Electric Surrealism

Keep these two numbers in mind: 37% and 67%. The Amalgamated Transport and General Workers Union published a comprehensive analysis of the electricity market and, in particular, the reasons behind the huge increase in recent years in electricity prices, entitled ‘Through the Looking Glass’ – an apt title given the Alice-in-Wonderland polices the Government has pursued in the energy sector. Finally some light is being shed on an area that is shrouded in obscurity and cant. And the Opposition parties have been given a policy analysis on a platter. Now let’s get back to those numbers.

37% represents the increase in ESB’s total operating costs between 2001 and 2005 (the last year of reporting). 67% represents the increase in prices during that same period. Why the difference? And who is to blame? One would think, from reading media accounts and politicians statements, that the ESB is to blame for these increases and, in particular, the ESB workers. After all, didn’t the Government commission the Deloitte Report that said ESB costs and wages were way out of line with Europe? The ATGWU analysis cuts through all this lazy and misinformed commentary.

In 2000, Ireland had the third cheapest electricity prices in the EU – 20% below the European average. Since then, prices have risen at over four times the rate of other European countries and we are now above the average – coming in 7th out of the EU-25.

The ESB didn’t set these price increases (a common misunderstanding). The Commission for Energy Regulation does that. And one of the purposes of setting a high price is to entice new private companies into the market. In other words, the difference between the price of electricity (+67%) and the cost of producing it (+37%) is a subsidy to prospective new competitors.

There’s nothing wrong with subsidising private companies. The IDA and Enterprise-Ireland (to name but two) do it all the time. The problem lies in the method of delivering the subsidy. The electricity market throws up special problems. The capital investment and length of time to recoup that investment is considerable. A new company needs to have a guarantee that sizeable long-term investment will eventually turn a profit.

The Government has not used the traditional subsidy regime – tax breaks, direct grant, in-kind aid, etc. It has decided to guarantee a sufficiently high price through a state office, namely the Regulator. If prices and, therefore profits, are low – as they were in 2000, no new companies would enter the market. The Government would have failed to create ‘competition’.

So what has been the result? To create competition the State has raised electricity prices to uncompetitive levels. We have the prices but the Government is still flailing around, pumping out policies, all in the name of creating competition.

This analysis, of course, is not sexy. Far better to have a go at ESB employees – too many, over-paid, inefficient - pick your favourite adjective. Except that the ATGWU revealed another number worth remembering: 16%.

16% is the proportion the ESB spends on payroll costs out of its entire budget. It’s ludicrous that rising prices can be attributed to an input that is so relatively small. But it gets even more ludicrous. Between 2001 and 2005, the proportion of payroll costs fell from 22% to 16%. This is, ironically, the same period that Deloitte examined and which they very carefully avoided commenting on.

Now, there is no known (and legal) accountancy that can attribute rising prices to an input that is falling as a proportion of total costs. That Deloitte did so is a tribute to their determination to exonerate Government policy (one thing missed by media commentators at the time – if Government policy as pursued by the Regulator was working, why the need for a consultants’ study to find out what was going wrong).  The irony in all this is that Deloitte never even stated that 'labour costs were high' - even though the media continue to repeat this.

On the way they created the fictional ‘€150,000’ earning ESB worker. This wholly fabricated figure could only be constructed by conflating a number of things: management and workers salaries, payroll taxes, employer/employee pension contributions, expenses, etc. That many ESB employees earn over-time pay is never explained by Deloitte because it would have embarrassed the Government by showing that the Government itself has prevented the ESB from investing in new, more efficient plant which would reduce payroll and maintenance costs. Therefore, in the name of competition, the ESB is forced to operate some of the oldest plants in Europe which breakdown more frequently.

The document is worth reading in detail. Its section on VIPPs is an example of how surreal Government policy can get (VIPPs are ‘Virtual Independent Power Producers’: they, of course, don’t produce one kilowatt of power. They’re virtual and the ESB is required to sell electricity to them at below the market rate which the VIPP can sell on to industries at a profit. Who pays for this subsidy? Yes, the consumer.).

