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Asia Institute Tasmania April 30, 2019

From the Market to the State? –Power Sector Reforms and the Changing Role of Government Rabindra Nepal (University of Tasmania), Tooraj Jamasb (Durham University, UK) and Anupama Sen (Oxford Institute of Energy studies, UK). Dr. Rabindra Nepal Senior Lecturer in Economics

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Asia Institute Tasmania April 30, 2019

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  1. From the Market to the State? –Power Sector Reforms and the Changing Role of GovernmentRabindra Nepal (University of Tasmania), Tooraj Jamasb (Durham University, UK) and Anupama Sen (Oxford Institute of Energy studies, UK) Dr. Rabindra Nepal Senior Lecturer in Economics Tasmanian School of Business and Economics University of Tasmania Hobart, Australia Email: Rabindra.Nepal@utas.edu.au Asia Institute Tasmania April 30, 2019

  2. PhD (2013): From State to Market: Essays on Electricity Sector Reforms • The Energy Journal: Have Model, Will Reform: Assessing the Outcomes of Electricity Reforms in Non-OECD Asia (with T. Jamasb and A. Sen), Vol. 39, No. 4, pp. 181-209, 2018. • Energy Policy: Small Systems, Big Targets: Power Sector Reforms and Renewable Energy in Small Systems (with A.Sen and T.Jamasb), Vol. 116, pp. 19-29, 2018. • Energy Policy: Electricity Cooperation in South Asia: Barriers to Cross-Border Trade (with M.Toman, T.Jamasb and A.Singh), Vol. 120, September, pp. 741-728, 2018. • The Energy Journal: A Quarter Century Effort Yet to Come of Age: A Survey of Power Sector Reforms in Developing Countries (with G. Timilsina and T. Jamasb), Nol. 38, No. 3, pp. 195-234. • Applied Economics: Economic Reforms and Human Development: Empirical Evidence from Transition Economies (with A. Carvalho and T.Jamasb), Vol. 48 (14), pp. 1330-1347, 2016. • Applied Economics: Revisiting Electricity Liberalization and Quality of Service: Empirical Evidence from New Zealand (with A. Carvalho and J.Foster), Vol. 48 (25), pp. 2309-2320, 2016. • The Energy Journal: Testing for Market Integration in the Australian National Electricity Market (with J.Foster), Vol. 37 No. 4, pp. 215-238, 2016. • Energy Policy:Network Regulation and Regulatory Institutional Reform: Revisiting the Case of Australia (with F.Menezes and T.Jamasb), Vol. 73, pp. 259-268. • Applied Economics: Market-Related Reforms and Increased Energy Efficiency in Transition Countries: Empirical Evidence (with T. Jamasb and C.Tisdell), Vol. 46(33), pp. 4125-4136, 2014. The World Bank: • Jamasb, Tooraj & Nepal, Rabindra & Timilsina, Govinda R., 2015. "A Quarter Century Effort Yet to Come of Age: A Survey of Power Sector Reforms in Developing Countries," Policy Research Working Paper Series 7330, The World Bank. • Singh, Anoop & Jamasb, Tooraj & Nepal, Rabindra & Toman, Michael A., 2015. "Cross-Border Electricity Cooperation in South Asia," Policy Research Working Paper Series 7328, The World Bank.

  3. 1. Introduction • Governments in most countries around the globe owned and operated major infrastructure and network industries until the early 1990s. • This approach proliferated until about 2005, when public-sector responsibility shifted towards the private sector and private corporations emerged as active actors in electricity provision in approximately 40-50% of countries of the world • Economic theory suggests that private ownership is beneficial in terms of capital market monitoring and lack of soft budget constraints while public ownership eliminates the typical principal-agent problems in economic regulation and prioritizes social welfare (Laffont and Tirole, 1993) • The paradigm shift towards more private sector involvement in the early 1990s was due to a combination of three major forces in developing and transition economies, namely: ideological, technological and financial

