Gas pipeline regulation in Australia Is it fit-for-purpose? - - PowerPoint PPT Presentation

Gas pipeline regulation in Australia

Is it fit-for-purpose?

Presentation to the 2019 ACCC / AER Regulatory Conference, Brisbane, 1 August 2019 Jeff Balchin Managing Director

Contents

• How did we get here?
• Is the current regime working? What improvements could

be made?

• What about the RAB – is one required?

2

Gas reforms and early trends

• At time of mid 1990s reforms, a (relatively) simple industry structure

– Single sources of supply linked to major markets via a single pipeline – Obvious monopoly elements – ex ante price control imposed generally

• But clear potential for competition existed

– Ability to contract capacity makes pipeline competition feasible – Clear that governments had held back the sector – A different path taken to electricity – capacity to test the need for regulation

• Reforms followed by substantial development of the pipeline network and new

supply sources

– Creation of a pipeline “grid” with substantial benefits, including reliability – Increased competition between pipelines and basins – Removal / avoidance of price control for a number of pipelines – Light-handed regulatory option introduced – applied to a number of pipelines

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East Australia gas pipeline network

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Early-mid 1990s Now

Ex ante price control Light regulation Unregulated (now Part 23) Under development (on Schedule A) Major supply source Major demand centre

Subsequent trends

• Continued evolution of the gas markets (new sources of

demand and supply and risk) – and a substantial increase in (delivered) prices

– Caused an examination of all parts of the supply chain – ACCC concluded there is evidence of pipelines making “monopoly rents”

• Problems identified with the pipeline regulatory regime

– De-regulation has proven easier than regulation / re-regulation

• Concerns about whether the test for coverage is appropriate

– The “light-handed” alternative did not prove effective

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Response to emerging issues – current regime

Full regulation

Ex ante price control

Light regulation

Negotiate - arbitrate (AEMC proposed cost-based) Information disclosure (AEMC proposed regulator to set initial RAB) Regulator as arbitrator

Part 23 regulation

Negotiate - arbitrate Information disclosure (self-reported asset values) Commercial arbitrator

Coverage test

Is competition promoted in a related market?

Form of regulation test

Best way of controlling the market power?

Two principal changes

• Introduction of a default form
• f regulation that covers

almost all pipelines

– Information disclosure – Capacity for commercial arbitration

• Enhancements to “light

regulation”

– Information disclosure – Improvements to negotiation and dispute resolution processes – Proposed requirement to apply the standard cost-based principles – Proposed AER to determine initial RABs

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Assessment of current regime

Some very good elements to the recent reforms

• Focus on information disclosure and effective dispute resolution
• Proposal for additional guidance for “light regulation” arbitration,

including that the AER set the initial RAB

But shortcomings exist

• Potential for both over-regulation and a bias against increased regulation

– Side-stepped rather than tackled the “coverage” concerns

• The need for flexibility in the default regime brings uncertainty

– Contains few protections against “expropriation”

• Arbitrations framed as "commercial” and not precedent setting

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Possible reform options

Current regime

Full regulation

Ex ante price control

Light regulation

Negotiate - arbitrate (AEMC proposed cost-based) Information disclosure (AEMC proposed regulator to set initial RAB) Regulator as arbitrator

Part 23 regulation

Negotiate - arbitrate Information disclosure (self-reported asset values) Commercial arbitrator

Coverage test

Is competition promoted in a related market?

Form of regulation test

Best way of controlling the market power?

Option 1 – no coverage test

Full regulation

Ex ante price control

Light regulation

Negotiate - arbitrate (AEMC proposed cost-based) Information disclosure (AEMC proposed regulator to set initial RAB) Regulator as arbitrator

Part 23 regulation

Negotiate - arbitrate Information disclosure (self-reported asset values) Commercial arbitrator

Form of regulation test

Best way of controlling the market power? 8

• Recognition that the test of coverage has been made redundant
• Removes the bias against increased regulation
• But the potential for over-regulation would continue

Possible reform options (II)

Current regime

Full regulation

Ex ante price control

Light regulation

Negotiate - arbitrate (AEMC proposed cost-based) Information disclosure (AEMC proposed regulator to set initial RAB) Regulator as arbitrator

Part 23 regulation

Negotiate - arbitrate Information disclosure (self-reported asset values) Commercial arbitrator

Coverage test

Is competition promoted in a related market?

Form of regulation test

Best way of controlling the market power?

Option 2 – enhanced coverage test

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• Adopts the enhancements of the new default regime, but tackles the original issue – the coverage test
• Removes the bias against increased regulation and the potential for over-regulation
• Provides the protections against “expropriation” offered to full regulation pipelines
• Retaining information disclosure as the default is low risk, and may reduce regulation

Full regulation

Ex ante price control

Light regulation

Negotiate - arbitrate (AEMC proposed cost-based) Information disclosure (AEMC proposed regulator to set initial RAB) Regulator as arbitrator

Part 23 regulation

Information disclosure (self-reported asset values)

Form of regulation test

Best way of controlling the market power?

Coverage test

Sufficient market power to regulate?

Possible alternative test for coverage …

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15—Pipeline coverage criteria The pipeline coverage criteria are: (a) that the pipeline services provided by means of the pipeline are supplied in a market where there is both— (i) little or no competition; and (ii) little or no likelihood of a substantial increase in competition; and (b) there is scope for the exercise of substantial market power in relation to the pipeline services, taking into account the effectiveness of existing regulation or arrangements (including ownership arrangements); and (c) the benefits of regulating the pipeline services in meeting the national gas objective materially exceed the costs of regulation.

Role of the RAB in regulation

• Whether and why “a RAB” is linked to the objective of regulation

– Cost is the most feasible test of whether prices are reasonable

• Minimum required for continued investment, and widely seen as fair
• Overall benchmarking of prices is seldom feasible for infrastructure

– Embedded cost (i.e., actual cost less cost already recovered) is the most feasible standard

• Lower risk / potential for dispute than alternative of a hypothetical new entrant’s cost
• Incentive issues can be addressed through incentive schemes and supervision
• But setting an initial RAB is inherently contentious

– Limited guidance from economic principles – a wide range – “Unrecovered cost” is difficult to measure, may have perverse effects and may be unfair – “Competitive market” value is not synonymous with “efficiency” – Ultimate target – an “objectively reasonable” value

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Role of the RAB in regulation (II)

• Effectiveness of a light-handed regime – like “light regulation” – improved by (i)

requiring calculation / disclosure of a RAB, and (ii) setting of the initial RAB

– Whilst an upfront cost, benefits from lower prospect of disputes – Although careful rules are required over carrying-forward the RAB to avoid future disputes

• Experience in other sectors suggest the combination of an initial RAB, rules for

carrying-forward and transparency have created a clear discipline on behaviour

– E.g., airports in Australia and NZ

• But there are clear limits to using “cost” to test the reasonableness of prices

– Standard regulatory methods assume away “downside” risk – quantifying stranded asset risk is difficult – Hence, as you get further away from a perfect monopoly, then it becomes harder to draw inferences from measures of embedded cost – a component of which is the RAB

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Thank you

Contact the presenter: Telephone: +61 3 8514 5119 / +61 412 388 372 Email: jeff.balchin@incenta.com.au Website: www.incenta.com.au