Hartwich on the power plans

A must read column on the Greens and Labour power policy is by Oliver Hartwich. He cuts through the rhetoric to focus on some key issues.

Leaving the emotive language aside, will the opposition’s plans actually work? Will they achieve the stated goals of providing secure and more affordable energy to New Zealanders? And what are the potential side effects?

Good questions.

It should be noted that the power proposals are not quite as outlandish as they may first appear. A number of Eastern European countries have also implemented single-buyer schemes where all wholesale is purchased by a government authority before being sold on to distributors. However, in the Eastern European cases this market arrangement followed from a completely nationalised energy sector as a step towards liberalisation. In New Zealand’s case, however, it is a move in the opposite direction.

This is a important point. In assessing the desirability of a policy, you need to look at what the current arrangements are. A single seller policy may well be sensible when you are moving from a point of the Government owning all the generators. But less so when you have 14 different generator companies already operating.

If you were designing the NZ power market from scratch, I think you could have a reasonable debate about the pros and cons of a single buyer model. Personally I’d still be skeptical  but there are pros and cons. But we already have 14 companies who have invested in NZ power generation, and the impact on not just them, but also investor confidence more generally by unilaterally imposing a monopoly government buyer on them is huge and bad.

On the plus side, a single buyer can more easily match physical electricity generation to demand. Such schemes also allow governments to regulate markets effectively because they have direct control over both prices and capacity. After all, this is why the Greens and are proposing their scheme.
But it is precisely this strict control by the government over the market that is the greatest disadvantage of the single-buyer model. The core problem, as with other centrally planned regimes, is that it decouples economic incentives from decision makers. This means that the proposed new Crown entity tasked with deciding on the right capacity for electricity generation does not itself bear the consequences of over- or underinvestment in the industry. This may in turn lead to an unprofitable energy sector – or to blackouts. Older New Zealanders may still remember the experience of electricity rationing when the state controlled the market in the 1970s. 
It is also worth recalling that we have a single buyer model in the 1970s, and as this report shows (page 19) prices increased 58% from 1975 to 1979.
Despite some appealing theoretical advantages of a single-buyer model, ultimately the government could achieve far more by facilitating effective competition at the generation and distribution stages. Nationalising the wholesale market, on the other hand, is likely to create more problems than it might solve, beginning with decisions on capacity.
Improving competition is where the focus should be. Regulation can and should be part of that. But removing competition and having a government mandated price for wholesale electricity is a very bad way to try and get lower prices.
In any case, if the intention is to support low-income earners with their power bills, wholesale is a sledgehammer to crack a nut. It would be much more straightforward to provide direct support to affected households instead of playing havoc with the structure of the market.
Again a key point. This is absolute overkill. It’s like nationalising supermarkets to reduce the price of milk and bread.  They claim that this will save a household $6 a week. Would be far better to give low income households a tax cut or subsidy of $6 a week, than nationalising a $6 billion a year industry.
Even if the Greens/Labour plan actually achieves what both parties promise, which is dubious, it is still an example of how not to make policy. This is not because of its alleged economic merits but because of the way it was announced.
The strong public reactions to the proposal, as well as the substantial losses for energy companies listed on the NZX, show what a bombshell of an announcement it was. Practically from one second to the next, and with no previous warning, let alone any kind of meaningful stakeholder consultation, the rules of the energy market were called into question.
This is a point worth reflecting on. Important rule changes are consulted on. Unilaterally announcing the rules will change, regardless of evidence or arguments, is very scary for investors. The Commerce Commission normally will put out a discussion document, a draft determination and then a final determination. That allows affected parties input.
A responsible Labour Party would have set out an options paper, listing maybe three options for energy regulation. One of them might be the sole buyer model. Then one could have a debate on pros and cons, and power companies could understand where Labour’s thinking was going. If they eventually came out with a sole buyer model, then at least the industry would have had time to consider it.
But to announce a final policy on the hoof, 18 months before an election, with no warning or consultation strongly suggests that it was a half baked idea dreamt up to sabotage the MRP float, and with no regard for the consequences on the wider investor confidence.
Small parties can get away with announcing radical policies on the hop, because people know they won’t be Government. But the two major parties need to be more less reckless.
International investors looking at New Zealand can only draw one conclusion from this episode: that their investments here are not as secure as they previously believed.
For an economy reliant on international capital markets, this loss of investor confidence is significant. As First NZ Capital’s chief executive Scott St John says, the intended $300 reduction in household power bills could be easily offset if the Greens/Labour power plans led to a perception of greater sovereign risk. Indeed, if capital funding costs increase, households will directly feel the effects in their mortgage payments. This is almost certainly an unintended consequence – but a negative consequence it is.
The potential consequences of the policy range from power blackouts to investment dropping off to power prices actually ending up higher as the Government can use its position as both monopoly buyer and seller to fund other spending.
As economists are aware, regulating network industries is fiendishly difficult. No matter where you stand on the single-buyer model and whether it could be made to work, shocking markets and investors with populist proposals (provoking equally populist responses) is not the way to go about it.
Again this is key. Even if you think the policy has merit, you should condemn Labour for the way they just announced it with no warning – in a deliberate move to sabotage MRP float with no concern about the wide consequences.

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