The extraordinary cost Australian energy laid bare

Via the US Studies Centre:

Australia and the United States have much in common: liberal, democratic institutions; technologically advanced, largely open economies; growing populations; demanding infrastructure; and above all, abundant energy resources.

But with respect to energy, Australia and the United States are on radically different paths. Australia faces an energy crisis, stressing households and businesses, but threatening the very existence of some of Australia’s large industrial users of energy. The United States is reaping the benefits of energy boom, delivering inexpensive gas and electricity, driving a renaissance in American manufacturing and economic growth. Specifically:

  • Australian households and businesses pay dramatically more for their energy than their American counterparts — two to three times as much in many cases.
  • American households and businesses are supplied energy with greater reliability and tariff transparency than in Australia.1
  • Over the past decade, US carbon emissions from electricity generation have declined by more than twice the rate of Australia’s emissions decline.2

Why is US energy so inexpensive? Why is its electricity more reliable and pricing more transparent than Australia’s? Why are its carbon emissions declining faster relative to Australia? In this report we answer those questions, clarifying what’s at stake if Australian policymakers do not change course.

Economic modelling in this report indicates what’s at stake. Because energy is a non-substitutable good, consumed by households and businesses alike, high energy costs reverberate through the entire economy. A 25 per cent increase in electricity generation prices and domestic gas prices costs more than 33,000 Australian jobs and 1.15 per cent of GDP. The modelling may underestimate the actual impact of significant price increases.

Recent media and political commentary focuses on energy costs for Australian households. But for a globalised economy like Australia’s — with relatively high labour costs — high energy costs pose an immediate and dire threat to businesses that consume large quantities of energy, with manufacturing, chemicals, and steel among the sectors at most risk. Investments in these sectors is unattractive absent certainty about the costs of energy. Case study evidence indicates that some firms will cease operations altogether if they cannot secure economically viable gas prices for 2019 and beyond.

A key lesson of the US energy revolution for Australia is that resource abundance will only get the economy so far. Increasing energy supply is not enough. Institutional arrangements and property rights, free markets, infrastructure development and regulatory and policy settings all play an important role. The architecture of Australian’s energy markets also require reform, if not transformation. Get the institutional and policy settings right, and the market will transform physical abundance into economic abundance and put downward pressure on energy prices and emissions.

Energy and gas prices in Australia and the United States

Based on 2017-18 data, there is only one US state with higher average household electricity prices than every Australian state and territory: Hawaii. Australian businesses fare no better. Forty-four US states have lower average industrial electricity prices than the Australian average.

Yet electricity prices are only part of the story. Queensland households pay more for gas than any US state, while households in South Australia, Tasmania, New South Wales and Victoria pay more for gas than 48 US states.

An essential and irreplaceable input to many types of manufacturing, natural gas is now more than twice as expensive for Australian manufacturers as it is for their counterparts in the US state of Louisiana. And compared to 10 years ago, in nominal terms natural gas is now 177 per cent more expensive for a Melbourne-based manufacturer and 41 per cent cheaper for a New York-based manufacturer.3

Impact on Australia’s economy

Economic modelling indicates that a permanent 10 per cent increase in both domestic gas and wholesale generation prices would likely lead to a permanent reduction in GDP by 0.46 per cent, equal to an annual economic loss of A$8.5 billion — which is greater than the total value of Australia’s beef exports in 2016-2017.4

A 25 per cent increase in both domestic gas and wholesale generation prices would lead to a 27 per cent decline in the output of Australia’s chemical, rubber and plastic industries. These price hikes would also likely cause an annual economic loss of some A$19 billion, an amount equal to how much Australia gained from foreign students in 2015, Australia’s third largest export.5

What went wrong in Australia, what went right in the United States

US energy and gas prices weren’t always cheap. Indeed, Australia and the United States have in many ways reversed their energy situations over the past decade.

A key factor in the United States has been the responsiveness of markets and policy to increases in energy costs. The price signal triggered greater exploration, resource development and increases in supply. When prices rise, more supply is forthcoming. That is how well-functioning markets — supported by policy — are supposed to work. In contrast, in Australia the investment and supply response to recent higher domestic energy prices is muted.

