Provider of Last Resort
Can
Vulnerable Electricity Customers be Protected in De-regulated Electricity
Markets?
September
2002
ISBN 0-9592603-2-3
The purpose of this paper is to examine whether or
not vulnerable electricity customers can be protected in de-regulated
electricity markets. In particular the paper looks at the concept of the
“provider of last resort” (POLR) as a safety net tariff mechanism that has been
adopted in many jurisdictions including Victoria to ensure on going supply to
vulnerable customers.
The
idea of a vulnerable electricity customer immediately assumes that there are
electricity customers that cannot afford services priced at market rates,
and/or that the market would not be willing to serve some customers on a
voluntary basis (for example, if the customer was considered a credit
risk). Their ‘vulnerability’ is
the risk of disconnection for non-payment, and/or denial of service, or the
requirement that the customer sacrifice other essential items such as food in
order to secure electricity service. Whilst vulnerability is generally
associated with low-income households, the actual cost of service to some
localities may present affordability issues for even high-income households. A
guarantee of supply therefore must ensure access to supply and an
affordable price.
As the [US] Federal Communications Commission (FCC)
found in its 1997 universal service order
“affordability” includes both an
“absolute” (“to have enough or the means for”) and a “relative” (“to bear the
cost of without serious detriment”) component. According to the FCC, both the
absolute and relative components must be considered in making the affordability
determination…service cannot be considered to be “universal” if customers who
are succeeding in paying for that service nonetheless cannot pay for it
“without serious detriment’. (Colton 1998)
Traditionally, vulnerable customers were served
under universal service provisions established as part of the ‘cost’ to the
utility of acquiring a monopoly right to supply (Taggart 1997). POLR schemes in
de-regulated electricity markets seek to emulate universal service at the same
time as allowing competition to foster efficiency. But is it possible to
reconcile these apparently conflicting concepts? Of particular concern is that
POLR schemes, such as that adopted in Victoria, may create formal residual
markets that result in vulnerable customers paying the highest price in the
market, and as a consequence failing the test of access and affordable
price.
Finally, this paper will discuss steps that could
be taken in Victoria to guarantee the essential electricity services are
available to all households.
Since the 1990s the Australian electricity industry
has undergone radical change. On the eastern seaboard state governments agreed
to reform their state based and owned vertically integrated electricity
systems. They did this through the creation of a National Electricity Market
and by allowing competition between generators. New South Wales (NSW), Victoria
(VIC), the Australian Capital Territory (ACT), South Australia (SA), and
Queensland (QLD) disaggregated their electric utilities, and permitted
competition in generation and at the retail level. SA and Vic have completely
privatised their industries.
In 2002 full retail competition
(FRC) commenced in NSW and VIC. In Victoria as with many other jurisdictions
reform is premised on the market determining levels of investment and
encouraging efficient allocation of resources. Willingness to pay for the cost
of provision determines where investment occurs and how much is invested. This means that electricity prices will vary
across the state, with prices likely to be more expensive in remote locations
compared to the city. The removal of the traditional urban/rural cross-subsidy
was an explicit policy of the Kennett government (Office of State Owned
Enterprises 1994).
Markets
and a commitment to universal service sit uneasily together. Universal service
provision generally seeks to ensure access to all customers at prices
affordable to the average household but markets apply user-pays. Prior to
competition in Victoria universal service meant a ‘Maximum Uniform Tariff’:
customers paid the same amount regardless of location, effecting a
cross-subsidy from urban to rural customers. Domestic prices, according to the
State Electricity Commission of Victoria (SECV) were subsidised by small to
medium sized businesses (SECV 1992/93).
Universal
service was an ideal, but the extent to which it was delivered under
public, monopoly supply is open to debate. Low-income advocacy organisation,
the Energy Action Group was in 1977 to fight utility debt and disconnection
practices, arguing no disconnection should take place when a customer had an inability
to pay . At various times the SECV imposed security deposits (bonds) on
customers with poor payment records (typically low-income households), and
sought to introduce pre-payment meters (PPM). During the 1980s fuel poverty in
Victoria was the subject of a number of research reports, including Fuel
Poverty in Victoria (Energy Action Group) and Unequal Access
(Backman et al 1987). The inability of low-income customers to pay for adequate
levels of energy, and in particular winter heating, was recognised by the Cain
government in the 1980s when it introduced concessions for people on social
security. In 1994 the poorest 20% of households in Australia spent
proportionally twice as much on energy and water than the wealthiest 20% of
households (Ernst 1994).
More than 20 per cent of Australian
households were unable to pay utilities’ bills due to a shortage of money. Nearly 4 per cent of Australian
households were unable to heat their home due to shortage of money (Lawrence
2002, quoting the ABS 2000 Household Expenditure).
Fuel poverty in Victoria has essentially remained
unaddressed (Neilson c2001; Kilger 1998; Romeril 1998).
This raises fundamental questions of how vulnerable
customers will fair in a competitive environment in which cross-subsidies have
or are explicitly being dismantled (SECV 1992/93), and where commercially
orientated suppliers seek to avoid serving customers that are seen to be a
credit risk. Market segmentation is the subject of a large body of marketing
literature. New information technologies which allow for data mining and
warehousing have spawned an industry extolling the virtues of identifying the
small percentage of consumers that are responsible for the vast majority of
spending, and capacity and desirability of separating them from those customers
who are to be avoided (Hallberg1995; Berry and Linoff 1997; Clancy and Shulman
1991; McDonald and Dunbar 1995; Stewart 1996).