What makes the ATGWU paper even more surprising are its recommendations. In a nutshell they propose that the market, not a State regulator, should dictate the price; that all companies should be allowed to compete equally; that new companies should receive a range of subsidies – but not a guaranteed price which is paid for by consumers. This is not a position one would normally attribute to a trade union but its one that would work for everyone.

Further, they expose the problems in the renewable sector (for instance, many customers of wind-farms would be surprised to know that most of their energy doesn’t come from wind – it comes from fossil-fuels and even nuclear power). They establish a road-map of how to we can move to an economy which is more reliant on renewable energy.

The opposition parties have been given a policy gift-wrapped. For Labour, this analysis appeals to their traditional support for public enterprise. Fine Gael would certainly have no problem with a ‘let the market dictate the price’ policy. For the Greens, it goes beyond aspiration and shows how public and private enterprise can work together to create progress on renewables.

If the opposition parties wanted to have a go at Government policy in the energy sector, there is no better platform from which to launch such a campaign. In the weeks ahead it will be interesting to see if they are really serious about electricity prices.

Clearly, the Government isn’t.

Comments

[John Browne]

It's ridiculous that the ESB is sitting on piles of cash that it's not allowed spend and then being castigated in the media as the source of all our electricity pricing woes.
It just goes to show you how LAZY the national print and news media is that it doesn't dig up these facts.
The ESB employees are indeed paid well but they have to work serious overtime to earn it. It's not that they want to work the overtime it's a case of they HAVE to work the overtime. When you're faced with a situation where you need to work overtime or the powerstation goes down and you have rolling blackouts then you're going to work. For Government TDs to then stand up in the dail and make snide comments about your pay packet when you'd rather spend your weekends at home with your family rather than at work, it's no wonder the trade unions are giving out.
The government seems to be doing it's best to chase jobs and industry out of this country with artifically high energy prices just to get another power company to operate here. But according to the Government everyone knows competition is good for the consumer.
I suppose we can't exactly expect sound economic policies from a Minister who is a Career Guidance teacher by profession.

[Niall]

There are a variety of issues in the above figures which require comment.

a)It is normal to calculate the wages by including overtime, employer's prsi, pension contributions etc., to work out the average cost per employee. To put €150k into perspective, the cost of senior manager in the Civil Service, a Principal Officer or a top professional is less

Salary€100 (max of scale),
Pension cost @ 30% €30k
(pre 6th Apr 1995 recruit)

Subsequent recruits have different pension cover, but would have a similar cost.

Indeed, the average cost per employee, excluding pension, in the largest Civil Service office, the Revenue, was less than €44,000 for 2005. Taking pension costs @ 30%, comes to just €57K

b) As I have pointed out before there is something seriously wrong with the ESB when there is a similar sized electricity company, Scottish Power, which has paid far higher dividends, invested substantially in renewable energy source operating in a similar sized market with a much healthier balance sheet. The workforce, which is unionised and probably organised by the ATGWU's British parent, earn less, and there is a lot less of them!

c) There is a huge pension deficit in the ESB. No proper costing of clearing this is included. The actual size of this black hole is unclear without publishing the full actuarial review, in particular the life expectancy projections, but is at least €3,000M.

d) A return in capital must be built in. To do otherwise is fooling ourselves.

I am strongly pro public enterprise, but the ESB has not been run or managed for the public good, rather it has been out of control, run for the benefit of its own staff.

[Michael]

Thanks, John, for your comments. Your emphasis on the word LAZY is well taken. It is defeating to hear the tired refrain of 'competition' being trotted out by the media (I don't mind the Government - what does one expect?) without any investigation. Its not that the facts aren't out there. It's just one more example of the decline of investigative journalism in this country. And, on you point about a career guidance teacher, there shouldn't be a problem in principle. I mean, really, would anyone run a school like the Government is running the ESB?

