decisive for some sectors

19
Were findings communicated to relevant
role-players effectively?

• Communication via three routes
• Interim report 24 March 2008
• NERSA MYPD hearings 19 May 2008
• Final report 28 July 2008
• EPP delivered findings very quickly and timeously
• EPP headline input into Nersa price hearings
  were more widely disseminated due to heavy media
  attention
• However, there seems to be consensus that the
  communication of the EPP findings could have been
  done better, particularly in regard to the
  differential impact on sectors

20
Were recommendations accepted and acted on by
role-players?

• NERSAs tariff setting process and methodology
  decisive and consistent with previous
  determinations, although EPPs inputs may have
  given the NERSA board greater confidence in their
  June 2008 decision
• Internal Treasury/DPE/DME/Eskom/NERSA dialogue
  decisive on front loading and preceded EPP
• Scheduling the cuts were a logical step following
  emergency force majeure
• Eskom rejected academic/theoretical separation of
  price and rationing, maintaining both in PCP,
  which is now subject of NERT research
• Sector differentiation incorporated as part of
  PCP
• Price smoothing concept was the subject of
  inter-departmental dialogue that preceded EPP.
  EPP inputs may have given NERSA board greater
  confidence in their June 2008 decision
• DSM removal concept was not new. Unclear why not
  implemented long before January 2008. DME have
  indicated that this is in process but have yet to
  promulgate regulations to effect this
  recommendation
• EIUG have only commissioned research in April
  2009 to validate EPP findings on sector
  sensitivities to electricity price and cuts.
  Suggests that EPP itself was not decisive but
  that any decision on PCP implementation is
  decisive. Presumably, EIUG research will feed
  into the reshaping of the PCP.
• BUSA not policymaker, but EPP would have assisted
  BUSA in assessing relative impact on their
  membership. Not clear what steps BUSA have taken
  to further understand/confirm EPP findings and to
  work with their own constituency to achieve
  energy efficiency objectives

21
Were policy changes attributed to ComMark EPP
intervention?

• No fundamental change to policy around the areas
  that EPP investigated
• Rationing was not a policy per se. It was an
  emergency measure which was rescinded once the
  emergency conditions stabilised
• Despite efforts to institute the PCP, the
  programme has not been adopted and is currently
  being reviewed within the NERT. Similarly, NERSA
  continues to regulate in accordance with
  principles established over the past few years.
• However, ComMarks intervention to support the
  EPP did contribute to better informing the
  choices within the existing policy and
  regulations and the fact that this was done by an
  institution that was perceived to be independent
  helped to defuse tensions around the emergency
  and steer the policy processes along a
  constructive path.

22
Extenuating circumstances?

• The emergency conditions under which the EPP
  project was initiated was an extenuating
  circumstance in itself. But ComMark could not
  have responded in a more timeous way than it did.
  
• The contested nature of the ESI policy, and the
  tensions that existed around Eskoms management
  of the ESI both before and during the crisis were
  also extenuating circumstances which the EPP
  project would have had to contend with.

23
Emerging issues to enhance impact of future
ComMark-funded projects

• Recognise that impact of project may be difficult
  to assess where the policy issues are complex,
  involving multiple responsible agencies and
  stakeholders, particularly where matters have
  evolved to crisis levels
• Incorporate analysis of institutional and
  interest group contestation into project TOR
• Maximise dialogue around sector impact components
  of the project findings
• Build institutional capacity to house information
  and systems so as to continue intervention