Carver (1995) describes the provision of
concessions as subsiding the ‘consumer’. Uniform tariffs by way of contrast
illustrate how ‘services’ can be subsidised.
Market reformers have been willing to concede the need for means tested
access to ‘consumer-side’ subsidies, like concessions, as this does not distort
pricing signals. Unfortunately, such
“community service obligations” or
‘safety nets’ can result in a serious degradation of service. For
example, universal service in telecommunications is maintained by the provision
of the InContact service which only permits in-coming calls and 000
emergency calls out for customers that are unable to maintain payments for
standard service. Given the removal of some of the service-side electricity
subsidies in Victoria, the CSOs delivered by the reform process clearly do not
compensate the affected customers.
The danger in removing service subsidies and
instituting ‘safety nets’ is that governments aid and abet the creation of
‘residual markets’, or markets of last resort. These markets are often
characterised by more expensive service or poorer quality and access. Probably the most well known residual market
in Australia today is ‘payday lending’. Pay day lenders are largely unregulated
credit providers who service marginal customers unable to access mainstream
credit providers like banks. Marginal
customers comprise what the finance industry is calls the ‘sub-prime market’,
and its premise is that while the risk of default may be higher than in the
mainstream market, the risk premium that can be charges makes this market
segment a lucrative business (Alwitt and Donley 1996). The characteristic lack
of choice available to these clients means they can be exploited unmercifully.
In Australia, pay day lenders have been known to charge thousands of percent
per annum in interest (Barker 2001).
On the consumer side, a winter energy rebate of
17.5% off the winter (quarterly) bill can be claimed by social security
recipients. Grants are available to households under the Utility Relief
Grant Scheme, if they experience exceptional circumstances that present
them with difficulties paying their utility bill (eg. illness or a broken
appliance that needs replacing). The current cost is $76m per year (Piper
2002).
On the service side, domestic customers until 2001
were subject to the Maximum Uniform Tariff (MUT) that regulated price. The MUT
comprised a price cap that was supported by contracts between generation
companies and the host retailers. These ‘Master Vesting Contracts’ (MVC)
regulated the wholesale energy price to be paid by the retailer providing
retail price stability for the customers (Office of State Owned Enterprises
1994). The MVC expired at the end of 2000 in anticipation of FRC.
The MUT meant that all customers in the same
customer class were charged the same price irrespective of their location. The
MUT was based on the cost of supply of the most expensive distribution network
(Powercor). The difference between the regulated location based network
charges, the cost of energy and reasonable profits, and the MUT meant that four
of the five retailers made excessive profits. These excess profits were clawed
back by the Government as ‘franchise fees’.
During the year that FRC was delayed (2001),
retailers supplied households and small businesses effectively under a price
cap but without the protection of the MVC. The excess profit accruing under the
price cap at this time however was not clawed back by the Bracks Government.
The consumer protection framework for FRC in
Victoria was devised by the Bracks government. Consumer protection provisions
were included in the Electricity Industry (Amendment) Act 2000 which
provided for the right of government to prescribe certain customer classes
affording them protections as devised by the (now) Essential Services
Commission under instruction from government. The Victorian government duly
declared by Order-in-Council
on 21 September 2000 households and small businesses that consumed less
than 160MW per annum to be prescribed customers. The Office of the
Regulator-General (ORG), (now the Essential Services Commission (ESC) was
directed to develop the protection framework.
It required the ORG to establish the minimum standards to apply to
contracts generally, as well as setting the terms and conditions for the “deemed”
contract, (the transitional tariff
replacing the former Maximum Uniform Tariff) and the safety net “standing
offer” (POLR) tariff. The resulting Retail Code assumes competitive
discipline will act to prevent market abuse and exploitation of customers. The
ORG argued that the consumer protection standards needed to be minimised in
order to allow for “innovation” in the market (ORG 2000). A hierarchy of
protections has effectively been put in place with the deemed contract
being the most prescriptive, and market offers the least. Standing offers
sit in between having the same rules as the deemed but these rules can
be changed by negotiation between the customer and the retailer (assuming the
customer’s explicit informed consent). The application of ‘explicit informed
consent’ by the ORG has attracted criticism because it refers to the customer’s consent rather
than ‘informed’ and ‘explicit’ consent.
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Currently the deemed contracts and standing offers are identical in price and conditions, with the exception of Origin’s internet based standing offer.
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Only the host or ‘local’ retailer is required to
offer a standing offer, and then only to its former franchise customers.
Pricing is captured under separate provisions.
Prices are not regulated per se. Retailers determine their deemed and standing
offer prices that must be advertised in the Government Gazette two months
prior to taking affect. The government has reserve pricing powers
enabling it to intervene and over-ride prices set by the retailers for
prescribed customers. There are no guidelines or regulations delineating the
government’s use of these reserve pricing powers. Government merely needs to be
of the belief that prices are excessive and/or constitute market abuse. The
powers have been exercised on more than one occasion, effectively instituting ‘price
caps’ on the deemed and standing offers. The government’s
decisions however in regard to these prices have not always been consistent
with the formal advice it has sought from the ESC.
The price
cap in Victoria contains what is referred to as “head room”, meaning a premium
or excess profit that will attract retailers into the market and hence provide
competition. That is, potential
competitors must be able to see that they can make profits themselves whilst under-cutting
the incumbent firms. Retailers and generators argue that the price cap in
Victoria is too low and has inhibited competition. Consumer groups have argued to the contrary.
