Is Australia’s NEG the wrong policy at the right time?

After months of hand-wringing, Australia’s National Energy Guarantee made significant progress in April. But questions remain about whether it is the right policy and what impact it will have on investment. Daniel Kemp reports.

This is shaping up to be a landmark year for the Australian energy sector. After a decade of policy uncertainty and many months of prevarication over what new regulations should look like, the federal government’s proposed National Energy Guarantee moved a step closer to reality in April, following a meeting between state and territory energy ministers and their federal counterpart, Josh Frydenberg.

At that meeting, the ministers agreed discussions on the NEG could continue, despite some significant opposition still festering among their ranks.

But what will the NEG look like if it does come to pass at another meeting in August this year? How will it affect the outlook for investors in Australia’s energy infrastructure? And what obstacles remain to the country finally getting an energy strategy worthy of the name?

Shifting responsibility

The National Energy Guarantee promises to enshrine into law targets for both reliability and emissions for Australia’s energy providers.

It is Prime Minister Malcolm Turnbull’s flagship policy on energy, morphing out of the Finkel Review which followed the major state-wide blackout that struck South Australia in September 2016.

The finer details of the policy are still to be determined, but ahead of the recent aforementioned meeting of the Council of Australian Governments (COAG) Energy Council, the Energy Security Board, the group created by COAG to implement the recommendations of the Finkel Review, provided the first high-level design of the proposed NEG. Detail is still light, but it makes clear that the obligation to ensure a supply of clean, reliable energy is being shifted to energy retailers and some large power users.

What’s also clear is that the NEG will be technology-neutral, thanks to pressure from many federal and state MPs who are unwilling to give up on fossil-fuel generation for good. This, in turn, means that there is no specific support for renewable energy in the NEG, to the disappointment of many – in direct contrast to the Finkel Review’s proposed Clean Energy Target, which would have forced electricity companies to provide a set percentage of generation from low-emissions sources.

Tony Wood, energy programme director at the Grattan Institute, a Melbourne-based think tank, does not see this as a major problem.

“Whether the target for renewable energy is 23.5 percent, as it is now, or much higher as the Australian Labor Party is proposing, it doesn’t matter from the policy perspective. If Labor gets in to power, it can just turn the dial up, as nothing in the NEG is dependent on the target itself,” he says.

“The NEG provides some reasonably long-term direction, to 2030, for investment. This is imposed on retailers, rather than emitters, so they’ll have to enter into contracts with suppliers who hit a number in emissions intensity that is still to be determined. And there’s no reason that can’t be in gas or ‘clean coal’ or other sources.”

In theory, this could drive investment in low-emissions technology, with suppliers forced to raise their game to meet their customers’ obligations. But what about renewables, perhaps the most obvious source of low-carbon energy generation?

Investment certainty

Megan Raynal, partner at Maven Libera, says there has already been a shift in how investors view renewables in Australia.

“The bottom line is that the NEG is changing the investment profile of renewable energy,” she says. “PPAs will get shorter, wholesale prices will go down for a number of reasons that aren’t just to do with the NEG, and there’s no additional support for renewables.

“When I tell that to infrastructure investors, they’re no longer considering renewable energy as an infrastructure play – it’s now more like private equity, unless there’s a long-term PPA with guarantees on pricing.”

Wood acknowledges the concern in the renewables sector, but argues that the NEG itself should not deter investors.

“People in the renewables sector think it’s not strong enough, because they argue existing targets will drive reduced emissions anyway,” he says. “But if the NEG is ramped up, it will certainly drive lower emissions.”

A big question mark remains over what happens after 2030, with the NEG designed to cover 10 years from 2020. After that, with no specific support for renewables, projects in that space may have to survive on their own merits.

“The NEG may well provide more short-term certainty,” says Garry Bowditch, executive director of the Better Infrastructure Initiative at the University of Sydney’s John Grill Centre for Project Leadership. “But there are still definite questions about whether investors will be left with stranded assets after 2030.”

Reliable policy?

The reliability aspect of the policy, driven by political need after the South Australia blackouts, while again theoretically likely to drive investment in additional capacity, could be hard to reconcile with the government’s stated primary aim of lowering the cost of energy for consumers.

“I cannot see how you have very high levels of reliability and a reduction of carbon emissions coupled with lower prices – that seems to be an extraordinary mix of contradictions,” Bowditch says. “To underwrite reliability, you have to move from an energy market to a capacity market, and we know from international experience that this is very expensive to maintain. That cost will ultimately be borne by the end user.”

Several sources have indicated to Infrastructure Investor that they have concerns about government intervening in the energy market like this. One of the major uncertainties for investors is whether they will be forced to invest in new infrastructure or upgrades to their existing assets to avoid them becoming redundant, and whether that results in higher prices.

Is the NEG the wrong policy at the right time, then?
Views clearly differ, although most feel it is better to have something in place after years of uncertainty than to continue with nothing at all.

“It’s not perfect, but given where we were, it can be made effective and it can be ramped up by future governments,” Wood says.

And, as Raynor points out, if investors accept that renewables in particular are still a “volatile energy play”, there isn’t that much new in the NEG. “This is how people have been operating for a while, so it’s not a shock. But investors have certainly been re-rating renewable energy in particular with this in mind for some time.”

Roger Lloyd, managing director and CEO of Palisade Investment Partners, summed up the prevailing view among investors when speaking to Infrastructure Investor in April: “Eight years of the last decade have been politically uncertain, but we’ve now got some certainty [around energy policy] coming with the NEG. We’re heading towards certainty – but we’re not quite there yet.”

COAG will meet again in August to agree on a final design, after which the NEG, in whatever form it finally takes, is likely to pass into law.

But there’s always the possibility of an early federal election in 2018 to overcome first – and with an Australian government not managing to serve a full three-year term without changing its leader since 2007, you wouldn’t bet against further political uncertainty.