No pain, no gain
Few issues facing policymakers at the moment are more complex than the future of our electricity market. One of the biggest challenges is devising incentives to ensure a reliable, affordable, but much cleaner, power supply.
Hong Kong has two power companies, each with its own distribution network covering separate areas. Legally, anyone may enter the market, but entry barriers are high, so we effectively have a duopoly.
Under 15-year scheme-of-control arrangements (SCAs) signed with the government, the power companies can make returns of 13.5 per cent to 15 per cent on their fixed assets, but they must guarantee highly reliable supplies. Critics argue that this gives them an incentive to invest more than they need in equipment to enable them to make higher returns.
What will happen after the SCAs expire in 2008? Many commentators call for competition, but this is unlikely in the short term. The two existing companies would need incentives to open up their distribution networks to newcomers. And where would the new suppliers come from? Probably the mainland - but they still have a shortage of supply there, and a relatively poor record of reliability.
The government is leaning on the power companies to accept a new, less generous, SCA. To put it very simply, the power companies would be allowed a 7 to 11 per cent rate of return for 10 years, with an interim review after five years. Some politicians are calling for a flat 7 per cent return.
The power companies argue that it can take 10 years before some expensive assets start to yield a return, and they say they have to sign agreements of 20 years or more when sourcing raw materials like natural gas. They remind us that reliability of supply requires adequate investment in capacity.
They also stress that our residential electricity tariffs are not especially high. The government's own figures show them to be about average, and cheaper than major markets in Japan, Britain and the United States.
Responses to the government's first round of consultations on this subject showed that most people felt electricity prices were reasonable. In fact, I can prove that electricity is cheap in Hong Kong simply by walking into an office building during summer and having to put on a jacket because the air-conditioning is turned up so high. If electricity was expensive, we wouldn't waste it the way we do.
That brings us to a major complication in this whole area of reform: emissions control. Power stations create half of our air pollution. The government's proposals include measures to reduce these emissions, but the power companies are claiming that they do not offer the right sort of incentives and will push up costs to consumers.
To me, this is the real conflict we face. Most people are not especially worried about power companies' exact rate of return or the duration of the new SCA. They are even less concerned about longer-term plans to link our grid to the mainland's and open up our electricity market. They want some specific outcomes. They want reliable and affordable electricity, but they also want cleaner air. The power companies, meanwhile, want the best returns.
Is it possible to find a way for all parties to achieve their desired outcomes? It might be, as long as they are willing to accept conditions they might not like.
Consider this. Investment in cleaner power will be expensive, and will ultimately be paid for by the consumer. But higher prices will give consumers a major incentive to use electricity more efficiently, and the prospect of higher permitted returns for investing in 'greener' equipment (as stated in the government consultation paper) could give power companies incentives to reduce emissions.
Politically popular ends can require politically unpopular incentives.
Bernard Chan is a member of the Executive Council and a legislator representing the insurance functional constituency