Niall - I had intended to get back to you on this issue but now is as good a place as any. There are problems with comparing Scottish Power and the ESB since they operate in completely different types of markets. But before I go on about that let's do some very rough comparison (and I emphasise rough):

* Scottish Power has over 5,000,000 customers. ESB has less than half that.
* There are fewer employees in the ESB than in Scottish Power
* Total Labour costs in Scottish power are higher than in the ESB (though not much)
* When the better comparator is used - PPS - wages are in Scottish Power are similar to those in the ESB.
* Labour costs as a proportion of total costs is much lower in Scottish Power, but then they have economies of scale (their largest plant is over twice the size of ESB's largest plant).

That's just a few numbers. But the real problem in comparison is the market regimes they operate:

* Does the UK Government prevent SP from investing in new plant?
* Does the UK Government require SP to operate non-commercial pant for social purposes?
* Does the UK Government require SP to reduce its market share?
* Does the UK Government require SP to sell power to competitors at below the market price?
* Does the UK Government require SP to run back-up plant for wind-farm competitors with no compensation?
* Does the UK Government set the price for SP's product?
* Does the UK Government prevent SP from expanding its operations to foreign markets?
* Does the UK Government require SP to divest itself of assets?
* Does the SP Chairman celebrate the fact that it is losing business - in line with UK Government policy?

The answer to all those questions I strongly suspect is no. For the ESB it is emphatically yes. And these are just a few of the comparison problems.

You are right to say that the ESB is not run for the benefit of the public. But then the ESB doesn't run itself - this is done by Government policy and the Regulator.

We can go round and round on these but the point I would make is that you and I and everyone else with an interest in this matter have been short-changed by the Deloitte Report. They had the resources to investigate these distortions and comparisons with other markets but they chose not to do so. In this respect, we can't rely on the Deloitte Report to inform our debate.

I would make this final comment: in 2000 when the ESB was that 'horrible state monopoly' Ireland had the third cheapest electricity prices in Europe. Cheaper than even the privatised utilities in the UK. Why? And why has it changed?

The jury is still out.

[Donagh]

Hi Michael, excellent article. I started to write a comment but it got too long. I turned it into a post instead: http://dublinopinion.com/2007/03/16/the-wholesale-hiking-of-the-electric-price/

[Lorenzo]

["..in 2000 when the ESB was that 'horrible state monopoly' Ireland had the third cheapest electricity prices in Europe. Cheaper than even the privatised utilities in the UK. Why?"]
1) The fuel mix (mostly oil and gas)we used then was cheaper than the mix our competitors were using (coal).
2) Prices were possibly artificially low due to successive governments refusing requested price rises, which is not sustainable in the long run.

["And why has it changed?"]
1) The fuel mix we use got a *lot* more expensive over the period in question, with oil and gas more than doubling in price. (the 37%)
2) The growth of the economy meant greater than expected demand for electricity requiring the usage of the less efficient power stations.
3) The rise in demand for electricity required increased investment in the network, investment which is recouped by higher prices, as is standard in regulated utilities.

It is entirely possible that the allowed increase was more than required to meet the increased costs I mention. But the ESB weren't compelled by the regulator to raise their prices, just allowed to.

I'd agree that the rise in electricity prices was not attributable to rises in labour costs. This is not to say, however, that the labour cost are necessarily 'reasonable', they could have been excessive in 2000 and remained excessive in 2005. That the proportion of costs attributable to labour has decreased is because the other costs (i.e. fuel) have increased. It is not in itself evidence of greater worker productivity.

The recent over the top union reaction to the prospect of seperating distribution from generation would seem to indicate that they are scared stiff of real competition. If the ESB is the efficient, slick operation they claim it is, what is there to be afraid of some competition?