While
there is monopoly supply regulators act as a proxy for the market and are
required to approximate the price competition would deliver. Once competition
actually occurs the “correct” price”, in theory, should become apparent. The argument for price caps centres on the
maturity of the market: the government will lift the caps once it sees
competition working. There is a circularity argument in price caps inhibiting
competition, and lack of competition requiring regulation! A dilemma in Victoria has been that the
reform program under the Kennett government set prices at a level that they
believed would provide sufficient headroom once FRC started. Six years later
wholesale prices are higher rather than lower than the reformers envisaged. For
headroom to exist, retail prices must rise and in effect be artificially high.
There is an interesting logic at work here,
suggesting that that prices ‘must’ rise in Victoria in order for competition to
exist. But price caps also have other ramifications. All customers start out on
the deemed contracts, which is the most expensive tariff. The standing
offer (POLR) is intended to be the tariff that vulnerable customers can
access when there is no other offer available. Those customers most likely to
opt for market offers are the least vulnerable. In essence the wealthier
customers can be expected to opt for cheaper tariffs and greater benefits,
while the vulnerable will be left on the deemed contract or standing
offer. The Government’s safety net in fact creates a formal “residual”
market. Access to cheaper prices is determined by lack of disadvantage.
The disadvantaged face a monopoly price that is for many unaffordable. Normally
the market would not have at its disposal a mechanism that so conveniently
segments the rich and the poor. In Victoria, the poor are on the tariffs the
market would have over time assigned them to. Retailers can compete in the
knowledge that the market really only constitutes the affluent customer
segment. To this end the existence of the standing offer (POLR) provides
an institutional framework for economic discrimination (redlining). As affluent customers leave for market
contracts, the pool of customers on the deemed/standing offer looks more
and more like a crummy residual market.
As will be discussed below, there is a certain inevitability that
suppliers of the POLR will argue to lift the price cap.
Part of the value of having a price cap that errs
on the side of a lesser headroom is that it means the retailers have less scope
to discriminate between households. Selective discounting cannot be undertaken
on the assumption that other customers with less discretion can be charged more
in order to compensate for the lost revenue.
The price cap issue is probably less one of inadequate revenues for the
retailers as much as it is reducing the ability of the retailers to engage in
price discrimination, and hence a low price cap slows down customer “churn”.
The obligation to supply in Victoria can best be
described as a social compact. The actual obligation to supply may not have
been articulated in legislation in Victoria but it was assumed to exist, a
belief arising out of a long legal history shared by a number of countries
(Taggart 1997). This allowed the development of customer charters and codes
stipulating when and how a household could be disconnected for
non-payment.
The change from ‘universal supply to competitive,
and in SA and VIC, private supply is a fundamental one that has had little
substantive debate. Proponents of market reform reconcile universal service and
the competitive markets through the adoption of CSOs that explicitly shift
“social” responsibility from the utilities to government. If a government wants
utilities to serve ‘uneconomic’ customers, then it must be prepared to
subsidise the customer. The CSOs delivered in Victoria as part of the reform
package has been comprised solely of the pre-existing concessions program. The issue of the impact of tariff
re-structuring (or re-balancing as it is more often called) on affordability
and the government’s own concession budget remained unaddressed by the Kennett
government.
On its election in late 1998 the Bracks government
affirmed the reform agenda of their predecessors. Two years into their first
term the Bracks government has been required to address new moves to re-balance
tariffs, as each host retailer on the eve of FRC sought dramatic prices
increases for their deemed and standing offer customers.
Particularly affected were the off-peak and rural tariffs. The government
permitted a partial rise but committed $118m of taxpayers money in subsidies to
the worst affected rural customers, and introduced a new concession for rural
off-peak low-income households, adding another $6m to the package. When host
retailer TXU published their revised general domestic tariff, they had
increased their fixed charges and lowered the per unit charge. The effect is to
maximise the subsidy from the government while also encouraging consumption.
The government therefore was immediately required to adjust the application of
their Special Payment Power (SPP) subsidy to avoid the concession being gamed
by the retailer. Nevertheless, price increases as a result of tariff
re-balancing means that the government’s liability for existing CSOs such as
the winter energy concession is likely to grow significantly. This will force the government to review its
concession policy. It is also the case
that the current concession arrangement permits part of the liability for
air-conditioning cross-subsidies to be transferred from customers to taxpayers.
The current lack of pricing guidelines means that
taxpayers are partially subsidising air-conditioning use by affluent
customers. At the present time
households without air-conditioning pay the same tariff as a household with
air-conditioning. The uptake of refridgerative air-conditioning is the single
greatest contributor to increasing network and energy costs. Average prices
have increased significantly as a result. As the same tariff is applied to both
the ‘cooled’ and ‘uncool’, a cross-subsidy from one to other exists. As a
general rule the more affluent have air-conditioning, with low-income private
rental households the least likely to have air-conditioning. This cross-subsidy
across the NEM is estimated to currently be in the order of $700m-$1000m per
annum by the Energy Action Group (Energy Action Group 2002). Year long average
prices are lifted so concessions on winter bills effectively means some
taxpayer funding of summer air-conditioning.
