The spike in gas prices has been variously described as “apocalyptic” and “a perfect storm”.
And now the market operator has been forced into a rare intervention to prevent winter blackouts by forcing energy producers to fire up. On June 15, it took the extraordinary step of taking control of the wholesale electricity market.
But Australia’s energy troubles didn’t come from nowhere.
A confluence of short-term and longer-term economic, geopolitical, political and even weather-related forces have sent prices soaring.
The consequences for households and businesses are now unavoidable.
Why have prices skyrocketed? And is there anything that can be done?
Why have prices risen so much, so quickly?
A big part of the story has been the war in Ukraine.
Energy prices were rising before the Russian invasion as the world economy accelerated out of a pandemic-induced slump. But the conflict triggered a sudden and dramatic global supply shock as businesses and governments around the world spurned Russia’s enormous oil and gas supplies.
As Russian President Vladimir Putin’s brutal invasion ramped up, millions of barrels a day of Russian oil were withdrawn from global markets, and several massive energy infrastructure projects were abandoned.
The impact has not been dissimilar to the 1973 oil crisis, when members of the Organisation of Arab Petroleum Exporting Countries imposed an oil embargo targeting countries that had supported Israel during the Yom Kippur War. The 1973 crisis eventually led to a dreaded combination of stagnant economic growth and high inflation. Economists called it “stagflation”.
There have also been domestic forces at work. Australia’s ageing fleet of coal-fired power plants has been plagued by unplanned outages. This has cut the supply of electricity to the energy grid, adding to the pressure placed on gas, which (unlike coal) can be cranked up at short notice as an alternative source of electricity generation.
About 85 to 90 per cent of Australia’s gas market is covered by long-term contracts between suppliers and businesses known as gas supply agreements, according to the Australian Petroleum Production and Exploration Association’s acting chief executive, Damian Dwyer. That has limited the impact of the extraordinary price surge – for now.
Dwyer says the remainder of the market is covered by more volatile immediate “spot” prices, subject to the whims of global markets. One way or another, high spot prices tend to flow into higher costs eventually as new contracts are negotiated.
“Coal prices have skyrocketed and there have been outages at a number of coal-fired power stations, increasing electricity prices and increasing demand for gas to fuel gas-fired power generators that were suddenly called into operation,” Dwyer says.
Weather has also played a big part. Floods in Queensland and NSW affected coal supplies. And the cold snap has further fuelled demand for gas to warm homes, sending prices even higher.
The situation hasn’t been helped by relatively low electricity generation from renewable sources. According to market analyst EnergyQuest Australia, cloudy weather resulted in a 27 per cent drop in solar power generation in May compared with April, while wind-generated power fell about 1.9 per cent.
All of this underpinned an extraordinary 34.6 per cent increase in the use of gas-fired power in May, which in turn has sent prices to stratospheric levels.
New Treasurer Jim Chalmers described it as “a perfect storm”, warning it was doing enormous damage to households, businesses and the national economy. Australian Industry Group chief executive Innes Willox said it was “apocalyptic”.
As Meg O’Neill, chief executive of the nation’s largest oil and gas producer, Woodside, put it: “A crisis of this nature hasn’t been seen since the 1970s.”
Spot electricity prices – representing the immediate market price – headed towards $1000 per megawatt-hour, or about 80 times the normal level.
What can the federal government do about prices?
In 2017, the then-Coalition government introduced an emergency power called the Australian Gas Reservation Mechanism, which allows the government to keep more gas for domestic use in a supply crisis rather than selling it for export.
Australia is one of the world’s largest exporters of gas – we ship out three-quarters of what we produce. (In 2019-20, Australia produced 5945 petajoules of gas of which 4393 petajoules, or 74 per cent, went overseas. That left 1647 petajoules for domestic use, including power generation, heating and manufacturing, according to figures from the Department of Industry, Energy, Science and Resources.)
But under the current rules, the export control could not be used until January 1 at the earliest – and only if there was a shortage of gas.
Australia’s new climate and energy minister, Chris Bowen, ruled out using the mechanism, at least in the short term. “It’s not an easy trigger to pull; it’s complicated, and if it was pulled today it would have absolutely no impact until January 1 anyway,” Bowen said recently. “It was not really designed to see existing contracts undermined.”
The government also remains deeply reluctant to pull the export control trigger, out of fear it could jeopardise Australia’s reputation as a reliable international exporter, particularly when other countries are bearing the cost of sanctions imposed on Russia.
Bowen has also warned the gas export control trigger is “as blunt as a basketball”, suggesting it is not up to the job of handling the current crisis, and will need to be overhauled before the end of the year. In other words, it doesn’t really offer a short-term solution.
Why is there now talk of blackouts?
Managing the immediate crisis has largely fallen to the Australia Energy Market Operator (AEMO). It has forced to take the rare step of ordering power generation companies to fire up to cut the risk of blackouts.
There are certainly suspicions that power generators could be exploiting the energy-sector chaos to boost their profits. Concerns have emerged that power producers deliberately withdrew electricity supply from the grid in NSW, Victoria and Queensland. The withdrawals were prompted by a decision by AEMO to put a cap on spiralling prices that electricity generators are charging for the wholesale power they produce.
Theoretically, generators subject to such a cap are supposed to keep producing electricity. But because the cost of producing it could be higher than the amount they are selling it for (thanks to the combined impact of the cap and soaring coal and gas prices), they are entitled to compensation payments.