[Michael]

Thanks, Lorenzo, for your comments. Yes, ESB prices were probably lower than they should have been in 2000 owing to Government's refusal to sanction price increases. That's one of the problems - the ESB has never been allowed to operate as a free commercial organisation. They've been forced to set-up uneconomic plants, sell to competitors at below-market prices, what have you.

Just a point of information: yes, the ESB has to charge the rate the Regulator sets. No one else does and there's the catch. The ESB price is set high enough to allow competitors to sell below that price and still make a profit. That's one of the reasons prices have risen faster than costs.

We could go round and round about labour costs, but wasn't that the point of Deloitte - to settle it? They didn't. They didn't even investigate it. The public have a right to the information and Deloitte failed.

As to the unions and competition - I strongly recommend that you read the ATGWU paper I linked to. What it wants is more competition. They say it on every second page. The ones who are preventing competition are the Government by their just plain wierd experiments in the market. Indeed, and I'm sure you would agree Lorenzo (unless you favour Government appointees setting the price that companies can sell their goods and services for) with the ATGWU position - let the market dictate the price and let all companies compete on a level playing pitch. Scared of competition? They are demanding it.

As to the transfer of assets - that whole issue is a smokescreen and will have no effect whatsoever on competition. There's another agenda at work there. For the last two years, Eirgrid has fully controlled the grid. Even if assets were transferred, Eirgrid would still fully control the grid. What's the difference? How will this affect competition? No one has yet made a case. THe idea that the State transfer assets from one state body to the next and, hey presto, competition breaks out is a rather untenable.

The Energy Regulator said the transfer of assets would have no affect on prices. The Consumer Association of Ireland has said that it could actually increase prices - a position I agree with. Eirgrid will have to either recruit specialist personnel to maintain the grid (the ESB does that now) or they will have to contract the ESB workers. It has all the makings of a buearacratic pile-up. In addition, the cost of ESB's borrowing may go up because the transfer of assets will hurt their credit rating.

But I'll give the last word to the head of Eirgrid, the chief beneficiary of the move, who stated on Newstalk that consumers would save up to €1 million in the best case scenario. Wow. €1 million. Best case scenario. Given that there are are nearly 2 million electricity consumers that comes out to about 50 cents a year per consumer. The Government produces a White Paper to tackle energy prices and the best case scenario works out at about 1 cent per week.

And this isn't a campaign issue?

[Lorenzo]

Fair point on the ESB having to use the regulator price.

I did read the ATGWU paper (struggled through it would be a better description, I watched Brendan Ogle's head floating in white space for a good two minutes while it loaded up. Who designed that thing? Please don't let them do it again). I did note their call to allow competition. I am dubious about their positively Pauline conversion to the merits of competition. Particularly in the light of their recent actions with regard to the proposed transfer of assets. I'll explain why.

There isn't a whole lot of competition that can be introduced on the distribution side - it is a natural monopoly, more so even than the telephone network. On the generation side, however, competition is entirely possible. The problem is that the network side acts as the gatekeeper to the generation suppliers. If a prospective generator sees that the organisation they will be competing with is the same organisation that decides whether and how to allow their connection to the distribution netwoek, it is not difficult to see why there isn't a queue of potential suppliers lining up, despite the lure of the higher prices.

Eircom have been using their ownership of the telephone network to frustrate and delay other suppliers in countless ways for the past five years, despite being regulated. Without a clear split between the distribution and generation sides of the ESB, Eirgrid could (and Airtricity have claimed they already do) do the same.

Any group calling for competition while furiously blocking the one action that will allow it, shows how much they really wnat competition. Threatening blackouts while proclaiming they are protecting the consumer smacks of the Vietnam war tactics of burning the village to save it.

Lastly, a few points on the VIPPs getting a 'discount'. Most wholesale buyers of large quantities of a product or service get discounts, this is hardly unusual and 10% hardly large. VIPPs do not 'cherry pick' only business customers, as the paper claims, they are forbidden from selling to residential customers. And what company is one of the biggest VIPPs? Why it's the ESBIE - ESB Independent Energy.