PRIVATISATION OF POWER COMPANIES

Mr Ong Ah Heng asked the Minister for Trade and Industry what are the lessons we can learn from the privatised operations of power companies in California, USA, and how the same problems can be avoided in Singapore as power supply is also privatised.

BG George Yong-Boon Yeo: Mr Speaker, Sir, the California electricity market was deregulated in 1996. Electricity tariffs in California were much higher than the rest of the United States and it was hoped that deregulation would lead to lower prices.

From the outset, there were flaws in the partially deregulated market structure. Utilities had to buy all their power requirements through the state power exchange and could not buy power in forward markets or hedge prices in any way. Prices were also frozen at the 1996 levels until 2002 to allow the utility companies to recover the stranded costs of old investments. The Independent System Operator (ISO) was tasked to operate the network but was not responsible for planning and building additional transmission capacity. The bidding procedures in the power exchange were also vulnerable to gaming by the generation companies.

Post-deregulation, several developments led to the crisis in January this year. Fuel prices rose dramatically. Led by the economic boom, electricity demand in California grew strongly, but this was not dampened by higher electricity prices because those were capped and supply was not met by the planting of new generation capacity. And due to its strict environmental regulations and wide public resistance of having a power plant in their backyard, no new generation plants were built in the state for more than 10 years. In fact, some commentators described California as a "banana" state, because they had this policy of "build absolutely nothing anywhere near anybody." As a result, the generation reserve capacity in California dropped drastically from 30% to below 7%. A confluence of various factors, including bad weather, resulted in a severe mismatch of supply and demand which, in turn, led to soaring prices on the electricity wholesale market. A series of planned blackouts was therefore implemented in January this year to ration electricity.

California had expected the market prices of electricity to remain low after deregulation and thus imposed a rate freeze. However, as prices on the spot market soared, this rate soon became lower than the cost of generation. The utilities companies incurred a 10-cent loss for every kilowatt-hour (kwh) of electricity sold and were driven to the brink of bankruptcy with a total debt of US$12 billion. The State has now stepped in to prevent the situation from getting worse.

The key lessons for us from California are:

(i) The market structure and regulatory framework must be sound and robust;

(ii) The market must be allowed to work. Price adjustments are needed to enable consumers to adjust their consumption and to motivate new investments in generation capacity;

(iii) Entry to and exit from the industry should be facilitated. In California, it was very difficult to get approval for new power stations which meant that supply could not keep up with demand. The strict environmental rules have discouraged investors from building new power plants.

In Singapore, we must make sure that good economics drive the liberalisation of our energy market. In California, the problem was not economics but politics. Work on our liberalisation is progressing well and the new market will start functioning in the second half of this year. However, the deregulation of our electricity industry will not be problem-free as it is a complex exercise. For this reason, we will liberalise in stages. By the end of this year, the market for big customers will be completely liberalised but, for households, we will do a more detailed implementation study before proceeding. Our target date for households is the year 2003.

The Energy Market Authority of Singapore, to be set up in April this year - the Bill will be tabled afterwards - will be overall responsible for the security and reliability of energy supply. The wholesale market will facilitate the free trading of electricity either through the Electricity Pool or directly between buyers and sellers. Future trading of electricity is permitted. Retail competition will also be introduced in phases. Our new regime will continue to allow the market to determine electricity prices and our consumers to pay a price that reflects the true economic cost of electricity. Consumers will benefit from a wider range of electricity products and services at competitive prices.

Dr S. Vasoo: Sir, in the light of the fact that there will be changes in power supply and power companies in the context of Singapore, can I ask the Minister whether there are any measures to protect the interests of the consumers, particularly from profiteering? Because I see that there will be few power companies which will have a monopoly in future.

BG George Yong-Boon Yeo: Sir, Dr Vasoo raised a very important point of ensuring competition at the supply end. In fact, this is a major exercise for the regulators to make sure that there will be no cartel behaviour, that there will be no unethical gaming, for instance, in order to restrict supply at critical moments to jack up prices. This will be the key challenge to regulators. We have had many discussions with consultants and we are confident that the new regulatory structure will not allow such behaviour.

Mr Sin Boon Ann (Tampines): Sir, I would like to ask the Minister whether there are measures taken to ensure that there is no repeat of the phenomenon of regulatory capture by utility providing companies which has been witnessed in countries elsewhere.

BG George Yong-Boon Yeo: Sir, our structure will not allow for easy regulatory capture, because it breaks the industry up into contestable and non-contestable elements. In addition, there will be a separate system operator and, over and above that, a separate regulatory structure. The power stations will compete in generation. At the retail end, there will be competition. The grid, being a natural monopoly, will be tightly regulated. Over and above that, the system operational despatch will be done separately. And then we have regulators on top to make sure that all is well. Of course, there will be problems, but then that is what we are here for, to solve problems.