National Energy Market: What is it? How Does the NEM Work?
The Reference Price: The Default Market Offer and The Victorian Default Offer
A guide to the reference price in the National Electricity Market in Australia. Information about the Default Market Offer (VDO) and the Victorian Default Offer (VDO) as well as how the reference price is different from the Standing Offer and how to compare plans using the reference price
The National Electricity Market (NEM) is the Australian cross-state energy grid, which brings wholesale electricity to the states of Queensland, New South Wales, the Australian Capital Territory, Victoria, Tasmania, and South Australia. This guide will outline the NEM and its key components, including governing bodies, major actors, and processes.
- National Energy Market Glossary of Terms
- Generator: Where electricity is made and supplied to the NEM
- Retailer: Private and state-controlled companies that purchase energy from the NEM and then resell it to consumers
- Consumers: Individuals and businesses who use electricity in their daily lives. Consumers purchase energy from retailers.
- Transmission Network Service Providers (TNSPs): The operators of the electricity transmission networks, which allows the flow of electricity between states
- Transmission Lines: The big power lines that carry electricity over long distances
- Distribution Network Service Providers (DNSPs): Companies who own the poles and wires, and deliver electricity to consumers - Also known as distributors
- Distribution lines: The power lines that carry electricity into homes and businesses
What is the NEM?
First beginning in 1998, the National Electricity Market is the complex network of physical and financial institutions that make up the electricity generation and distribution in Australia, which is regulated by the Australian government and eventually sold to consumers by private and state-managed retailers.
The NEM is the aggregation of all the aspects of the electricity market, from generation to consumption, within the south and east of Australia. This includes Queensland, New South Wales, the Australian Capital Territory, Victoria, Tasmania, and South Australia, with certain aspects of the NEM having been adopted by the Northern Territory and Western Australia.
The NEM operates one of the longest power systems in the world, stretching an end-to-end distance of more than 5,000km and 40,000km of high voltage transmission lines.
Electricity in the NEM is regulated by several governing bodies and systems, in order to facilitate the exchange of electricity between generators and retailers, who then resell the electricity to consumers.
How the NEM works
The NEM is a complex system of physical and financial institutions. There are many different processes, actors, and governing bodies that work to get electricity from creation to consumption.
Electricity from generator to consumer
Electricity is difficult to store, so all electricity transactions within the NEM happen instantaneously. The NEM responds to consumer demand, and generators submit offers of how much electricity they will produce and at what cost. The Australian Energy Market Operator (AEMO) then chooses which generators will produce the electricity needed.
Generators produce electricity through gas, coal, solar, wind, and hydro means. This electricity is then converted from low voltage to high voltage for speedier and more efficient transportation across long distances. Transmission lines (the big power lines), owned by transmission network service providers, carry the electricity across and between states.
When the electricity reaches where it needs to go, a distribution transformer converts the energy back from high voltage to low voltage for distribution and consumption. Distributors then send electricity into homes and businesses.
Consumers of electricity don’t pay distributors for their electricity consumption, however. Retailers buy energy from the NEM, and then resell it to consumers at their set price.
Actors of the National Electricity Market
The National Electricity Market has many different actors that aid in the creation, movement, and sale of electricity, both state-owned and private.
Australia has many generators within each state that contribute to electricity creation within the NEM. When the NEM requires electricity to meet consumer demand, it’s the generators that respond with offers of how much electricity they will make.
The largest of these generators within the NEM is Eraring Power Station in New South Wales, which operates as a brown coal generator. The largest renewable generator, Hydro Tasmania, operates thirty hydro-electric stations, one gas-powered station, and three wind farms.
Four companies in Australia are known as “gentailers”, a portmanteau combining the words “generator” and “retailer”. These companies not only have a retail branch but a generator branch as well. EnergyAustralia, AGL, Origin Energy, and Snowy Hydro (Lumo and Red Energy retail names) are all gentailers in Australia.
In addition to large scale generators, residential solar power is a small, but key, actor within the NEM thanks to Australia’s abundant sunshine and the dropping price of solar systems. As of December 2018, over 2 million households have solar power energy to some degree.
