The wholesale demand response mechanism is a breakthrough for all consumers, writes AEMC acting executive general manager of retail and wholesale markets Michael Bradley. If the NEM could speak, it too would offer a sigh of gratitude.

There’s plenty of change afoot in the national electricity market. New consumer choices and innovating technologies are driving deep conceptual changes that recognise the fundamental shifts taking place in the way people are engaging with power.

We reached a major milestone on this path of change in June when the AEMC gave the final go-ahead for a wholesale demand response mechanism. This is a decision that for the first time puts supply and demand on an equal footing when it comes to energy dispatch in the wholesale spot market. Essentially, it recognises the new capabilities of energy consumers and signals an end to the era of passive consumption.

From October next year, large energy consumers will be able to bid their demand into the market in the same way a generator bids in supply. Because there will be a market value attached to curbing demand, energy users will have incentives to change their demand profile in the short-term in response to market price signals.

While we already have demand response provisions for large users, they’re a defence provision for the system only. Big customers can participate in the Reliability and Emergency Reserve Trader (RERT), contracting with the Australian Energy Market Operator to use less energy – but only in emergency conditions when the system is challenged.

What this mechanism does is visibly embed demand response into daily wholesale market trading – and that’s a new thing for the NEM.

Short-term wins

There are several benefits but the immediate three are:

Prices: At times of peak demand and associated high prices, it can be cheaper to release the pressure valve by removing some demand than it is to generate ever more energy. This has the natural consequence of putting downward pressure on wholesale energy prices and lowering energy emissions.

Security and reliability: When the energy supply and demand balance is tight, having a fast response mechanism available means more options to protect the grid. That’s why we are pressing ahead.

Efficiency: If big consumers adapt their usage to times when electricity prices are low, we smooth out the demands on the system to use the infrastructure we have more efficiently. In the long run, a greater level of demand-side participation will improve the efficiency of the dispatch process by delivering the lowest combination of resources to achieve the supply-demand balance.

So, how will it work?

The mechanism creates a new type of market participant – a demand response service provider (DRSP). Large consumers can register as a DRSP themselves or contract their capabilities with a third-party DRSP. This expands the options for participating in wholesale demand response.

For the mechanism to work, a baseline quantity of energy that customers would otherwise have been expected to use will have to be centrally determined. The baseline will be used to calculate and pay the value of the demand response. This process is inherently imprecise, and a balance needs to be struck: set the baseline too high and consumers pay more than they need to, set it too low and there’s not enough incentive to encourage demand response in the market.

Our new rules on wholesale demand response set out a process for determining and applying these baselines for each customer. They also place similar obligations on these new demand response service providers to large-scale generators, such as scheduling obligations or providing information.

Why we need a stepped approach

In an ideal world, we’d bring small consumers into the wholesale demand response mechanism today. Certainly, that’s what some stakeholders would have us do and we’ve heard them loud and clear. But there are three good reasons why taking that path is not the best way forward right now.

First, it would push up energy bills. Creating this demand response mechanism means developing significant systems and processes to routinely schedule demand response in the market. These systems and processes would be significantly more complex and expensive if small consumers were added to the mix. For example, baseline usage would have to be established for consumers whose energy requirements are much less predictable – making the process of putting a value on the demand response much less certain. By focusing on large users to begin with, introducing the mechanism will cost AEMO $13 million to $17 million – instead of the $45 million to $90 million it would cost to build a more complex system.

Second, it would take longer to roll out. We have been able to bring forward the timetable on demand response by nine months. This gives us a new tool for security and reliability ahead of the 2021-22 summer. We don’t want to get in the way of anything that will help keep the system secure and reliable in extreme summer weather. During the covid-19 pandemic, we’ve tried to strike a balance between easing regulatory pressure on businesses and pressing ahead with reform, so we did consider requests to delay this major change. But given the imperative, and the fact that AEMO is ready to move ahead, we’re staying the course on this one.

Finally, we’d miss an opportunity to use new knowledge. In rolling out this new mechanism we’re going to learn a lot about this new way of dispatching electricity. These learnings will be incredibly valuable to the way we think about a two-sided market. And the work on a two-sided market has already begun – we’re leading this project as part of the Energy Security Board’s 2025 market reforms. There are natural synergies between the two.

So, given the AEMC mandate is to protect consumer energy interests, we’re taking a sensible, stepped approach to get to where we all want to be. It’s an approach that recognises small and large consumers use energy very differently, and it’s a sustainable way to support reform. Having said that, we do recognise this mechanism has a limited life and elements of the mechanism – like centrally determined baselines – won’t be needed when a fully functioning two-sided market is in place. But until then, it is valuable and needed.

Small consumer options

For small consumers who want to participate in demand response right now and make the most of new technologies, there is plenty of opportunity already underway while a formal market mechanism is being designed. There are numerous demand response trials being run by state and territory governments, there are virtual power plant trials, and there are a range of retail products and incentive programs designed to reward smart energy consumption. You can find a comprehensive list of programs underway in our final report, but  examples include Powerclub, a new entrant retailer that allows residential customers to deposit funds as a buffer to smooth out fluctuations in the wholesale price, and Pooled Energy, which offers pool automation systems that optimise a customer’s pool pump in response to wholesale prices.

This reform came about as a result of three separate rule change requests from a number of stakeholders in government, consumer advocacy and industry: the South Australian Government, Public Interest Advocacy Centre, Total Environment Centre, The Australia Institute, and Australian Energy Council. It involved a detailed process of engaging with stakeholders over two years. There were stakeholder workshops, technical working group meetings, and several rounds of submissions. The discussions were complex, robust – and entirely necessary. The result is a paradigm shift in the NEM that will benefit all of us.

Michael Bradley is acting executive general manager of retail and wholesale markets at the Australian Energy Market Commission.