  4. 1. Introduction • Ideological - The experiment of introducing competition with privatization in the infrastructure sectors in economies such as Chile and Great Britain appeared as success stories across Africa, South America and Asia irrespective of the differences in the reform contexts and initial conditions Birth of the textbook model of electricity reforms (privatisation and competition) • Technological - The availability of less costly small-scale electricity generation technologies facilitated electricity industry restructuring such as the separation of the competitive segments (generation and retail) from the regulated monopoly segments (networks) ---( for e.g. Dash for Gas in the UK in the early 1990s) • Financial - Deteriorating financial conditions of many utilities due to inability to recover the costs arising from highly subsidized electricity prices coupled with the macroeconomic and fiscal crisis of the early 1980s meant that the state-led model was failing in its intended function in terms of improving efficiency and generating investments----------- Increased private sector financing became the cornerstone of the economy-wide structural adjustment programs since the early 1990s in response to the crisis to ease the public-sector financing constraint (for e.g. the transition economies)

  5. 1. Introduction • However, after nearly three decades of the long-running reform trend towards privatization, competition and independent regulation; the public sector continues to be significantly involved in energy provision (Pollitt and Haney, 2013) • For instance, many electricity markets possess hybrid facets with various forms of regulatory intervention where the state plays a significant role in electricity sector planning and auctioning long-term contracts (Roques and Finon, 2017). • In this context, the modus operandiof the power sector currently sits somewhere between ‘the state’ and the ‘market’ Research Questions • What are the new reform drivers that have led to the continued presence of public sector and emergence of different market models in the power sector? • What lessons of experience can reforming countries like non-OECD Asia learn given that the non-OECD Asian region has experienced a slow and difficult reform path after nearly three decades of reform attempts?

  6. 2. New Drivers of Reforms Electricity markets globally are facing challenges associated with delivering sustainability and climate related goals alongside the need to ensure security of energy supply and eliminate energy poverty. • Climate Policy and Renewable Energy Targets Requires significant investments in low carbon and renewable energy technologies … incurring high-upfront-costs (i.e. capital costs) and low variable costs (renewable have very low marginal costs)….perceived to be risky by private investors in the face of rising energy policy uncertainty as the payback periods are often 10 to 30 years…. public ownership is a desirable option to mitigate the risks ( for example the UK’s proposed electricity market reform in 2010 signalled a significant state intervention) • Network planning and coordination in the face of rising renewables share in wholesale electricity markets is a challenge of global scale as around 176 countries have stated their renewable energy targets • Security of Supply Energy only electricity markets typically suffer from ‘missing money’ problem where recovery of fixed costs such as investment costs in power plants is not possible without an outside remuneration scheme…wholesale prices for energy in energy-only markets does not fully reflect the value of investment in electricity generation….. lack of a guarantee to recover fixed costs in energy-only markets can lead to capacity shortages…….need for investment in capacity is more urgent in the emerging economies to ensure a secure supply of energy given the significant growth in demand (in fact, public ownership in the power sector until the early 1980s was due to the inability of the private sector to finance the large investment requirements during the electrification period – post second world war). • Public ownership can de-risk these large-scale investments in electricity generation while also making it possible to subsidise electricity production in the long-run for new and cleaner technologies.

  7. 2. New Drivers of Reforms • Reform Mis-Design Achieving economic efficiency was not a prioritised goal ( but getting rid of the public debt was) while poor institutional and regulatory frameworks meant that any efficiency gains, even if achieved, did not necessarily reach the end consumers in developing countries ----In the non-OECD Asia, the technical and efficiency gains delivered by the reforms have not translated into welfare gain for consumers calling for a reform of the “reforms”…..(for instance, the Australian government in 2019 announced to introduce a default market offer and replace the exiting standing offers in retail electricity markets to bring the costs down for consumers) • Public ownership may be able to meet social concerns about targeted subsidies and cross-subsidies among customer groups allowing the easy provision of electricity to vulnerable households such as those under energy and income poverty • Regional Electricity Trade The reforms of the early 1990s did not factor in the possibilities to facilitate power trading in reforming countries…. Domestic electricity sector policies are also hindering the scope for regional electricity trade in the SAARC countries……prospects of electricity interconnections and trading among ASEAN is gaining increasing attention and implementation…. promoting power trade exhibits the scale nature of financing needs in electricity infrastructures such as generation capacities and transmission networks coupled with the need to also overcome regional barriers…(for instance, meeting the growing electricity demand in non-OECD Asia requires greater reliance on regional electricity cooperation) • Government-to-government projects are the most effective approach to foster power trading in Asia and take advantage of significant benefits from greater regional coordination in capacity investments.