What Australia should do

In the long term, if Australia wants to reduce energy prices and carbon emissions while maintaining reliability, it should increase the supply of cheap domestic gas. The US experience makes this obvious. The US shale revolution — combined with the policy settings and infrastructure facilitating it — has allowed US gas and energy prices to remain flat or decrease over time for homes and businesses. With its dramatically smaller carbon footprint relative to other fossil fuels, natural gas is a ‘bridge fuel’ between the status quo and a renewable future. An increase in the share of gas in US energy consumption — increasing to 36 per cent of fossil fuel consumption from 27 per cent in the past decade6 — has seen the United States already achieve Paris Agreement emission reduction targets in its electricity sector.

Australia’s energy crisis, America’s energy surplus

The essential role of gas in manufacturing

Manufacturers need large amounts of energy to make their products, but certain manufacturers need natural gas in particular. In the same way that grass is required for dairy milk or iron ore is required for steel, chemical manufacturers use compounds such as ethane and methane — present in natural gas in varying amounts — as inputs for a vast range of products, ranging from fertilisers and explosives to pipes and milk packaging.

In 2016-17, manufacturers accounted for 40 per cent of Australia’s gas consumption,7 either as a feedstock (vital raw input) for heating or steam processes or for on-site electricity generation. Two-thirds of all manufacturing gas in 2016-2017 was consumed by just two sectors: chemicals and non-ferrous metals. As a consequence, a significant part of Australia’s A$102 billion manufacturing sector is heavily exposed to increases in gas prices.

Approximately one in every four Australian manufacturing workers work in heavily gas-reliant sectors. In turn, another 56 per cent work in related industries which do business with these manufacturers.8

The exposure or incidence of price increases tends to be most acute in the case of feedstock use.

Due to underlying technology of the production processes:

  • Manufacturers cannot easily substitute other fuel sources;
  • Production cannot simply be incrementally ramped up and down over short time periods — facilities tend to work on a binary “on-off” basis.9

A tale of two countries: energy prices in Australia and the United States

On average, Australian households sourcing electricity from Australia’s National Electricity Market (NEM) pay higher retail prices than all but a handful of US jurisdictions. The price differentials are not small, ranging from double to almost triple the costs when compared to some US states.

The same comparison can be made for household gas prices, with similar results. The data in Figure 2 indicates that on average, household gas consumers on Australia’s east coast pay between two or three times the prices that the average US household pays.

Figure 1: Residential gas prices, Australia v US, 2017

Residential gas prices, Australia v US, 2017
Source: Oakley Greenwood, EIA, IMF, author’s calculations

Figure 2: Residential electricity prices (PPP adjusted), Australia v US, 2017-18

Residential electricity prices (PPP adjusted), Australia v US, 2017-18
Source: ACCC, EIA, IMF, author’s calculations

The situation is no better for Australia’s businesses. As Figure 3 and Figure 4 demonstrate, if Australia was a US state, it would be one of the most uncompetitive jurisdictions in terms of energy prices.

Figure 3: Industrial gas prices, Australia v US, 2017

Industrial gas prices, Australia v US, 2017
Source: ACCC, EIA, IMF, author’s calculations

Figure 4: Industrial electricity prices (PPP adjusted), Australia v US, 2017-18

Industrial electricity prices (PPP adjusted), Australia v US, 2017-18
Source: ACCC, EIA, IMF, author’s calculations

Figure 5 shows that since 2008, average electricity prices in Australia have increased by around 70 per cent in real terms for both households and businesses.

In contrast, average US household electricity prices have remained fairly steady in real terms over the past decade. Average electricity prices have fallen by more than 10 per cent in real terms for US industrial users. Finally, over the past decade, the average real price of gas in the United States has declined by about 30 per cent for households, and by more than 50 per cent in real terms for industrial users.

To put that into perspective: in real terms, Australian-based manufacturers are now paying 47 per cent more for gas than they did 10 years ago, while an American competitor is paying 63 per cent less.10

In summary: on electricity and gas price outcomes, the two economies have taken completely opposite paths.

Figure 5: Real electricity and gas prices since 2008

Real electricity and gas prices since 2008
Source: For Australia ­— ABS, CPI and PPI; for the United States — EIA, BLS, author’s calculations.

Great charts but the study has forgotten one crucial thing. We actually had a larger proportionate rise in unconventional gas stock than the US did but we sold it all to offshore folks. But the US has domestic gas reservation and Australia did not and as a result we have shifted all cheap gas reserves into a gas export cartel.

