Infrastructure Regulation and Market Reform in Australia and the UK

Introduction

Good morning everyone and thank you for that warm introduction. It's a great pleasure to be here at the ABIIC Conference.

Firstly, I would like to thank Paul, David, Andy and Abby for bringing this catalyst together and the opportunity to provide some remarks early in the agenda—remarks that I hope will provide some food for thought and context for the proceeding days.

I will focus my address principally on Infrastructure Regulation and Market Reform.

For those not familiar with what we do, Infrastructure Australia is a federal statutory body, established to provide independent research and advice on the projects and the reforms Australia needs to fill today's infrastructure gaps and meet the challenges of the future.

Our role is to support greater certainty in infrastructure investment by helping Australian governments make informed, evidence-based decisions to invest in projects that will best meet our future infrastructure needs.

We do this through our Infrastructure Priority List. The List is the point of reference for the nationally-significant infrastructure investments Australia needs over the next 15 years.

It is developed in consultation and collaboration with all three tiers of Government and is evidence-based, and regularly supplemented through audits.

I'm pleased to say that Australia and the UKs infrastructure sectors are rightly regarded as among the best in the world.

Both of our countries have benefited from a legacy of sensible reforms to the selection, procurement and regulation of infrastructure assets, and the creation of sophisticated and mature infrastructure markets.

In the 2016 Global Infrastructure Investment Index—an index which ranks countries by their attractiveness to investors in infrastructure—the UK and Australia ranked 9th and 11th respectively.

Reflecting that, Australia's cities frequently rank among the most liveable in the world, with Melbourne retaining number one slot.

Australia has the most advanced productive water market in the world. The UK has one of the most advanced transport sectors in the world.

Australia has also taken significant strides in developing the Private Public Partnership (PPP) or Private Finance Initiative (PFI) model—first invented in the UK—and made it work particularly well in the delivery of world class social infrastructure.

And it is because of its legacy of reform that the UK remains one of the global centres for international commerce and business.

These successes should be applauded, but we also can't afford to rest on our laurels. Reform must be an ongoing priority of both countries if we are to seize the opportunities before us and meet our challenges head on.

Here in the UK the exit from the European Union creates an environment for the ongoing reform of markets and the establishment of new global trade agreements.

By contrast, Australia's sustained period of growth and stability has the potential to make us complacent.

But, we cannot afford to be.

Australia has the opportunity to enrich its fortunes off the back of a booming urbanised middle class in Asia, and a rapidly growing urban population at home.

Projections by the OECD suggest that Asia's share of the global middle class will grow from around 35% in 2015 to 80% by 2050.

Australia's geographical proximity to China and Southeast Asia, combined with our reputation for high quality exports puts us in an unrivalled position.

But without the right infrastructure and market structures in place we risk missing out on this once-in-a generation opportunity.

While we must work to grasp these opportunities overseas, we must also tackle some challenges at home.

Australia's growing and ageing population and weak productivity growth present our nation with some complex decisions.

A decline in the construction of mineral and resource related infrastructure needs to be replaced by civil and social infrastructure to support our growing population.

At the same time the pace of technological change is disrupting our energy, telecommunication, water and transportation sectors while unlocking new ways of delivering customer services.

In this time of change and great opportunity, our continued prosperity will depend in large part on a total rethink of our approaches to infrastructure selection, procurement and regulation.

Up to this point in Australia, the focus has largely been on building capacity.

Going forward, it will be much more about market reform and a more holistic planning approach—something the UK has embraced and driven in the past.

To help us do this, we can draw on a wealth of international experience— particularly from the UK.

That's why this morning I would like to provide a review of the four economic Infrastructure sectors and where Australia and the UK could best learn from each other.

Let me first turn to our respective energy markets.

Energy

Both Australia and the UK have world leading energy markets and sophisticated regulatory structures that have served each country well in the last century, but technological disruptions mean we will have to update our market rules, systems and energy market policies to continue to service the expectations and needs of consumers.

In Australia, the issues presented by the shift to intermittent renewable generation need to be addressed to ensure our National Electricity Market delivers affordable, sustainable and secure electricity in the long run.

