Why Aucklanders should pay more for their electricity

Brian Fallow wrote an interesting piece in the New Zealand Herald a couple of weeks back, about the draft changes in the way the costs of the national electricity grid are allocated. Fallow wrote:

Unwinding a cross-subsidy is never popular among those who have been on the bludger's end of one.

But Aucklanders grumpy about the prospect of having to pay about $1 a week more per household for their power need to get over it.

The draft changes to the way the costs of the national grid are allocated, which the Electricity Authority released this week, are intended to make the system fairer and more efficient, by getting a better alignment between those who benefit from upgrades to the grid and those who pay for them.

Transpower has spent billions in recent years on the grid, mainly to serve Auckland's growing population.

Under the draft changes, Aucklanders face the prospect of paying an additional $58 per year per household for their electricity. Households in other parts of the country (especially in the South Island) will face lower electricity charges.

How can this be? Electricity is not transmitted from where it is generated to where it is used without cost. The further the electricity needs to be transmitted, the higher the costs of transmission. So, it is only natural that the customers who impose a higher cost on the supplier face higher prices. To be clear, the total cost of electricity transmission will not have changed - only the way those costs are distributed among consumers of electricity will change. The previous (current) system, which did not take proper account of the differences in transmission costs, was essentially subsidising Auckland electricity users (who did not face the full cost of their electricity use) at the expense of South Island electricity users (who paid too much for their electricity, relative to its cost). I can't see any argument for why such a cross-subsidy would be worthwhile or necessary.

As an aside, usually when different consumers face different prices for the same product, we consider this to be price discrimination. However in this case, this is not an example of price discrimination because the price differences are related to underlying cost differences. It is simply a case of the lines companies (and electricity generators/retailers) using their market power to pass additional costs (in the case of Auckland, or lower costs in the case of the South Island) onto consumers.

As a result, this change in the distribution of costs should (at the margin) encourage more modest electricity use in the north, and more electricity use in the south (perhaps as a winter heating source, reducing the smog problems in Christchurch and Timaru).