Foundation for Economic Freedom, Inc.

BOARD OF ADVISERS:

Gerardo Sicat

Cesar A. Virata

BOARD OF TRUSTEES:

Roberto De Ocampo Chairman Romeo Bernardo Vice-Chairman Calixto Chikiamco President Ernest Leung Treasurer Atty. Ricardo Balatbat III Corporate Secretary Anthony Abad Art Corpuz Eduardo Gana Felipe Medalla Vaughn Montes Simon Paterno Gloria Tan-Climaco Francis Varela Atty. Ricardo Balatbat III Executive Director

105 Philippine Social Science Center (PSSC) Commonwealth Ave., Diliman, Quezon City

Telefax: (632) 4532375 (Main Office) Tel No.: (632) 8939602 (Accounting)

Website: www.fef.org.ph Email: fefphilippines@gmail.com / fef@fef.org.ph

FEF STATEMENT ON THE PRESIDENT’S REQUEST FOR EMERGENCY POWER FROM CONGRESS:

Avoid Short-Term Solutions With A Long-term Cost Burden on Consumers

The Energy Secretary has raised the alarm on an impending electric power shortage in the Luzon grid in the summer of 2015, projecting a reserve deficiency of 400-500 MW in the March-May period, translating into two or three hour rotating outage during that period.

The Secretary has proposed, and the President has written a letter asking Congress to pass a ―Joint resolution authorizing the President to establish additional generating capacity.‖ The President’s letter said: ―The DoE reports and projects a critical electricity situation in the summer of 2015 arising from among others, the expected effect of El Niño phenomenon, the 2015 Malampaya Turnaround, increase and continuing outages of power plants and anticipated delays in the commissioning of committed power projects.‖

Additionally, in various pronouncements, the Secretary has proposed the additional contracting of 450 MW of solar power, and 200-300 MW of wind.

The Foundation for Economic Freedom cautions that the actions taken by government to respond to this possible short term shortage and not load the system—and the consuming public-- with expensive quick fixes that will burden us for a long time.

―Short-termism‖ and narrow view of key stakeholders led by the authorities, underlie in most part this temporary thinness of reserves and possible outages in the summer months. Such include:

1. ―not in my backyard‖ environmental groups and local government units opposition to new generation capacity, with no viable options presented and failure of government to respond with resolve;

2. politicized/poor management and resulting financial weakness of rural coops that have no capacity to contract but nonetheless avail of power;

3. under-contracting and lack of transparency of needed ancillary reserve capacity and weak enforcement by the regulator;

4. delays in rolling out of open access; and

5. government intervention in the WESM over the years that have distorted price signals, and dampened investments and restricted supply.

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More recently, there seems to be inconsistent and incoherent policies where government is proposing every expensive solution to raise electricity supply, even as its regulatory arm is seen as flip-flopping on market pricing rules that make some of the existing peaking plants uneconomical to run, which thus limits supply.

In particular, we caution against quick fixes with lasting cost consequences that some participants in the power industry, including government, have put forward:

1. Government contracting for costly emergency power way beyond the expected three (3) summer months per year over two years when thin reserves are foreseen. The supply situation in the summer of 2015 will have the added burden of having to cope with the non-availability of Malampaya gas during the critical period. But a short term problem requires a short term solution, and any government contracting should be limited just to the period where they hope to guard against blackouts. If the problem is projected to persist, then other long term solutions must be found. It is premature for government to consider acquiring ―strategic‖ generation assets when it has not even completed the privatization process and still owns, among others, the CBK plants and Malaya. The argument is made that outright purchase is not much more expensive than leasing for two to three years, because of saving demobilization costs, but government may recall how little they received when they sold assets like the Limay and Dingle plants. How strategic are plants which cost 13-15 pesos/kWh to operate?

2. Costly take-or-pay 20 year contracts for intermittent unreliable power from solar (an additional 450 MW) and wind ( an additional 300 MW) at high Feed in Tariff (FIT) Rates of P9.68 per kWh and P8.53 per kWh. These are two (2) year old rates in a segment of industry where costs change very quickly, being touted as incentives to solve the tight power supply instead of the blatant rent seeking they really are. At these rates and volumes, the incremental cost to the public by way of a higher power bill amounts to almost P5 billion annually. This will add at least another 7 centavos per kWh to the 4 centavos initially applied for to cover the cost differential.

The case on how these unreliable power sources address peak demand shortages in the system when supply depends on when the whims of sun and wind is for solar, at best tenuous, and for wind, non-existent. The RE proponents trying to take advantage of this temporary supply situation to lock in their 20-year windfalls have said wind at P8.53 is cheaper than P13/kWh diesel. What they have not said is you pay the P13 to run the diesels only when needed while you pay P8.53 whenever the wind produces electricity whether you need it or not, and there are no guarantees they will operate when you actually need them, so you will still need the diesels for those times.

