[DEBATE] : (Fwd) Eskom pricing 'debate'

[Patrick Bond]

(Yawn. No politics in this editorial, nothing on the Minerals Energy 
Complex distortions in the economy.)

Business Day

2 June 2008
Textbook approach to tariff hikes is villain of the piece


THERE was a distinctly theatrical feel to the National Energy Regulator 
of SA’s (Nersa’s) public hearings on Eskom’s application for a 60% 
tariff hike. And this was not just because the hearings attracted a 
large cast and an even larger audience.

Rather, it was because the drama being played out had, strictly 
speaking, not all that much to do with the application at hand.

That was in part because the hearings turned into something of a 
commission of inquiry into the power crisis, providing a forum for 
various interest groups to vent their anger at Eskom, air their 
criticisms of its management and offer analyses of what went wrong.

Yet it was also because there was a disconnect between the broader, 
longer view on electricity pricing that some key presenters took and the 
much narrower decision the regulator is actually making. And that 
suggests not that those presenting were out of line but rather that the 
regulatory process itself is flawed.

The regulator, remember, is making a decision just on the tariff for 
Eskom’s financial year, which runs from April 1 this year to end- March 
next year. And this is the third time it will be deciding on tariffs for 
this particular year. In 2005 the regulator introduced a three-year 
price determination that allowed Eskom a 6,2% increase for this third 
year. Last year, as costs escalated far past the 2005 projections, Eskom 
asked Nersa to raise the increase to 18,7% and let it “pass through” the 
costs of coal and diesel, as long as it could prove it was using these 
prudently. Nersa responded with a 14,2% increase, turning down the “pass 
through” idea.

As the power crisis gripped SA earlier this year, Eskom returned to the 
regulator yet again to ask for higher revenue that would cover it for 
soaring coal and diesel costs, as well as increased costs of the demand 
side management (DSM) programme it was speeding up to try to encourage 
customers to use electricity more efficiently.

After 20 years in which electricity tariffs have declined about 40% in 
real, inflation-adjusted terms, the average tariff is only half of what 
it should be if new power stations are to be financially viable and if 
customers are to base usage on what it really costs to supply it.

Eskom, though, focused on how coal and diesel costs have climbed. When 
Eskom’s chairman and its executives put their case at the hearings, they 
set this in the context of the urgent need for Eskom and private sector 
players to invest in new capacity.

They also talked about how the price level now artificially boosts 
demand for electricity. And they warned that without a larger increase, 
Eskom was likely to report a loss of about R7bn for the 2008-09 
financial year, making it highly likely its credit rating would be 
downgraded, making it more costly and harder to borrow the money 
required to fund its build programme.

Essentially, what Eskom seeks is a regulatory regime with more 
flexibility to allow for volatile primary energy and capital spending 
costs, as long as these are prudent. But what the regulator has to 
decide this month is what to do about this year. And the political 
controversy relating to the tariff application can’t have made it easier.

Few have taken much interest in the regulator’s deliberations in the 
past. But the crisis, and the political manoeuvring around it, has 
changed all that. This time, it received 370 submissions in response to 
Eskom’s application and nearly 40 of those asked to make presentations 
at the hearings.

They included a variety of special interests, from lobbyists opposed to 
nuclear power to companies claiming to have products able to solve the 
crisis. They also, crucially, included municipalities, individually and 
collectively.

However, probably the most important cluster of responses were those 
that came out of the energy summit, involving social partners in the 
National Economic Development and Labour Council (Nedlac), under whose 
auspices the summit was held.

There the partners — the government, business, labour and community — 
issued a declaration that any tariff hikes ought to be smoothed over 
five years to avoid unnecessary shocks to the economy and ensure the 
poor were protected. Nedlac hastened at the close of the summit to 
emphasise the partners recognised that it was up to Nersa to determine 
tariffs.

However, said Nedlac’s Herbert Mkhize at the conclusion of his 
presentation to the regulator last week: “The nation has spoken.”

It’s not just that the summit had a political standing that Nersa might 
find hard to ignore but more profoundly that it raised questions about 
electricity pricing policy and on what basis this should be determined, 
questions that go to the heart of Nersa’s objectives.

The “nation”, as it turned out, was not too unified on details of 
pricing policy, with union federation Cosatu’s presentation last week 
suggesting it was still not too keen on any increases at all, preferring 
Eskom’s build programme funding to come from the state.

Submissions from business talked to the macroeconomic issues involved in 
devising a price path. Drawing on research by the Human Sciences 
Research Council (HSRC), Business Unity SA argued, essentially, that a 
sudden price shock would have severe effects on inflation and economic 
growth, but wouldn’t be that effective in cutting demand in the long term.

Businesses are more likely to be able to adapt to higher power prices by 
investing in energy-efficient processes and equipment, if they can do so 
in six to 18 months.

The HSRC research also modelled the effect of various price scenarios on 
Eskom’s income statement balance sheet, concluding Eskom was asking for 
more than it needed to meet its requirements.

Assuming that the government takes over DSM programme costs and that the 
transfer of the R60bn state loan promised to Eskom is “frontloaded” to 
compensate for financial strain in the next couple of years, the HSRC 
estimates Eskom could get by if tariffs were to be doubled over four 
years, instead of the two Eskom has in mind.

Nersa will have to scrutinise the numbers to reach a decision on this 
year. Yet what the power crisis and hearings have shown up is that the 
kind of textbook approach it has adopted, where it decides Eskom’s 
revenue in advance for one or three years, is not really up to the 
challenges SA faces now.

It was the regulator that awarded all those below-inflation tariff 
increases in past years. It is Nersa now that must have the courage to 
map a way out of it — one that takes in the socioeconomic concerns 
politicians have expressed but that also ensures Eskom (and any private 
sector players that might come into the power industry) is financially 
sustainable and in a position to build the power infrastructure SA needs.

It should also ensure Eskom runs efficiently. However, it can’t use that 
to dodge tough decisions on prices. Nor can it shift responsibility on 
to the treasury or other departments, including public enterprises and 
minerals and energy, whose policy decisions are also crucial to the 
industry’s future.

What the theatre in Pretoria did highlight last week, though, is that 
the regulator is only one of Eskom’s many masters. Changes to the 
regulatory framework are needed but so too is a much more coherent 
approach to policy making in the power sector.