  8. 3. Electricity Reforms in Non-OECD Asia • Non-OECD Asian economies comprise about 34% of world primary energy demand, 60% of population and 65% of the world’s poor (Sen et al. 2018). • The region presents a strong case for studying public involvement in the power sector because of two major reasons: • Electricity demand in the region is set to increase from 6,317 TWh in 2012 to 13,982 TWh by 2035 (IEA, 2014) implying that the organisation and governance of their electricity industries can be crucial in meeting the projected demand. • The lack of systematic regional studies at the non-OECD level apart from the few cross-country literature imply that the ability to learn from the regional reform experience is limited (Sen et al. 2018).

  9. 3. Electricity Reforms in Non-OECD Asia Table 1: Electricity Reforms in Non-OECD Asia, 2013 Source: Authors

  10. 3. Electricity Reforms in Non-OECD Asia

  11. 3. Electricity Reforms in Non-OECD Asia • IPPs have been the most widely adopted reform step in the non-OECD Asian economies as it was an easy way of introducing some competition in the sector without extensive restructuring. • In most non-OECD Asia cases, economic regulation is not autonomous from government ambit while the major regulatory issue in majority of the countries relates to reforming tariffs to reflect the true cost of service. • Public sector provision is still persistent in these economies despite implementing unbundling and corporatisation particularly in the absence of competition in distribution and retail supply while accounting separation has not led to healthier financial conditions of the distribution companies. • The lack of progress towards implementing open access can deter private sector participation as well as limit the scope of competition in the non-OECD Asian economies. • The main opposition to distribution privatisation in developing countries has been over concerns of tariff increases (resulting from the reform of subsidised electricity prices to make them cost-reflective), which potentially impacts socio-economic welfare of poorer consumers.

  12. 4. The Latin American Case

  13. 4. The Latin American Case • Policy discontent with the standard model started to surface in the early 2000s due to dissatisfaction with price regulation; volatile spot prices failing to stimulate timely investments in electricity generation and lack of adequate financing towards adding generation capacity leading to problems with respect to security of supply (power crisis and rationings) in many countries (for example, Brazil (2001); Chile (1999 and 2004); Peru (2006)) of the region. • As a result, a second wave of market restructuring started in the early 2000s with the primary motives of supporting and coordinating investments in new generation capacities (Roques, 2017). This had led to the introduction of hybrid markets with long term contracts to coordinate investment through auctions (a competitive process); decoupling of generation investment from spot market price volatility and reducing generation risks for new entrants to allow project financing through long-term contracts.

  14. 4. The Latin American Case Table 3: Major auction characteristics per country Source: Moreno et al. (2011)

  15. 4. The Latin American Case • The electricity market trends in Latin America is generally showing an increasing involvement of the government. Some examples: • Argentina - The electricity sector in Argentina had faced long period of debate on the revision of tariffs and the pricing system, both at the wholesale and retail level, after the financial crisis of 2002. Increasing subsidies for new forms of power generation and setting new rules for contracts and operations on the regional level are the new rules for the wholesale market. • Brazil– The rules of the power sector were reviewed in Brazil after the change in Government in 2003 in response to the investment and operational constraints. The Regulatory Body, which is not autonomous from the government, has a reinforced role in the market. The regulatory body led the simultaneous bidding on behalf of all distributors. • Bolivia - The government nationalized the assets to ensure that the Bolivian government’s ownership was nearly 72 percent of the generation sector. The government renationalized most of the transmission and distribution sector during 2012. • Venezuela – The imminent nationalisation of the main energy company ELCAR (Electricidad de Caracas) was announced in 2007. The government created the National Electricity Corporation (CORPOELEC) to reorganize the national electricity sector in 2007. CORPOELEC is responsible for the generation, transmission, distribution, and commercialization of electricity. The government created the Ministry of Energy and designated its minister as the president of CORPOELEC in 2009. • Dominican Republic - The government administration introduced significant changes to the General Law of Electricity (eventually enacted in 2001) during 2000. The regulatory body of the state Superintendency of Electricity (SIE) was given the responsibility to regulate the sector and the CNE (Comisión Nacional de Energía) was put in charge of establishing the overall electricity policies. A fuel subsidy for electricity generation was also authorized in 2000. The government also purchased 50 percent of the shares in the private company EDEESTE, also regaining control of the distribution sector in 2009.