These quick fixes will ultimately hurt not only the industrial sector but the household sector in particular. Instead, we fully support the following initiatives already being implemented in a partnership between government and the private sectors to address the immediate shortages:

1. Interruptible Load Program (ILP). The Interruptible Load Program was initially proposed and applied for by Visayan Electric Co. (VECO) during a period when rotating blackouts were common in the Visayas Grid. The concept is to compensate customers with self-generation facilities to run their gensets for their own use, thus reducing overall demand. This reduced demand allows the utility to allocate the limited grid supply among its other customers, averting or reducing blackouts. To their credit the ERC approved this not just for the VECO application but as a general scheme available to all utilities and it has been successfully applied in Mindanao as

well.

2. Lifting of the secondary price cap. The secondary price cap was originally proposed by the generators themselves, as a way of preventing extended periods of high prices if tight supply persists. The principle though was that the cap would be sufficient to cover the marginal costs of peaking plants so they could continue to operate within the market mechanisms. Instead the ERC instituted a cap of P6.245/kWh, which does not cover the costs of even the most efficient bunker fired plant, let alone the diesels. If we want to encourage the ILP participants to supply power to the grid beyond their own self-generation, then their costs, now set at around P14, must fall within the cap. Instead the ERC would have these market participants apply separately for cost recoveries above the cap. This process takes a long time and defeats the purpose of a functional market. A real market is self-financing, and not dependent on extraneous cost recoveries.

3. Fuller utilization of government generation assets especially Malaya. This plant was available during the price spikes in November and December 2013, when Malampaya was also under maintenance, yet was underutilized. There were no blackouts then but greater use of the plant would have reduced the price spikes and avoided many of the knee-jerk reactions that now threaten the industry. There appears doubt as to whether repairs can be completed in time. Why this was not addressed earlier again brings to question the wisdom of giving government ―strategic‖ generation assets.

4. Better scheduling of maintenance of plants. Because planned outage schedules are kept confidential, generators are not able to optimize their scheduling (as only the grid operator knows the planned outage schedules, it implies that they are not doing a good job).

5. Demand side bidding in the WESM.

6. Ancillary Services Procurement. Reserves are not only needed to balance demand and supply at every given moment through regulating reserves, but other reserves provide the first line of defense against blackouts caused by unplanned or forced outages. Unfortunately the procurement of reserves by the System Operator has been inadequate at best, and insufficient reserves only make the system more vulnerable to blackouts. In addition, the System Operator determining the level of Ancillary Services is self-serving as they are penalized or rewarded by the ERC on AS availability.

7. Energy Conservation. In the short term, it may be difficult to add to supply quickly, but demand is within every Filipino’s ability to control. The consumer controls the light switches. Reducing consumption is the alternative to increasing supply, and has the added benefit of saving the consumer money. Cutting out unnecessary use of electricity, using more energy efficient lights and appliances, shifting consumption off-peak – these all help. But economics drives behavior. Prices have to reflect the costs. When gasoline is cheap, SUVs proliferate, but fuel-efficient cars only sell well when gasoline is scarce or prices are high. Same with everything else, electricity included. We

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have to remind every Meralco customer that when Malampaya is out, even when there is sufficient supply, prices will go up because the substitute fuel used in place of natural gas is more expensive.

Addressing more fundamentally the remaining constraints that impede power supply and prevent lower prices:

1. Roadblocks: Government needs to be more active in encouraging generation and supporting private developers in every way. Case in point is the 140 plus permits that are needed to be secured in constructing and operating a power plant. The appetite is there but developers are running into road blocks with ―not in my backyard‖ advocates and unsupportive government units. (e.g. The 600 MW RP Energy project in Subic is at least two years delayed, now pending judicial resolution in the writ of Kalikasan).

2. Open Access: Continue to lower the threshold for Open Access. This will encourage more generation as they can look to end users as a competitive market, and thus by-pass distribution utilities, the monopoly segment of the industry. The power of choice, one of the key objectives of the industry restructuring, works both for the consumer as well as the supplier.

3. Guarantee Unbankable Coops: The National Electrification Administration (NEA) needs to provide guarantees with automatic features, like a bond or L/C that can be drawn to make some rural cooperatives credit worthy. This will need to go hand in hand with NEA exacting financial and management disciplines on erring co-ops and stronger political will to cut-off recalcitrants who feed off the system that they are effectively not a market participant of. Corollary to this, EC’s should also be strengthened institutionally enabling capacity building (e.g. financial, technical, good governance) programs.

4. Smarter and Firmer Regulation: The DoE and the ERC have to manage the industry and market in a way that encourages supply responses from generators, the competitive segment of the market. And be proactive in ensuring the monopoly leg, transmission under the National Grid Corporation fully contracts what the system requires. The establishment of a reserve market has long been delayed.

In requesting for ―emergency power‖ the Secretary of Energy said the more grievous sin is not to do anything. We disagree. We think the greater sin is to do something costly but ineffective, or worse, harmful. While leaving unattended fundamental long term constraints.

Release Date: October 7, 2014

Foundation for Economic Freedom, Inc.

For more information, please check our website: www.fef.org.ph , or contact the following:

Ethel Briones, Program Officer – ebbriones@fef.org.ph /+63 2 453 2375

Ranna Pintor, Program Officer – rannapintor@yahoo.com / +63 2 453 2375