Victoria’s state based regulation of distribution
permits extensive tariff re-balancing on intended to wash out un-economic
cross-subsidies. There are no limitations on how retail tariffs are
devised. Any tariff re-balancing is
assumed by the ESC to be a move towards economic efficiency. This attitude is
hard to understand when the doubling of the domestic supply charge by the SECV
in 1993 effected the removal the household subsidy, and the implementation of
the Grid Equalisation Scheme in 1995 withdraws, over time, $100m per annum
worth of subsidies from rural consumers. If the subsidies have already been
removed then tariff re-balancing probably reflects Ramsey Pricing. A lack of
pricing principles means that the ESC and Government have chosen to ignore
inappropriate over-recovery of costs from customers unable to avoid such unjustifiable
increases. Customers are being segmented and redlined in the process.
Redlining is economic discrimination practised
against a customer or group of customers. It is the opposite of being
“cherry-picked”. Markets tend to segment their customer bases, and as
information technology and data mining become more prolific the opportunity for
competing firms to target specific customers/customer groups grows. Competing
companies want to attract and retain the customers that are most valuable to
them, and rid themselves of the customers that are unprofitable. The demands of
the share market for higher rates of return will not only require that some
customers be avoided but the less profitable customers also be shunned.
The separation of retailing from distribution means
that retailers do not have large physical assets tied up in each customer.
Distributors should have an interest in accepting under-recovery of costs in
preference of a total loss because their investment has already been made, and
the on-going costs of serving the customer is marginal (Colton 1998). Retailers operate by taking a small margin
on every unit of electricity sold and rely on a high volume of transactions.
Their capital costs are small but the marginal cost of serving the customer is
relatively high. The fact that retailers are creditors to DBs and generators
increases the focus of retailers on cash flow and customer indebtedness. Under
the current arrangements the DBs are paid regardless what the end customer
does. If there is a high risk of default then it may appear prudent on the part
of the retailer to avoid that customer. If a customer defaults on payment then
discontinuing supply limits the liability. Placing all the risk of customer
default on the retailer encourages redlining. Placing that proportion of risk
on the DB that represents the DBs share of costs would militate against such
discrimination as the two have different interests in relation to keeping
customers on supply and paying whatever they can manage.
Unfortunately,
existing policy reinforces redlining. Credit management policies can be used to
avoid customers. Ramsey pricing on the other hand can used to maximise the
revenue earned vulnerable customers. Retailers would be the first to understand
that pushing prices up will result in greater number of defaults. But they
would also be the first to recognise that people need the service and will
prioritise utility payments over other debts and are able to seek relief from
charities. Imposing charges on reconnection after disconnection moreover can
ensure the retailer’s profitability even though customers are not actually
always taking supply.
The retailer and the distributor are both able to
engage in Ramsey pricing – to charge a higher price to those households and
small business customer who have the least ability to avoid the charges and who
will not or cannot substantially alter their consumption (Coyle 2000, Carver
1995, Baiman 2000). Large business and industrial customers can relocate,
invest in energy efficiency or find alternative fuel sources or suppliers.
Their elasticity of demand means they are generally the beneficiaries of Ramsey
pricing. Utilities seek to fully utilitise their capital intensive assets
otherwise cost recovery may not be possible (Coyle 2000). Electric utilities
therefore seek to maximise sales as well as prices, because as volume increases
unit cost per kilowatt hour drops and this further encourages consumption. This
is the purpose of providing discounts, or “special contracts” to large users
(Lazare 1997). It is possible to lower prices generally to encourage
consumption but then the utility would not recover its costs. The utility could
raise its prices to recover costs but this would dampen consumption. The
solution is to discriminate between customer classes – Ramsey pricing.
Ramsey pricing is a direct
challenge to government and regulators who purport to promote and administer
competition policy. Ramsey pricing and special contracts clearly constitute market abuse (Lazare
1997). If market power did not exist, then Ramsey pricing could not
exist – the affected customers could escape. Reviews of pricing therefore must
examine each tariff and measure it against the cost of supply for that customer
class. The neo-liberal desire for allocative efficiency cannot be realised if
customers do not have a pricing signal that reflects the cost of supply. Ramsey
pricing means neither the beneficiaries nor the subsidisers see a ‘correct’
pricing signal. In asking the ESC to
investigate retail price increases, and particularly the existence of market
abuse but stipulating that the investigation be conducted in relation to average
retail prices the Victorian government is effectively consented to economic
discrimination. The ESC likewise in failing to investigate the basis of tariffs
in the Review of the Effectiveness of Full Retail Competition while
constituting a great example of the head in the sand approach to protecting
small consumers, likewise provides consent to retailers and distributors to
engage in market abuse. So much for competition policy. In the US, market
delivery of many services and the resulting redlining problems has meant that
the majority of jurisdictions that have embraced reform of their electricity
industries have legislated consumer protections intended to prevent redlining (National Energy Affordability and
Accessibility Project (NEAAP) 2002).
A key means of segmenting the market is the use of
credit referencing. Retailers in Victoria are able to access the credit histories
of customers. For customers on deemed/standing offers the Electricity
Industry Guideline No.4 - Credit Assessment allows the retailers to
credit check against gas, electricity and water debts as if this limitation
somehow protects the customer. The likelihood is that a customer with a utility
debt has non-utility debts. It is also likely that such a customer has already
experienced disconnection or in the case of water, restriction. The
essentialness of these services means that people do not willingly go without
the service, especially if they have children. An unpaid utility debt indicates
the customer has probably experienced considerable hardship. The guideline
requires that a retailer offer a customer with a credit record arising from a
utility debt an instalment plan in lieu of immediately demanding a refundable
advance or bond. If the plan offer is
refused or the instalments unsuccessfully maintained the retailer can then
demand the bond. The Guideline is a
method that utilities can use to ensure their product does not have to compete
with other essentials like food or housing.