The only way to fix it is apply domestic reservation retrospectively. It is perfectly fine to do so. The cartel is effectively a failed market and it cooked its own goose.

Houses and Holes

David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the fouding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal.

He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.

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  1. CaptainFeatherSwordsGhostLivesAgain

    I think its fine to retrospectively tax MB $100 per blog post since inception……no doubt you probably disagree.

      • I object to being lumped in with this poster by being perjoratively characterised as someone who has not had the MB value proposition made sufficiently clear as yet

      • Dude, you are posting dishonesty when you get older. The US and Australian gas scene is nothing like each other, costs, methods, markets, by-product, etc. Whoever wrote that above clearly knows better, but is a perfidious politician.

        Everything above is an utter fiction. Everything. And you are not so naive to accept this garbage was replicate it. IMHO, don’t destroy your reputation. Keep politics, politics. This is engineering and economics.

      • Everything above is an utter fiction. Everything.

        RT, given that you have proved yourself elsewhere to be a Bible-quoting, climate denying microcephalic, you’ll forgive us simply ignoring your objections.

      • Stick to the facts buddy… its not personal. But I agree, you do need Jesus! May just be the thing to brighten your outlook on life. You are a bit heavy presently, unhappy maybe?

    • There’s nothing retrospective about applying gas reservation. Its simply changing a law that will take effect in the future. Governments worldwide do this all the time.

      Retrospective would be if we asked them to return all the gas they would have had to reserve over the years no such law existed.

  2. can’t do that ….. gas reservation is a threat to our national sovereign risk profile …. and if you believe that, I’ve got some flying pigs to sell you …..

  3. GunnamattaMEMBER

    I would like to contribute 100 bucks for a campaign to get that bottom collection of charts carved and embossed in gold onto a black marble wall backing and placed on the lawn of parliament house with another carved with the words ‘Thanks for nothing you disgusting pack of entitlement rorting, foreign allegiance toting, duplicitous cretins…….’

    …..we could also, if we got enough subscribers, organise an eternal solar powered angle grinder – against which vigilante groups could hold politicians limbs until they apologised for the gouge they have enabled

    • Gunna you don’t need to collect $100; just buy some “Yellow Vests” and hand them out. France, Belgium and the Netherlands had some fantastic success, sarc.

      Although the French “Labor Party” of Macron did help with diesel fuel increases of 23 % in the past 12 months and now he wants to increase diesel fuel tax by 6.5 cents and petrol by 2.9 cents all whilst increasing taxes for the middle class and pensioners, whilst Macron refused to increase the tax for the rich. Socialists and Labor party policy ?? Listen to what they say but watch what they do.

      The increase in fuel tax was for new renewable energy projects. Appears that the renewables came off second.

      Will this will be our future when Shorten becomes PM.??

    • I’d like to buy the angle grinder…. I’d love to see this play out. There would only be bleeding torsos left in parliament

  4. I thought about forwarding this on the someone I discuss this topic with. The inclusion of this single line,

    “But for a globalised economy like Australia’s — with relatively high labour costs …”,

    means that it isn’t worth it. They’ll focus on that and let every other part of the piece slide away. That mindset is what every person that tries to push reforms through is up against. The bogeymen of the last twenty years of the Murdoch and Howard dominated narrative. If they were to cut the wages how would people pay for electricity and houses? That’s a question I never hear a good answer to.

  5. Jumping jack flash

    Energy is a cash cow. An essential resource for life, controlled by private companies who exist solely for profit maximisation, operating in an environment of extreme personal debts.

    So in Australia they milk it for all it is worth, and then some. Energy companies are wildly profitable. Energy company CEOs’ salaries some of the highest in the country.

    But for some reason they don’t seem to do that in America. Why not?

    Explore that, and there’s your reason.

  6. Australia is the only gas producing country in the world without a domestic gas reservation system. We both rich and stupid.

    • And probably the most corrupt or close to it. We’ve out monetised everything and the US think we’re amazing to be able to out do them.

    • The Gas industry is awash with royalty holidays and tax concessions to the point that they effectively pay no tax, add in subsidies and we pay them to extract and ship it off shore.
      Stupid does not begin to describe us.

  7. Why can’t nsw and Vic allow gas exploration- why
    Is qld the only state to allow gas drilling. not has opened open I believe.