Instead, some energy providers simply withdrew supply, leading to a sudden precipitous drop in the amount of power available. On June 13, for example, more than 10 per cent of the east-coast energy grid’s total generation capacity was withdrawn.
That, in turn, forced AEMO to resort to powers directing them to fire their plants back up to avoid blackouts, triggering a different (and apparently more lucrative) compensation mechanism.
It was perfectly legal. But some suggested the decision to withdraw supply during an energy crisis represented a significant breach of the social licence afforded to generators.
The chair of the Australian Energy Regulator, Clare Savage, took the unusual step of writing to the generators, pointing out their withdrawal of supply “may be motivated” by seeking to avoid the compensation scheme available when energy companies continue to provide power under a price cap. Instead, it appeared as if the power generators were favouring a more profitable compensation scheme that applies if AEMO orders them to produce power to avoid blackouts.
Blackouts have probably been avoided – but only because of AEMO’s dramatic intervention. Supply remains tight. Bowen has even reassured people not to turn off their heaters and other necessary devices.
“I’m very pleased that we have been able to avoid so far … any blackouts,” Bowen said on June 15. “AEMO advises me that will likely continue to be the case and we will be able to avoid any load-shedding events or any blackouts.
“Of course, that is subject to any unexpected outages in the system.”
Then AEMO took an even more dramatic step: suspending the entire market from trading power generation until further notice.
AEMO chief executive Daniel Westerman said that, in order to simplify and improve operation of the grid, the market operator would be directing power companies to supply electricity where needed. “In the current situation, suspending the market is the best way to ensure a reliable supply of electricity for Australian homes and businesses,” Westerman said.
In other words, the crisis is a long way short of being resolved.
How long will the crisis last then?
That depends on a range of factors, such as the performance of coal-fired generators and the amount of wind and solar power generated over winter, EnergyQuest chief executive Graeme Bethune says.
In the longer term, years of political inaction and false starts on energy and climate policy have compounded Australia’s problems. According to experts, those problems include a lack of investment to build the transition and storage needed to improve the reliability of the grid and keep prices down as the uptake of renewable energy increases. The new Labor government wants to see 82 per cent of Australia’s electricity generated by renewables by 2030, compared to the current 30 per cent.
According to the Grattan Institute’s energy program director, Tony Wood, uncertainty dated back to Tony Abbott’s decision to scrap the former Labor government’s carbon tax in 2013, and then Scott Morrison’s decision to axe Malcolm Turnbull’s National Energy Guarantee in 2018.
He said Australia would have been in a far better position to handle the crisis had the federal government provided the market with more certainty. “We still wouldn’t have had all the coal-fired power stations shut by now,” Wood said. “But we would have had a much clearer view of how this is unfolding.”
Wood has also pointed out the Australian Energy Market Operator (AEMO) has been warning of gas supply shortages in the southeast as traditional gas resources, mainly in offshore Victoria, run low. In The Conversation, he said successive state governments had stopped onshore gas development and rejected input terminals on environmental grounds, or they had been delayed due to financial barriers. But the Australian Petroleum Production and Exploration Association’s Dwyer says current gas price rises “are not being driven by gas exports or shortfalls”.
What does the Victorian ban have to do with it?
Federal Resources Minister Madeleine King has pointed the finger at Victoria, claiming a state ban on the development of some types of new gas fields represents a “pretty significant barrier”. But her comments have irked the Victorian government, which argues it is the largest east-coast producer of gas for domestic consumption. It says Victoria produces more energy – both gas and electricity – than it uses, with the additional supply sent to the other eastern Australia states.
The history of the Victorian ban is not well understood. In response to community concerns, the former Napthine (Coalition) government placed a moratorium on all onshore gas exploration and development in Victoria in 2012.
Then, in 2017, the Andrews government passed legislation permanently banning fracking and coal seam gas extraction. Fracking is an environmentally controversial process of injecting liquid at high pressure into the ground to force open fissures to extract gas. Coal seam gas extraction is also a controversial process, often involving drilling deeply into a seam of coal and pumping out water to free up trapped gas.
At the time, the Andrews government also temporarily halted exploration and development of onshore gas extracted using conventional methods. But in June 2020, after a three-year study, the halt on conventional onshore gas exploration was lifted (applying from July 2021), leaving a permanent ban on fracking and coal seam gas in place.
In other words, energy companies are free to apply for permits to exploit conventional gas in Victoria, but not coal seam or gas or fracked gas.
So, what does it all mean for your power bill?
You can get a sense of where power prices might be heading from a recent ruling by the Australian Energy Regulator, which sets basic “default” power bill price increases in NSW, south-east Queensland and South Australia. It said that from July 1, basic electricity bills for households would be allowed to increase by as much as 8.2 per cent above inflation.
It said that, since its last determination a year ago, wholesale electricity costs for retailers, who supply us all with our power, had surged by 41.4 per cent in NSW, 49.5 per cent in Queensland, and 11.8 per cent in South Australia, due to power plant shutdowns, higher coal and gas prices and slowing of investment in new capacity, among other things.
And power prices could rise even further for customers forced to sign up to new contracts in coming months, warned energy market expert Gavin Dufty, who is the St Vincent de Paul Society manager of policy and research in Victoria.
Australia is less dependent on gas and coal for its electricity than it once was. But as long as prices remain high, the power bills faced by consumers and businesses will remain high too.
This explainer was first published on June 2 and has since been updated with additional information.
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