By definition these customers are unlikely to
maintain the instalments. As Gavin Dufty, policy officer with the Victorian
Council of Social Services has previously determined through surveys of
emergency relief agencies, bond monies typically come from charities, friends
and families, not from the customer. If the customer has an incapacity pay the
utility is simply shifting the risk onto the community.
For customers seeking a market contract, the
credit reference check is not limited to utility debts, although privacy laws
require the customer’s consent to a check. A customer who refuses a check is
unlikely to have an offer translate into a contract. Nor is a customer with
poor credit record going to get a contract. These customers will find
themselves stranded on the standing offer.
Credit referencing is of great concern because of
the use of “credit scoring”. Credit scoring is the assignment of a value on a
person using not just actual factual data about the person (such as unpaid
debts, employment) but also a risk evaluation based on generic information such
as the suburb in which people live. In essence credit scoring makes up values
that are missing in the individual profiles that are complied through data
mining. It is a risk assessment process that is suited to redlining and
cherry-picking.
A customer’s concession status is also a powerful
tool for retailers seeking to avoid low volume customers, and perceived high-risk
customers. An average annual difference of $161 in expenditure on electricity
per annum was found to exist between aged pensioner households and
non-concession households (Reark Research 1996). Non-aged pensioners spend only marginally more than aged
pensioners although they are more likely to support families (Reark Research
1996). Non-incumbent retailers may argue that the delivery of concessions
incurs costs that represent a barrier to entry in this segment of the market
but it is also a convenient argument to gain regulatory ‘approval’ to not serve
these customers.
It is fair to ask what risk to the utility does a
vulnerable customer actually represent? The biggest threat is that they will
pay late, or sometimes will not pay at all. It is certainly not
the case that these customers will fail to pay entire bills on an on going
basis. Almost no customer could be
considered to be unprofitable over a lifetime of usage, because periods of
incapacity to pay are generally short relative the decades that individuals are
customers.
Vulnerable Electricity Customers in Victoria
Fuel poverty is the intersection of a number of
vulnerabilities. Lack of adequate income, housing tenure type, housing thermal
efficiency, and appliance efficiencies are key variables. But as Reark Research
(1996) notes lifecycle is also important:
While the number of
people in the household is an important factor in overall utility consumption,
the amount of time those individuals spend in the dwelling is also important,
as are the demands made by young children on heating and washing facilities.
Households with all adults could be expected to have different consumption
patterns from those with young children.
The Victorian Household Utility survey conducted in
1996 for the Department Human Services found:
…the standard of
living of Victorian households is relatively uniform, if measured against
factors such as the ownership of major appliances (fridge, freezer, washing
machine), number of bedrooms, bathrooms and toilets, or the construction
material of dwellings. However, the circumstances of the non-aged concessions
group created the most impediments to comfort, in terms of housing stock and
affordability of bills. They were more likely to be in private rental
accommodation, have the lowest access to energy and water saving features, the
highest reported number of health problems affecting consumption, the most
perceived difficulty in paying their bills and less awareness of concessions
than their aged pensioner counterparts. (Reark Research 1996:6)
Saunders
(1996) suggests that poverty or “deprivation” is “most prevalent amongst single
aged people, larger two-parent families and sole parent families generally” An
indication of the fuel poverty experienced by poorer households can be gained
by examining Table 4. This Australian Bureau of Statistics data indicates that
84% of the poorest renter could not afford to pay their gas or electricity or
telephone, and over a third could not afford to heat their homes. It gives a
strong sense of the lack of resources these households and the extent to which
the broader community assumes the costs. This later point is important in
regard to residual markets as the informal safety net (charities, friends and
families) are unlikely to be able to accept any greater demands made upon them.
Table
4. Private renters lowest quintile –
all Victoria households
|
Shortage of money |
% of responses |
% of cases |
|
Whether could not pay gas/electricity/telephone |
30.7 |
84.0 |
|
Whether could not pay registration/insurance |
7.9 |
21.6 |
|
Pawned or sold something due to shortage |
8.8 |
24.0 |
|
Went without meals due to shortage of money |
12.8 |
35.0 |
|
Unable to heat home due to shortage of money |
12.8 |
34.9 |
|
Assistance sought from welfare/community agency |
13.1 |
35.8 |
|
Sought financial help from friends/family |
14.0 |
38.2 |
|
|
100 |
273.5 |
Source: ABS Household Expenditure Survey –
Confidential Unit Record Files 1998/99
Burke and Hulse (2001) found that public tenants
ranked gas/electricity/water costs as the most likely reason for them to fall
into arrears with rent. Private tenants receiving rent assistance ranked
utilities as the second most likely reason after general living expenses
(food/clothing). Duggan describes utilities as being “in competition with
private landlords”, as an increasing number of households experience housing
stress (Duggan 2002). Of particular concern to Duggan as a community based
financial counsellor is the rise in the number of working households that are
increasingly over-burdened as the cost of living rises as real wages fall
(Duggan 2001).
While aged pensioners have the relative advantage
of outright home ownership, their propensity to be good payers (Shannahan 2002,
Reark Research 1996) can obscure underlying poverty. The Low Income
Electricity Customers Project run by the South Australian Council of Social
Service found that aged pensioners were sacrificing vital food intake in order
to pay electricity bills (Lawrence 2002).
