Plunge in power price may not filter through

By Mark Reynolds

Between the lines

The wholesale price of power, as measured by the M-co/Reuters electricity market index, has fallen by about three quarters since new energy laws took effect on April 1.

But while this decline in wholesale prices is measurable, it is unclear how this will filter through to the prices businesses and households pay for their electricity.

The wholesale market was only formed in October 1996, as a way to break the virtual monopoly state-owned generators had on power supply. Before the market was established, prices were essentially set by the dominant suppliers adding a profit margin to their generation costs. Retailers like Mercury Energy or Power New Zealand could not effectively compete for supply.

With the advent of a market, retail companies buy their power through a competitive bidding process.

The level of competition on the wholesale market has stepped up since April 1, when ECNZ was split into three competing companies. Those three companies - Mighty River Power, Meridian Energy and Genesis Power - have spent the past three weeks battling for a share of the 40 per cent of the market they used to collectively control, and their bidding war is the main reason wholesale prices have been forced down.

But it is too early to say that wholesale prices will stay low, and even if they do it might not cause consumer power bills to drop. That is because the relationship between wholesale power prices and power bills is a bit like the relationship between wholesale money markets (the 90-day bank bill rate in particular) and mortgage rates.

They are linked, but not inextricably.

Just as 90-day bank bill deposits are only part of the way banks fund mortgages, wholesale power purchases account for only part of the energy used by power retailers.

Many power retail companies like Contact Energy own generation plants and only buy from the wholesale market when their plants are shut down for maintenance.

In addition, power companies without enough of their own generation plants often arrange bulk supply contracts outside of the wholesale market. These supply hedges (or contracts for difference (cfds) as some of them are known) can be priced based on historical costs rather than prevailing wholesale prices.

In essence, the wholesale market is left to fill a few gaps in the electricity supply market not covered by other inter-company agreements.

But the wholesale price trend is still useful to most of us as consumers, especially if, over time, we get to know the extent to which various retail power companies rely on the wholesale market - just as some of us keep an eye on how some banks and finance companies are more susceptible to wholesale interest rate movements than others.

Once we get to know the patterns, we can bargain for better electricity prices from a more knowledgable position.