Carbon Markets Electricity

Do recent high prices and coal outages signal future NEM dynamics?

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Wholesale electricity prices in the NEM increased by 139% in the June quarter compared to the same period in 2020, underpinned by the low availability of thermal units – including the loss of the Callide power stations, and disruptions at Kogan Creek and Yallourn – on top of broadly higher coal and gas input prices.

During recent coal-fired outages, the NEM recorded its lowest ever share for coal generation, putting more pressure on other generation assets to cover the shortfall, particularly gas, which rose to 10% of total NEM output in June, contributing to higher prices over the period.

As coal-fired units continue to come under pressure – both in terms of early economic and environmental retirements, and increasing reliability concerns – the events of the June quarter provide an interesting insight into a possible NEM future, whereby increasing gas generation may lead to higher wholesale prices, particularly during periods where low variable renewable output corresponds to higher demand, as increasingly witnessed during the June quarter.

In this article, we take a closer look at how recent events may influence wholesale electricity price development in the NEM over both medium- and long-term horizons, informed by our latest Australian Electricity Outlook (AEO).

Coal availability to impact medium term prices

Uncertainty regarding the availability of aging coal-fired generation continues to impact forward prices, with disruptions to coal-fired generators becoming increasingly front of mind, most recently in Queensland (Callide) and Victoria (Yallourn and Loy Yang A).

Black coal-fired plant availability fell by 1,479 MW over the June quarter, its lowest second quarter performance since the NEM started in 1998. Meanwhile, rising international LNG prices and higher use saw gas prices surge to $8.20/GJ, nearly double the average of $4.37/GJ a year ago, and up strongly from $6.03 in the March quarter.

Higher spot prices have now fed into futures prices, with 2022 contracts up – especially in the current quarter ending Sep-21 – largely underpinned by increased uncertainty around the unexpected loss of another coal plant in a relatively tight market.

For example, ongoing concerns remain about the integrity of Yallourn’s Morwell River diversion, with major cracking in the wall of the diversion raising the risk of further mine flooding should another major rainfall event occur before permanent repairs are made.

High fossil fuel prices and the absence of units at Callide C and Liddell next year are anticipated to keep electricity prices higher than we have recently experienced. In line with our latest AEO, prices are expected to be volatile across the NEM for the next three years, with quarterly prices increasingly alternating between highs in the summer and winter quarters, while falling lower in the shoulder quarters.

In NSW, average quarterly prices are forecast to remain high for the next few years – higher than most other regions – and remaining higher following the withdraw of Liddell before new dispatchable power and transmission links are commissioned. In contrast, the commissioning of large-scale renewable energy projects and continued strong growth in distributed PV may keep QLD prices lowest in most years, as demand increasingly softens while supply increases.

The recent role of gas is unsustainable

Although difficult to forecast, more regular coal outages are likely to trigger higher prices as remaining gas and coal generators exploit market conditions. As we recently witnessed in QLD, prices for every time interval were in higher in June (post the Callide event) relative to May. Most notably, scarcity prices after sundown provide the largest opportunity for gas producers to generate returns.

The current role of gas in providing flexible capacity today is, however, unlikely to be sustainable in the long-term, with battery costs expected to fall low enough to begin capitalising on multi-hour arbitrage opportunities, largely at the expense of gas. This seems inevitable given both capital and charging costs for energy storage are likely to continue to fall, while gas prices are forecast to increase in the long-term.

Even when gas prices return to a low-price environment, gas plants are expected to struggle in the new Five-Minute Settlement market, with batteries forecast to emerge as the most economical way to trade, especially once draft rules that seek to create a new ‘fast frequency response’ market and solve the ‘hybrid’ problem come into effect. These new fast frequency response rules are calculated to reduce ancillary costs such as frequency control, where batteries and other inverter-based technologies can be rewarded for delivering rapid response to grid disruptions in less than two seconds.

In parallel, new hybrid rules are anticipated to allow different technologies to be combined at the same location to smooth out the creation of linked assets such as ‘virtual power plants’ (VPP). Aggregated energy storage in Australian VPPs continues to lead the world in energy service stacking, making battery payback times more attractive even at the residential scale.

Although the timing is uncertain, these dynamics suggest that another form of long-term energy storage will ultimately beat out gas for the role of balancing variable renewable energy and ‘bridging’ our way to a clean energy future.

What are the implications for long-term prices?

Longer term, we continue to forecast renewable energy generation is on track to exceed 50% by 2025, despite the absence of a federal policy framework beyond the LRET. Even without further policy, renewable energy is calculated to make up around 90% of generation by 2040.

Under our Central Case, neither renewable energy threshold is anticipated to trigger large increases in wholesale prices due to the availability of coal-fired facilities until their expected closure dates. Despite this, the increasing unreliability of coal assets remains a plausible risk for the market, which we explore in our high sensitivity.

Figure 1: Electricity generation percent sourced from renewable energy

The period of the largest coal closures between FY28-35 is marked by escalating average prices, however, at no time in the outlook period are annual average NEM wholesale prices forecast to exceed $70 per MWh.

Short term commissioning of renewable energy capacity, along with investment under the NSW Electricity Roadmap, V-RET and Q-RET schemes, and the installation of small-scale rooftop solar, are forecast to maintain downward pressure on wholesale electricity prices though the 2020s, with the weighted average NEM wholesale price shown to remain at or below $60 per megawatt-hour (/MWh) over the next decade.

Although utility-scale solar and wind projects are being built at an impressive rate, the final step of delivering electricity into the grid is experiencing major delays in some REZs (such as North Queensland and VIC’s Western and Murry REZs) due to inadequate grid infrastructure. These supply additions will ultimately continue to shift supply curves to the right, increasing competition for dispatch and reducing the influence of gas prices, resulting in lower wholesale electricity prices.

As renewable energy investment slows due to the cannibalisation effect of wind and solar penetration, and key REZs are increasingly built out, the closure of major coal-fired facilities may exacerbate steady growth in energy consumption after the mid-2020s stemming from increased electrification. This is forecast to lead to higher wholesale prices, assuming the continued absence of a policy framework to accelerate investment in utility-scale storage ahead of uncertain coal-fired facility retirements.

Access our latest Australian Electricity Outlook

Please click here to access our latest Australian Electricity Outlook. To learn more about our EnergyIQ platform, please click here.

Alternatively, please contact a member of our team for more information, or to learn more about our services for the Australian electricity market.

Kind Regards,
The RepuTex Team
Australian Electricity Markets

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