The traditionally disadvantaged (low income)
customers are no longer the only vulnerable customers in de-regulated
electricity markets. The demise of universal service and the move towards full
cost recovery places rural/remote customers at a disadvantage compared to urbanised
customers. The underlying network costs
are higher; the economics of meter reading lend themselves to monopoly supply
in remoter areas; and the population densities do not warrant multiple retailer
presence. Rural customers are at risk of not having competing suppliers, and
hence face the ever present threat of monopoly pricing.
Also risk, are those households who have very low
levels of consumption, including those that have invested in energy efficiency.
The low profit margin that results from low consumption per customer means that
there is unlikely to be vigorous competition for these customers. They may find
themselves, like small bank account holders, subject to relatively higher
costs.
Provider
of last resort schemes
The
long standing requirement of US utilities to supply at a ‘fair and reasonable’
price (Colton 1995b) has meant there has been the provision of “default” schemes in each state that has
de-regulated (Alexander 2001). In addition, most states inserted specific
anti-redlining provisions into their reform legislation (NEAAP 2001). There are
various arrangements for and combinations of what we in Victoria call the deemed,
standing offer, market contract, “default tariff” and “retailer
of last resort”. Commonly, a customer
can go backward and forward between a regulated tariff and market
contracts or go into a POLR arrangement. In Victoria, the customer leaves the deemed
contract for either a market contract or standing offer.
In
this paper the term ‘provider of last resort’ is used to describe a generic
safety net tariff, as opposed to “retailer of last resort” which in the
Victorian context refers to the default supplier should a retailer have an
unplanned exit from the market (eg the collapse of telecommunications firm
One-Tel). In the US these two functions are often lumped together.
Two
other measures form the package that is intended to preserve universal service
in the US – and both existed prior to de-regulation. These are regulated price
discounts to nominated low-income households, and the ‘Systems Benefits Charge’
(SBC), a levy that funds the discounts and retrofitting of low-income housing
stock to improve thermal efficiency (NEAAP 2001). Vulnerable customers
therefore gain the protection of a POLR and/or a regulated standard tariff that
is a discounted price cap.
The
New York Public Services Commission (the utility regulator for the sate of New
York) recommended the adoption of explicit
“universal service goals”, rejecting a POLR scheme that was more
expensive than the standard regulated tariff because:
Charging
higher rates for essential energy services to those who have few, if any
additional choices and who may be least able to afford them was not generally
believed to be just and reasonable (quoted in Alexander 2001).
Universal
service and just and reasonable prices are not according to Colton (1998)
synonymous although they are “inextricably tied together”. Universal service is
the “end”, and affordable service is the “means to that end”.
The
other main concern for US states that have gone down the deregulation path is
the lack of competition at the household level. The New York Public Services
Commission for example, recommended wholesale market issues be addressed prior
to full retail competition. In her Update
Alexander (2001) reports on efforts to jump start competition in Massachusetts
by providing competing suppliers with a list of information about customers who
have not moved. Not surprisingly utilities supported such moves, although they
declined an interest in the credit history of customers. Instead they argued
that customers with arrears of 30 days or more should simply be left off the
list. The state regulator rightly refused to permit release information that
was so transparently discriminatory. Utilities also sought the removal of
barriers to the taking of electronic signatures (internet based enrolment).
Internet based selling is selling to an audience that already segmented as the
poorest sections of the community have poorer access to quality
telecommunications infrastructure, personal computers and the education necessary
to use them, a phenomena described as the “digital divide” (Cooper 2000, Kahl
1997; National Telecommunications and Information and Administration 1999).
Many
states in the US such as Ohio and Pennsylvania decided that their POLR rates would be the same
as their ‘standard rates’ – the price cap offered by the incumbent. Most states had the utilities
bid in the first instance to become the incumbent supplier of the standard
service provider to their local domestic market. Non-incumbents compete against
this ‘standard service’ tariff. In addition to the politically motivated rate
cuts delivered at the outset of deregulation, low-income customers in most
states are recipients of rate discounts as part of low-income programs. For
example
Low-income
Pennsylvanians also enjoy some of the biggest power discounts in the country…
people below the poverty level in Philadelphia pay just 50 percent of their
power bill for their first 500 kilowatt hours, said Philip Bertocci, a
supervising attorney at Community Legal Services in Philadelphia. The subsidy
costs the Philadelphia utility and its customers $ 50 million a year, he said.
Those discounts don't disappear under deregulation, even if low-income
customers switch to a new retail electric provider).
The
State of Texas, in contrast implemented a POLR scheme for customers who pay
their bills late, or those whose retailer exits the market. This POLR was 50%
more expensive than the standard rate and 60% more expensive than the
low-income rate (Oldham 2001).
DALLAS
KEEPS POWER ON - Dallas ACORN is keeping the pressure on the local
electricity provider, TXU, to fend off the most damaging elements of the Texas
deregulation plan and keep the power on for low-income residents. On April 27,
ACORN members visited the home of a top TXU official, along with television
cameras, to present him with a "Screwed" award (a giant screw). TXU
had recently announced that anyone who falls two months behind on their
electricity bills will immediately be dropped from their standard service and
handed over to the Provider of Last Resort (POLR). This means that many
low-income residents who struggle to meet the rising cost of their bills will
be quickly transferred to another company, which will require large deposits
and charge them much higher rates (ACORN 2002).
The
POLR rate was lowered to 20% above standard rates after protests. Randy Corbin (quoted in
Oldham 2001), assistant director for analytical services at the Ohio Consumers'
Counsel, argued that a "vicious cycle" is created when the POLR is
priced higher than standard service offers because those having the greatest
difficulty in keeping up with payments are those most likely to find their way
into the POLR where their disadvantage becomes exacerbated by the higher costs.