High prices and the closure of coal power stations would normally drive new investment in energy generation. Yet, as Australia's Chief Scientist, Alan Finkel has made clear in his recent review, flat demand, new intermittent renewable generation, and a lack of clarity on policy to decarbonise the economy have made it harder for the market to operate effectively.

Tight generation supply and high electricity prices for consumers have led government's at both the federal and state level to intervene in the National Electricity Market.

But direct intervention may undermine price signals in the National Electricity Market and deter private sector investment.

Governments should not be in the business of picking winners, but instead be concerned with getting the market settings right to deliver the best possible outcomes for consumers.

History tells us time and again that reliable and forward thinking policy settings are critical to providing businesses with the confidence and incentives to innovate and invest efficiently.

Indeed, there is no reason to believe that a market based solution will not emerge under more certain policy conditions.

The challenge ahead for Australia then is first establishing policy certainty and stability to ensure we have orderly private investment in new generation and storage capacity to adequately meet future demand.

We also need to be prepared to redesign our market rules. The rapid rise of wind and solar generation has increased price volatility in the National Electricity Market, which has changed the game for traditional baseload generators—increasing the risks of them not being able to recover their fixed costs.

Allowing more long-term contracting within existing market structures may help to encourage investment in new generation. But, we also need to have the option to introduce payments for capacity.

The UK's experience implementing a capacity market in 2014—introduced as part of wider reforms to maintain reliability while decarbonising its economy—may be of some help to Australia as it deals with its own technology transition.

That experience demonstrates that it's possible to transition our energy market in a way that benefits consumers, retailers and generators.

There are also some lessons to learn from the UK's investment in off shore wind generation and the ongoing investment nuclear energy.

Telecommunications

In the telecommunication sector, Australia and the United Kingdom have both had a mixed history of success and failure.

The market for 4G technology is one such example. The United Kingdom had a number of difficulties with the initial roll out of 4G mobile technology, with drastically varied coverage across the UK.

By contrast, Australia's 4G network coverage in metropolitan and regional Australia was initially more extensive.

The issue for the UK was that the auction of the 4G spectrum led to a very high bid price, which left little capital for the initial rollout of supporting network infrastructure.

This has since been improved with more masts now available across the major providers.

While Australia's mobile network provides effective metropolitan and regional coverage, the quality of fixed-line telecommunications service across Australia is mixed—particularly with data.

Australia generally has relatively good internet services in cities, but lower quality services in rural and some outer urban suburbs. Indeed, the Infrastructure Australia national Audit released in 2015 found that around 80 per cent of premises located outside our cities receive the lowest quality fixed broadband rating.

One of the reasons this is the case is due to the fact that our national provider was sold as a vertically integrated (backbone infrastructure and retail) monopoly. This meant that there were limited incentives to provide good internet services to customers across the country.

This experience reminds us that the sale of monopoly infrastructure must be carefully considered and managed to ensure we always prioritise the interests of the customer over maximising the revenue generated from the sale of a monopoly asset (whether vertically integrated or separated).

To help address our comparatively poor broadband coverage, the Australian Government is currently delivering a National Broadband Network which involves the rollout of a fibre optic network and supporting fixed wireless and satellite services across Australia.

This Network, if delivered well, should materially improve service levels and the ability of households in rural and remote regions to connect to their wider social networks.

Transportation

In the transportation sector, Australia has a great deal to learn from the competition reform of the United Kingdom's rail sector in the 1990s and 2000s onwards.

Infrastructure Australia released a recent paper recommending that all public transport operators in Australia should be routinely exposed to a competitive process through franchising.

The paper used case studies from the United Kingdom's experiences over three separate periods of franchising to show that this reform process involves a number of complexities and risks.

In particular, lessons should be drawn from the financial difficulties of the franchisees, the UK government's expenditure problems under the cap and collar guarantees and the overly optimistic projections about cost savings in some of the agreed bids.

Nevertheless, our paper concluded that when done correctly, franchising can significantly improve services and provide substantial operating efficiencies.

