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Electricity and Mining

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Electricity and Mining

8th December 2017

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Ernest Hemingway might have been writing about Eskom’s decline when he explained how bankruptcy happens. ‘Two ways … Gradually and then suddenly’, he wrote in one of his more obscure novels (‘The Sun Always Rises’) in 1926.

The term ‘utility death spiral’ has been in vogue to describe Eskom’s current woes. Observers note how it could cease to be viable if something is not done. They are being too polite; the utility is already in a death spiral. One sector which could simply not cope with the consequences is hard rock mining – gold and platinum – which are two of South Africa’s big four minerals (along with coal and iron ore). Eskom’s death knell could well be theirs too.

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An electricity utility goes into a ‘death spiral’ when its price increases drive customers to ‘defect from the grid’. They look to generate their own electricity, through alternatives like solar and wind power, as all of South Africa’s big mining companies have done in recent years. Alternatively, they are forced out of business. As the utility loses customers – and thus income – it is forced into further price increases until it has no market left.

Eskom is already in a death spiral albeit in the early stages. Demand for its product has actually fallen, by 0.5 percent per year, on average, since 2006. Even if the effects of greater energy efficiency on the part of electricity consumers are taken into account, Eskom, as a monopoly provider, should be achieving sales much closer to GDP average growth (approximately 2 percent over the same period).

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The first of Hemingway’s two routes – ‘gradually’ - is what we have seen to date. But there is every reason to think that if the utility’s current request for a 19.9 percent increase in its tariff is granted, the second part of his formula – ‘suddenly’ - will kick in.

The Chamber of Mines tells us that a 19.9 percent increase in electricity tariffs will render 66 percent of gold and platinum mines unsustainable. Mining GDP growth is already negative with companies reporting an average net pretax loss of R18 billion. But it is gold and platinum mining, where electricity counts for over 20 percent of costs (compared to 3 percent for coal) that is most vulnerable. The impact of Eskom being granted what it wants will be immediate, catastrophic and, it has to said, irreversible.

The disaster would of course go well beyond mining. Manufacturing, tourism and agriculture would be heavily affected. So too will mining multipliers like smelting and steel-making. The shock will hit the national fiscus as tax revenues fall and consumers will be devastated by higher food, energy and transport costs, among other things. Of course, most of those million-and-a-half consumers directly dependant on wages in gold and platinum will have nothing, except perhaps state welfare, to cushion the blow. This is too high a price to pay for maintaining Eskom's all-encompassing monopoly structure.

Corrupt Eskom is the tail which has wagged the policy dog for too long. Two levels of strategy are required, one urgently and the other extremely urgently. After all Eskom’s cash reserves are so low that it may not be able to pay its own salaries by the end of this year.

The slightly less urgent strategy is a restructuring of the entire energy industry. Over the world, utilities are being transformed from energy generators into grid managers and Eskom has to follow suit. It needs to be removed from the generation side as quickly as possible and the global trend for generation to move closer to end users – often happing at factory and municipal level – needs to be facilitated. Generation should be a private sector function, able to capture the sorts of competitive efficiencies that South Africa’s renewable energy programme has so impressively demonstrated.

More urgent though is surviving the present hump – the one Eskom wants to get over by making South Africans pay unsustainably higher prices for electricity. The utility needs to immediately cease all extraneous expenditure including payments for construction work on the unfinished boilers at Medupi and Kusile. The shock to the construction industry will be infinitesimally smaller than the shock of having the owners of Eskom’s R340 billion debt pile call in their guarantees.

In January 2008 the mining industry survived an Eskom crisis which saw South Africa’s three biggest gold mines being temporarily shut down after the electricity utility informed them it could not guarantee continuity of supply. That was when, to paraphrase another Hemingway title, the bell started to toll. It started Eskom down the present path of hugely capitalised megaprojects. That path has ended in a cul-de-sac of bankruptcy. Right now, the National Energy Regulatory of South Africa (NERSA) needs to dig in its heels and decline any increase above inflation. And then the electricity supply industry needs to change. To allow matters to continue is to ensure South Africa will no longer mine any gold. And not much platinum either.

Written by David Christianson, Fellow, Institute of Race Relations

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