Alexander (2001) argues the ‘residual’ market nature of the Texas POLR as a
problem:
low-income
customers are clearly more at risk in a system that adopts the Texas POLR model
because this approach focuses on those that drop out of the competitive market
and does not link this smaller group to the larger pool of residential
customers who do not shop around for electricity in the competitive market.
Oppenhiem
(2001) argues that the relationship between standard offers and POLR replicates
disadvantage and marginalisation. Customers in Massachusetts lose the
protection of their “Standard Offer”, a fully regulated fixed rate, when they
move into a dwelling in a different utility service area. They are supposed to
choose a competitive supplier at this time or risk the default tariff (which
happens to have tripled in price since deregulation). Oppenheim points out
that, because of their low levels of home ownership, low-income people tend to
move far more frequently than those on higher incomes. The disadvantaged are
being marginalised further by expensive electricity prices. Low-income
households in effect cross-subsidise better off households who can stay on the
Standard Offer because they have greater housing stability. The NEAAP reported
in May 2002 that Massachusetts utility NSTAR was re-funding US$1.45m to
customers (after a class action had been initiated) because NSTAR had
“erroneously” moved 24,000 households to the more expensive default service.
The utility said that its computer had failed to distinguish between customers
re-locating inside its service territory and those who were new. Whilst this
may be construed as a cynical attempt to raise revenues it demonstrates how
poverty issues intersect, and specifically how ‘default’ or POLR schemes can
institutionalise discrimination against disadvantaged groups.
POLR
as residual markets
POLR
schemes formally create residual markets – a market that provides for those for
whom it is a last resort. Typically POLR schemes create a pool
of customers with a higher proportion of low-income customers and/or a higher
proportion of those with poor payment histories. There are three main issues involved. Firstly, it is a common
argument that hard to serve, those on low incomes or with payment problems are
more expensive to service and hence that they should pay more in order for the
costs they incur to be recovered. The
additional expenses concerns extra contacts made with customer to arrange
re-payments, flexible payment schemes, costs of disconnection and reconnection.
Alexander (2001) argues that residual markets for low-income electricity
customers should be avoided because with no cross-subsidisation from other
customers the POLR price will “be higher than that available in the
competitive market”(author’s emphasis). This raises the second issue, that the
guarantee of supply must also guarantee affordability. Such a guarantee is
generally regarded as involving subsidies of some kind. The third issue relates
to the first issue – the recovery of costs.
The
view that disadvantaged customers are more expensive to serve is challenged by
Colton (1996) who argues that this view ignores the less than average
contribution to costs by low consumption users. That is, if low-income
customers restriction their electricity use, they do not contribute to overall
growth in consumption, the biggest contributor to increases in the cost of
supply. The effect is that small volume users cross-subsidise larger volume
users. Reark Research (1996) showed
that concession customers in Victoria use far less electricity than
non-concession customers. Carver (1995) and Sharam (2001) argue that the
methodologies and arguments generally used to determine cost allocation are
flawed in this regard. Therefore, while
vulnerable customers may require some additional customer service support, such
as flexible payment arrangements, their lesser contribution to network and
energy costs may amply offset such costs.
In
the UK a pre-payment meters (PPMs) function as the POLR and can be considered a
residual market. The UK regulator, the Office of Gas and Electricity Markets
(OFGEM) applies different price caps to PPMs, direct debit payment, and to the
traditional ‘credit’ payment. Direct
debit is the cheapest and not surprising PPM is the most expensive. This
discrimination has as attracted the criticism of low-income advocates, National
Energy Action (2002). Customers are segmented into the PPM sub-market as it is
a requirement of the consumer protection regulations to offer a customer a PPMs
in lieu of disconnection. Ernst (1994)
argues the result is a high level of penetration of PPMs amongst the fuel poor
in Britain. PPMs are a major attraction
for the utilities because they can be calibrated to recover past debt, as well
as improving the cash flow position of the business Ernst (1994). OFGEM
accepted the argument of utilities that PPMs cost more than traditional credit
based supply warranting a higher price cap, but customer advocates disputed
these costs (Baker2001).
PPMs
use smart card technology that is far less benign than the old coin-in-the-slot
meters. The later are ‘pay as you go’ (and involve cash) whereas PPM are
‘pre-pay’ (and involve transactions off site). Among the advantages for the
utility is that the official disconnection rates plummet as the act of
disconnection is effectively privatised; debt collection is eliminated; credit
provision is abandoned; meter reading and the issuing of bills is no longer
necessary. In fact, the utility can virtually suspend having a relationship
with the customer as he/she can be forced to purchase the smart cards at
vending machines or agencies alleviating the need for face to face or telephone
service. The time call centre personnel spend on negotiating payment of arrears
is eliminated.
Evidence of self-disconnection amongst PPM customer in the UK supports the view that access is determined in part by affordability. Twenty-four percent of electricity PPM customer and twenty-seven percent of gas PPM customers reported self-disconnection. Those PPM customer reporting self-disconnected registered as being in the following groups: receiving benefits; one or more unemployed; in rural area; receiving state pension; low-income; receiving disability benefits; with children (OFGEM 2002).
