[Energy-topia]The Disappearance of the Cost-Based Principle in Electricity Rates

"The final decision on electricity rates is a matter for the party to determine."

This was a statement made by then Deputy Prime Minister and Minister of Economy and Finance Choo Kyung-ho in April last year during a meeting with reporters in New York, USA. It sparked controversy as the head of a nation's economy admitted that the authority to decide electricity rates lies with the ruling party, not the government. Facing strong criticism, he changed his statement a month later, saying, "Electricity rates are determined by the government, not the party."

The reason for recalling the remarks of Choo Kyung-ho, the floor leader of the People Power Party, made over a year ago is because they overlap with the recent announcement of electricity rate hikes. The government and Korea Electric Power Corporation (KEPCO) have proposed an electricity rate adjustment plan that raises industrial electricity rates by an average of 9.7%. Residential electricity rates and general electricity rates used by small business owners were left untouched. Only the electricity rates for companies, which find it difficult to strongly oppose the increase, were raised. This has drawn criticism as a 'populist electricity rate hike.'

Regarding the increase only in industrial electricity rates, the government and KEPCO explained that they considered the burden on the low-income economy. Residential electricity rates are reflected in the consumer price index, but industrial rates are not. Industrial customers account for only 1.7% of the total, but their electricity consumption amounts to 53.2%, so the effect of the rate hike is significant.

Everyone agrees on the necessity of KEPCO’s electricity rate increase. As of the first half of this year, KEPCO’s cumulative consolidated deficit reached 41 trillion won, and its debt amounted to 203 trillion won. Despite a significant rise in international fuel costs, the rate system failed to properly reflect these increases, resulting in continued losses. Due to the massive deficit, borrowings surged, and daily interest expenses alone amount to 12.2 billion won.

With this electricity rate hike, KEPCO has at least managed to put out the urgent fire. KEPCO expects approximately 4.7 trillion won in additional annual electricity sales revenue from this rate increase. However, this amount is far from sufficient to resolve KEPCO’s financial difficulties to a level that can cover annual interest expenses. Ultimately, this money comes out of the pockets of domestic conglomerates such as semiconductor and steel companies. It is understandable that the business community might grumble.

In fact, it is clear that South Korea’s electricity rates are not high on a global scale. Residential electricity rates were 130.4 won per 1㎿h last year, ranking 35th out of 37 OECD countries. Only Hungary (120.9 won) and T?rkiye (72.6 won) have cheaper rates. Industrial electricity rates were 122.1 won per 1㎿h, ranking 26th among 35 OECD countries. While industrial electricity rates have increased twice, residential electricity rates have been frozen since May 2023. Residential and general electricity rates should also be raised eventually, but it is uncertain when that will happen.

Currently, electricity rates do not cover the total cost, creating a structure where the more electricity is sold, the greater the loss. The Yoon Suk-yeol administration has emphasized from its inception that it will apply cost-based pricing to electricity rates. This means reflecting the cost of electricity production in the rates. This policy stems from criticism that the previous Moon Jae-in administration suppressed electricity rates to hide the side effects of its nuclear phase-out policy.

However, by raising only industrial electricity rates this time, this principle has been undermined. In 2022, when the Yoon Suk-yeol government included strengthening the independence and expertise of electricity rate and regulatory governance as a national agenda, the energy industry welcomed it greatly. It is currently unknown how this agenda is being implemented.