People want reliable and affordable energy, and most also want it to be renewable. Meeting these demands requires delivering new, renewable generation quickly and at lowest cost.

Renewable Energy Zones (REZ) are one way of doing this. A REZ is a cluster of generators either sharing connection assets or sharing both connection and some transmission assets.

Through the sharing of assets, REZs provide a lower cost and faster way of delivering new generation to the system – helping to accelerate the process of decarbonisation and deliver affordable and reliable power. They are needed to meet not just the generation projects that are currently committed but those that are reasonably expected in coming years.

Despite the obvious benefits of using REZs, historically they haven’t been delivered. One reason for this is the current regulations aren’t designed for building transmission infrastructure ahead of generation.

The Australian Energy Market Commission (AEMC) has been grappling with the issue of how to coordinate transmission and generation investment so that the required new generation can be delivered quickly and at lowest cost through its COGATI process.

As part of this, it published two discussion papers last week – one on coordinating investments more generally and one on REZs in particular. The papers put forward a plan for encouraging transmission investment in advance of generation by overcoming some barriers in the existing regulatory framework.

To overcome the barriers to coordination of transmission and generation the AEMC proposes to change the way wholesale electricity is priced by introducing dynamic regional pricing and improve financial risk management for generators.

These measures are a welcome attempt to address pressing issues but they will likely be insufficient to address the barriers to investment that exist under the current system.

The AEMC’s proposed model hinges on generators committing money to transmission projects early, rewarding them for doing so by delivering the transmission investment and financially guaranteeing their level of access through contractual arrangements called hedges.

This model assumes generators have the ability to commit funds early in the project. However, it’s not clear that they do. Under the current system there is nothing stopping generators from committing funds early. If generators had funds available, more REZs or similarly coordinated generator connections would likely already exist. They do not.

Even if generators could commit funds early, they may not want to. By design, a REZ should minimise congestion to an efficient level so the risk of a generator being constrained is low. Without this risk there is little value in a hedge.

PIAC has proposed an alternative model for funding REZs that the AEMC considers in its discussion paper. Core to the PIAC model is sharing the risks and costs of developing REZs between generators and consumers, rather than just consumers. It does this by splitting transmission investment into guaranteed and speculative, rather than just guaranteed.

The guaranteed portion is the amount of capacity required to meet some minimum need and is recovered by TNSPs through regulated revenue. The speculative portion covers any capacity above guaranteed, is funded by a speculative investor, and is recovered through generator access charges.

Both the guaranteed and speculative portions are determined by the regulator or some other administrative body and are based on a variety of different factors.

The process for planning, delivering and connecting a REZ is summarised in the diagram below.

Under the PIAC model, rather than ask generators to commit funding early to projects for a guarantee of access, generators are encouraged to connect early through lower access charges. In doing so they are protected from the risk of REZ underutilisation as their access charges depend on their decision to develop and connect early, not on the overall utilisation of the transmission asset.

Instead, a speculative investor bears the risk of underutilisation and the generator pays a commensurate premium. However, by receiving lower access charges for connecting early, generators are incentivised to take on some of this risk.

Regulated transmission businesses do not take on any more risk than they face under the existing regulatory framework. They are guaranteed cost recovery from consumers via the usual regulated transmission charges, and retain the design and operation responsibilities for the transmission assets that make up the REZ.

The speculative transmission investor takes on some underutilisation risk via the portion of investment costs that are not underwritten by either government or consumers and receive a commensurate return through access charges. By linking revenues to utilisation, speculative investors are encouraged to forecast utilisation accurately and support regulators to accurately determine guaranteed and speculative capacities.

Under the model, the risk that consumers will have to pay for underutilised transmission infrastructure is capped. This limits consumers’ liability under all scenarios, including the worst case where utilisation is very low.

At the same time, consumers share some risk with the transmission investor by underwriting a portion of the transmission investment through regulated revenue. Consumers still benefit because it helps to reduce uncertainty that deters transmission investment, increases competition in the wholesale market and facilitates the transition to decarbonisation.

Under the PIAC model, government can have a role in taking on some underutilisation risk by underwriting some portion of the cost. Government may do so to support infrastructure investment, broader social, economic and planning goals, or to reduce risk to consumers. Government may also wish to underwrite to earn a return if utilisation exceeds the underwritten level.

Developing a framework that fairly and effectively shares the risks and benefits of a REZ is a wicked problem. It requires rethinking how we plan, invest and pay for network assets. It’s an important problem to solve and there are solutions. But it’s essential that we do in fact solve it and deliver the decarbonisation the industry needs.

Miyuru Ediriweera is senior policy officer for Energy and Water at the Public Interest Advocacy Centre.