Maintaining
supply to all households in Victoria at a fair and reasonable price
The contradiction of maintaining universal service
in a market is not easily resolved. If
all customers were equal and could afford the service, then the problem of
market segmentation and economic discrimination would cease to be an issue. The
fact of very substantial inequality of wealth in Australia necessitates
specific strategies to prevent essential energy services exacerbating existing
inequity.
In order to guarantee access and affordability in
the Victorian electricity market, there needs to be an explicit legislative
objective of ensuring non-discriminatory supply at a fair and reasonable price.
Subordinate regulation, codes and guidelines must give effect to such
objective. The current legislative framework lacks both clarity of purpose and
the means of operationalising consumer protections to ensure non-discrimination
and affordability. If government cannot resolve the conflict of interest it is
hardly surprising that the ESC – as a neo-liberal economic regulator – would
bravely and optimistically claim that the market segmentation it found in its
first Review of the Effectiveness of Full Retail Competition for Electricity
would go away when the market matured (Essential Service Commission 2002).
One of the chief concerns of government in creating
POLR schemes is that if it is affordable for those who are its target group
then it will also be attractive to all customers. Having made provision for mandatory supply, government needs to
think harder about what is the most efficient and fair way for customers and
the suppliers of delivering on the mandatory supply requirement. Government’s
can - as has been the case in the past in many jurisdictions - force the
utility to bear the cost as the price they pay for having an exclusive
franchise. This argument has on the surface less weight as competition as been
introduced as suppliers assume the risk of customers switching to a competing
supplier. In reality, electricity retains many monopoly elements and near
monopoly characteristics. For example the likelihood of there being many
competitors in remoter parts of Victoria is low. Even in the UK, rural areas
see far less competition (MORI 2001/2??).
Alternatively, government could have customers paying a cross-subsidy.
An example is the US ‘Systems Benefit
Charge’. A levy on all customers that is re-distributed to low-income programs
for weatherisation and rebates. One of the problems of levying electricity customers
is that it is a regressive form of taxation. Government could choose to fund
programs itself to avoid this.
Prior to instituting programs the government needs
to assure the public and customers that where subsidies are provided they are
warranted. This would involve gaining a detailed understanding of every tariff,
customer class and demand characteristics in order to determine the cost of
supply. Pricing guidelines would need to be developed to ensure that price
discrimination could not occur. There is little value in providing large but
unnecessary subsidies, which is arguably the case with the Special Power
Payment. Moreover, if government taxes either customers or citizens it should
be mindful of permitting costs to increases as a result of increasing demand.
The second part of the equation is to look at how
resources should be used. It is very clear that if the problem is customers
being excluded from the market or forced into exploitative residual market then
effort should be made to make customers more equal so that they avoid attracting
such treatment.
Reducing market disadvantage will involve
addressing fuel poverty. Fortunately the causes of fuel poverty are well
understood and solutions have been found. It has simply been the case that
since the election of the Kennett government all effort to address the issue
has stopped. The solutions include retrofitting housing, replacing appliances,
mandatory energy efficiency for buildings, and income support. These measures
are known to have a range of positive social, health and environmental flow
ons, so a little investment would have positive financial rewards. In many
cases it is not the customer who is the problem but the housing in which they
live. If it is private rental (which is common for those with difficulties
paying) the tenant does not have control over the thermal efficiency of the
house or the effectiveness of its appliances. There is a role for government
and utilities in finding a solution.
A second set of measures would involve utilities
becoming more sensitive in regard to the needs of disadvantaged customers. As
the UK National Consumers Council (2000) have highlighted in their work around
consumer disadvantage, problems of payment may arise for various reasons which
mainstream service provision fails to take account. Contrary to the perception
that special programs are costly City West Water has demonstrated the financial
benefits and good business sense of embracing a hardship policy targeted at
assisting low-income customers (Fish 2001).
An alternative is that Government become the
supplier of last resort. To some extent they already do this in Victoria by
providing concessions and energy relief grants. The value of doing this would
be to place vulnerable customers into the same buying pool as government
itself. The government purchasing pool could not only achieve a better price
and link these customers to programs for retrofitting and income support.
Demand Management outcomes could work well for government and customers more
generally - energy ‘saved’ could be re-sold by government. For a number of
customers energy efficiency measures would be sufficient to make them 'equal'
enough to cope in the market. Government could absorb write off costs against
the savings to their health, welfare and environmental budgets. Access to the
pool would be determined by vulnerability factors. Such a scheme already exists
in the US, “[t]he Connecticut electric restructuring legislation provides that
when the state buys electricity for state facilities, any household with at least
one member receiving a means-tested public assistance benefit will be allowed
to buy electricity at the same price” (Fisher et al 2000).
Conclusion
The Bracks government endorsed the Kennett
government belief that competitive behaviour was needed in the electricity
industry to achieve economic efficiencies.
This policy specifically aimed at the elimination of cross-subsidies.
However, while some subsidies have been dismantled, the current government is
pursuing the policies that are contradictory. It is providing taxpayer-funded
subsidies while permitting Ramsey pricing.
It also states that it has a robust consumer protection framework but
has instituted a POLR scheme that assigns vulnerable customers to a formal
residual market that ensures they pay the most expensive tariff in the market.
No formal obligation to supply exists and even the weaker obligation to offer
expires on the 31st December 2003. To lessen the disadvantage that
markets pose for vulnerable customers government must seek to make these
customers more equal and hence less subject to the discrimination inherent in
markets. A key means of achieving such a goal is the amelioration of fuel
poverty. Government and regulators
must also recognise that price discrimination is a anti-competitive practice
that will not deliver longer term economic efficiency.
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