  16. 5. Lessons for Non-OECD Asia • “Competition in the market” (spot market prices play a crucial role towards operational and dispatch incentives) and “Competition for the market” (auctioning of long-term capacity contracts and energy call options by the government to ensure supply adequacy) • Governments may be able to strike Power Purchase Agreements (PPAs) with the private sector based on competitive auctions to put competitive pressure capital expenditures as the single-buyer model with IPP participation is most dominant wholesale arrangement in non-OECD Asia • Fostering regional electricity trade to facilitate greater regional coordination in capacity investments in the non-OECD Asian economies requires the creation of a level playing field among the trading partners • It is desirable that the non-OECD Asian economies translate their reform ‘theory’ into ‘practice’ and continue the implantation of reforms at the first place. However, the pricing reform is politically sensitive and is exposed to public oppositions. Hence, pricing reforms needs to be implemented prior to private sector participation and privatisations. • Institutional strengthening through the creation of effective regulatory bodies and economic regulation frameworks is important in non-OECD Asia to implement reforms and realize the arising benefits. For instance, some reforms were destined to fail as developing economies implemented reforms before the regulators were fully competent and in charge of the new sector. • Reforms and the electrification progress in non-OECD Asia showed that power sector reforms do not automatically cater for improving access and these need hands on continued support from the government. However, unlike in the past, governments should not perceive reforms as an opportunity not to do much about the growing demand and instead privatise assets and earn revenues from these.

  17. 6. Conclusions • Emerging and developing economies are experiencing significant financing needs for electricity sector expansion considering their rising electricity demand and ambitions on greater regional electricity trade. • The slowly and difficultly reforming power sectors of non-OECD Asian economies also face the financing needs arising from the dual challenges of meeting their decarbonisation targets while achieving security of supply. • Government involvement in the power sector continues to grow with increasing power sector financing requirements as the pursuit of climate change and security of energy supply targets intensify. • The objectives of ‘competition in the market’ and ‘competition for the market’ imply that power sectors will have to involve both private and public sectors in delivering governments’ energy policy goals. • Institutional strengthening through effective regulation and a proper regulatory institutional framework is necessary as the power sector continues to evolve.

  18. 7. Future Research and the Way Forward • 1990s market-oriented reforms attempted to separate ‘economics’ and ‘politics’ in the power sector context • Heavily influenced by the teaching of Chicago economists from the 1950s to 70s with a view that economics can or should be non-political • However, experience has shown that power market reform is an inherently political process…often an area of conflict between competing interests that are of fundamental importance to society”. (Besant-Jones, 2006) • This necessitates that power markets reforms should be perceived from a “political economy framework” (how different actorsinteract to pursue specific interests given different ideas, means of influence, and use of institutions in a given context) • Relevance to the power sector: actors (user-households; industry, and government, etc.,); interests and ideas (actors’ motives, needs, mental models, ideologies, incentives, responsibilities, etc); influence and interactions (power or ability of an actor to affect the behaviour and choice of actions available to others); institutions (formal or informal rules governing human interactions) and context (social, economic and physical environments in which actors operate at local, regional or global levels) (Lee and Usman, 2018) • Future research should aim at developing an integrated approach towards understanding power sector reforms combining insights from ‘new institutional economics’ (North, 1990; Ostrom, 2005, Acemoglu and Robinson, 2016); behavioural economics (World Bank, 2014), and an analysis of power relations and governance in development (World Bank, 2016) to account for new technology and diverse sector development objectives.

  19. References

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