The Hong Kong government announced a new 15-year regulatory framework with the two power companies last week. Under the revised agreement, the amount the two suppliers are allowed to earn will be cut from 9.99 percent to 8 percent of their net fixed assets.
While Environment Minister Wong Kam-sing said the new power deal strikes a balance between reliable electricity supply, affordability and sustainability, many people overlooked the fact that the agreement also denies market access to new competitors in the next 15 years.
Regarding the argument on opening up Hong Kong’s power sector, what factors do we need to consider? Under the principle of “positive non-interventionism”, should we always stand against any act of government intervention?
A true economist recognizes real-world market competition. And based on my empirical research, preparing an open market for power utilities is a fairly complicated issue.
To start with, the power sector is an example of a “natural monopoly”.
In order to match electricity supply with the volatile demand from various consumers, power companies need to store excess electricity, which incurs huge costs. Therefore, a sole power grid for electricity transmission and distribution is reasonable in regards to market efficiency.
The current discussion on Hong Kong’s grid access arrangements is aimed at introducing competition in electricity generation, and for that, the US electricity sector may shed some light.
Since the mid-1990s, several states in US have introduced competition in their electricity markets, unbundling the generation and transmission of electricity.
Non-profit organizations were set up to control the electricity transmission network and provide indiscriminate access to private power producers. Utility companies bought electricity from the producers in a day-ahead-only basis and sold to final customers.
However, after a detailed study in both the regulated and deregulated states, I found that the new policy neither drove down consumers’ electricity costs nor reduced the use of fossil fuels.
Instead, it reduced the reliability of electricity supply, setting the stage for power outages during California’s energy crisis in 2000-2001.
The problem is rooted in the “partial deregulation” of the market. While the wholesale prices for power suppliers to sell electricity were deregulated, the retail prices to final customers were capped.
Suppliers with market power were able to manipulate prices by withholding electricity generation and using instances of demand spikes.
Deregulating the power producers did not lower the cost of energy. Furthermore, when the electricity wholesale prices exceeded retail prices, end users’ demand was unaffected.
The utility companies still had to purchase electricity, which put them in a tough situation.
The findings indicated that opening up the grid would lead to swings in electricity wholesale prices, but in order to ensure the market’s efficiency, utilities must be able to pass the fluctuating prices on to consumers.
This cannot be accomplished without smart meters to record users’ energy consumption.
The government should continue the interconnection and grid access studies before solving the aforementioned problem.
Translation by Ben Ng
[Chinese version 中文版]
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