Transmission Network Service Providers
Transmission Network Service Providers and interconnectors facilitate the movement of electricity across and between states. TNSPs help transport the electricity at high speeds, while interconnectors link borders of different states. Australia has five TNSPs, the longest of which is TransGrid in New South Wales and the ACT which covers 13,957 km, as well as six cross-border interconnectors.
Distribution Network Service Providers are the ones who physically get electricity into residential and business buildings, through lines and wires. Distributors are also the ones to call when your electricity or gas is out, or for any other minor emergencies and faults in your energy.
Major energy retailers
Energy retailers are where customers buy energy to use. Retailers purchase energy from the NEM which is then resold to residential homes and businesses. Australia has over 33 electricity retailers within the NEM, divided into three categories; the Big Three gentailers (AGL, EnergyAustralia, and Origin Energy), Tier 2, and smaller stand-alone retailers.
Over the last year, companies have seen a switch as consumers move away from bigger retailers to smaller ones, which have been shown to provide more innovation in their electricity sales.
Two of Australia’s newest electricity retailers, Energy Locals and DC Power Co, both focus on renewable energy and community engagement and outreach. While they may not be able to compete at a cost-level similar to the Big Three, they offer environmentally savvy consumers the chance to put their money back into renewable energy sources and environmental programs.
Regulation of the NEM
The NEM consists of three key institutions to assist in the governing and management of the electricity market in Australia and has several more important facets to ensure the NEM runs smoothly in all participating jurisdictions.
Australian Energy Market Commission (AEMC)
The Australian Energy Market Commission (AEMC) makes the rules regarding the NEM in all jurisdictions. The AEMC consists of commissioners appointed by each participating state and territory as well as one commissioner appointed nationally.
The AEMC gets its powers from the National Electricity Law, the National Gas Law, and The National Energy Retail Law, under which it makes and amends the National Electricity Rules, National Gas Rules, and National Energy Retail Rules.
In addition to making rules, it also advises on energy policy with lawmakers in Australia.
Australian Energy Regulator (AER)
The Australian Energy Regulator (AER) enforces the rules set out by the Australian Energy Market Commission, as well as wholesale economic regulation, for both gas and electricity in Australia. It regulates revenues received by transmission network service providers, as well as distribution network service providers, and ensures compliance is met.
When compliance with the electricity and gas laws are not met, they conduct investigations and enforcement proceedings.
Australian Energy Market Operator (AEMO)
The Australian Energy Market Operator (AEMO) is made up of six different entities within the gas and electricity market:
- National Electricity Market Management Company (NEMMCO)
- Victorian Energy Networks Corporation (VENCorp)
- Electricity Supply Industry Planning Council (ESIPC)
- Retail Energy Market Company (REMCO)
- Gas Market Company (GMC)
- Gas Retail Market Operator
The AEMO oversees the retail market, as well as managing the NEM and Victorian Energy Network Corporation (VENCorp), and overseeing retail contestability.
How pricing works in the NEM
Pricing within the NEM has many components. At a generator level, when demand for electricity in the NEM increases, the NEM raises how much it will pay for generators to make more energy (known as the Spot price). This could include more expensive generators being turned on, or generators increasing their electricity output which costs more. The spot price is measured once every five minutes, and the average of that is taken every half hour. This is not, however, the price consumers pay for electricity.
Retailers are able to provide more stability in pricing than the Spot market allows, by entering into contracts with generators. These contracts often last a year or more, and during that time electricity provided by generators to retailers remains stable. This then gets passed onto consumers, who generally won’t see a price change in their cost/kWh for at least a year.
The NEM also assists consumers by offering the Default Market Offer (DMO), which is a reference price energy retailers must base their own prices off of. Generally speaking, the DMO is considered the cap price for electricity, and electricity providers must disclose how much more or less their offer is when compared to the DMO.
The DMO is also the default in which all customers on standing retailer offers were switched to, in order to protect consumers from hiking electricity costs.