Has NSW Undervalued the Energy Savings Scheme?

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Wednesday, June 24th, 2015
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In late April 2014, the NSW Government released its preferred option to expand the Energy Savings Scheme (ESS).

The ESS currently provides around $26 million to $57 million each year in subsidies to energy efficiency projects. The scheme covers electricity use in the commercial, industrial and residential sectors, and legislated until 2020. The key points from the NSW Government’s announcement are commitments to:

  • expand the ESS to also cover gas efficiency
  • extend the scheme until 2025
  • increase the targets from five per cent of electricity sales to eight per cent by 2018

The NSW Government has weighed the costs and benefits of these proposals, and concluded that its preferred target will deliver an overall public benefit with a net present value of $292 million.

These benefits are compelling. However, a closer examination of the ESS modelling suggests that it is conservative, and that there may be a case for considerably higher targets.

Overstated costs of energy efficiency

The recommended target of eight per cent by 2018 equates to 4.3 million certificates each year. At forecast average certificate prices of $22, this equates to around $90 million per year in subsidies. This “optimal” target was justified on the basis of the modelling, which suggested that certificate prices would escalate rapidly if the target exceeded eight per cent.

The modelling assumes costs of energy efficiency remain constant over time. This means that every energy efficiency technology that is taken from a small niche to mass market will see no reductions in cost. In most markets, innovation, competition and economies of scale in production, procurement and delivery drive prices down as technologies are widely adopted. We have seen this again and again with the ESS and similar schemes. For example, upgrades to lighting and shower heads have been installed much more cheaply than the Government ever expected.

Similar patterns have been observed with other schemes.

Click to enlarge Source: RMI (2015) [4]

Click to enlargeSource: RMI (2015) 

In a recent international benchmarking study of solar PV costs by the Rocky Mountain Institute (RMI) in the USA, RMI found that Australia’s solar PV soft costs are a fraction of those in the US. This is attributed to the market transparency, innovation, scale and competition that have resulted from the Renewable Energy Target and complementary policies.

Understated benefits

The benefit calculations that sit behind the recommended targets are also extremely conservative. The NSW Government’s modelling takes the economic benefits to be the avoided cost of electricity generation, the deferred investment in electricity networks, the avoided cost of gas supply, the avoided health impacts of air pollution and the avoided costs of carbon emissions.

A study from the Regulatory Assistance Project, a non-profit that advises governments around the world, suggests that best practice energy efficiency policy analysis should consider a much deeper “layer cake” of public, private and utility benefits. These additional benefits would support a much higher optimal target.

The NSW Government’s options paper also acknowledges that the avoided carbon benefits are “conservative.” The modelling assumes a carbon value of between $8 and $10 per tonne until 2020, after which it assumes we have a national price on carbon. This is a marginal price for carbon abatement required by arbitrary government targets, rather than the actual cost of carbon emissions to the economy. In contrast, the US Government considers the true social cost of carbon when evaluating policy options, which accounts for the economic damage of climate change impacts.

Finally, the modelling uses NSW Treasury’s preferred discount rate of seven per cent, well above current NSW Government 10-year bond rates of 2.75 per cent. In contrast, The Victorian Government’s recent cost-benefit analysis for their scheme used a discount rate of five per cent. This choice has a significant impact on net benefit calculations for the ESS, where costs of new equipment are incurred upfront with energy savings benefits delivered continuously over a decade or more.

What could have been/still might be?

NSW has long been an international leader in energy efficiency policy. The ESS was one of the first of what are now at least 19 similar schemes in Europe, the US, Asia and Australia. It has been praised as an example of international best practice in design and operation. However, compared with NSW’s proposed eight per cent target, other jurisdictions  are now adopting more ambitious targets for their efficiency obligations on energy retailers:

  • The EU requires all member states to deliver new energy savings of 1.5 per cent of energy sales each year for seven years (for cumulative savings of 10.5 per cent of energy sales by 2020, equivalent to an ESS target of 13 per cent of electricity sales)
  • Victoria is consulting on a preferred target of 5.8 million certificates, which is equivalent to approximately a target of 15 per cent of electricity and 15 per cent of gas
  • ACT’s scheme target is 14 per cent of electricity sales in 2015

Formal consultation has now closed on the ESS Review, but the Minister has yet to finalise his position. Will the NSW Government be comfortable letting other jurisdictions take the lead?

Information on the ESS review can be found here.

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