Indeed, the experience of the United Kingdom shows there are key principles that Australian governments should consider when franchising. This includes the following:

  1. Design a contract with appropriate incentives: Good contract design is essential to the success of a franchise. The contract should incentivise the goals and priorities of the government and public transport customers.
  2. Allocate risk to those best able to manage it: A balanced allocation of risk between operators and government will ensure financial stability and the retention of performance incentives.
  3. Periodically refranchise and choose an appropriate contract length: Periodic re-franchising is required to ensure that competitive pressures are maintained. The appropriate length of a franchise term should depend on the local context and the type of service being franchised.
  4. Ensure the assessing and management agency is appropriately informed and skilled: The assessing agency should have the necessary information, expertise and time at its disposal to ensure it can judge the operators' financial robustness, track record, skill base and the plausibility of its bid
  5. Ensure selection criteria are transparent: The process for selection, its criteria and weighting should be made as transparent as possible. This is to ensure consistent advice is provided to bidders and to avoid perceptions of favouritism.

A much broader challenge for Australia in the transportation sector is creating effective markets across road and rail, freight and passenger networks.

While competition and private investment in transport has grown substantially since the turn of the century, the test for governments is to establish whole-of-network pricing and regulatory systems that will deliver greater opportunities for investment, while supporting improvements in network efficiency and service quality for users.

In particular, we need to move to a more sustainable model of charging for road use. We have seen significant progress with the Federal Government adopting Infrastructure Australia's recommendation to conduct an independent inquiry into the potential benefits of a user-pays approach to paying for our roads where the revenue raised from road users is put back into funding transport infrastructure.

We recommended that the inquiry should explore:

  • Flaws in the existing charging framework—including fairness, financial sustainability and economic efficiency;
  • The optimal approach for road user charging and transport infrastructure funding in Australia;
  • The social implications of charging reform, including transitional and distributional impacts of replacing current taxation with direct user charges; and
  • A detailed reform pathway for transition to a full user pays model for roads.

In Australia paying for toll roads is already an accepted practice for motorists in Sydney, Melbourne and Brisbane.

It's not difficult then to imagine a future where we have a mass, location, time and distance based charging mechanism in operation throughout Australia.

Water

Finally, I would like to turn to the urban water sector.

In England and Wales, steps taken to privatise water utilities and introduce policy and regulatory changes to regulate customer prices, environmental resources and drinking water quality have led to a number of positive outcomes that Australia can learn from.

While this reform process has not been without difficulties, non-compliance with environmental standards decreased by over half in the decade after privatisation and operational performance has improved.

And it's great to have Cathryn here today and I look forward to hearing from her on the panel.

It's important to acknowledge that while customers have benefited from increased water quality and services, water prices have increased by 40 per cent in real terms since privatisation.

However, this is largely driven by significant investments and capital charges from programs implemented to meet water quality standards, provide for increasing demand, meter installations and service improvements.

In Australia, the urban water sector has served Australians well over many decades. But if we want to continue to have safe, reliable and affordable water services in the future, reform is needed now.

Without action, urban water users are likely to see rising water bills, a decline in water quality and availability, or both.

Urban water should move from a sector where governments must balance roles as owner, regulator and policy-maker to a more sophisticated, well-regulated market-based sector with stronger links between supply and demand and clear signals for efficient investment.

This means re-shaping urban water markets, as well as the range of institutions, regulatory frameworks and decision-making processes which govern them, to be more efficient, resilient and accountable.

Conclusion

Across the energy, telecommunication, transportation and water sectors there is still a great deal of work to be done to meet Australia's future needs.

That's why Infrastructure Australia is advising Australian governments to embark on a landmark national reform agenda to improve the delivery, operation and regulation of these infrastructure networks.

Working towards delivering our infrastructure services through well-structured, well-regulated markets must be a key reform priority for both countries.

With strong, reliable regulatory structures both Australia and the United Kingdom can provide assurance to investors that their assets are insulated from economic and political forces that characterise many other markets around the world.

But without committed action to challenge our traditional approaches and take up the opportunities ahead we cannot hope to meet our future needs. So I ask all of you in this room to add your voices to the call for reform, and look forward to the discussions this week.

Thank you.