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Further step towards energy retail price (re-)regulation as tariff cap Bill is introduced into UK Parliament

Legislation to impose a price cap on domestic energy bills was introduced into Parliament on 26 February 2018. The accompanying announcements from the Department for Business, Energy and Industrial Strategy (BEIS) indicate that the new regime will be in place by Winter 2018-19. This may feel like the end of a long story, and in a sense it is, but it is also the beginning of a new phase for GB retail energy markets: one in which, for the first time in many years, price regulation is likely to play a significant role in shaping the domestic energy supply market – albeit on an explicitly temporary basis.

How did we get here?

Theresa May singled out energy companies who “punish loyalty with higher prices” in her Conservative Party conference speech in October 2017, and a draft of the Domestic Gas and Electricity (Tariff Cap) Bill was published shortly afterwards. The House of Commons Select Committee that scrutinises the work of BEIS then examined the draft Bill, and produced a broadly favourable report on it in January 2018 (both the Committee’s report and the feedback on the draft Bill that they gathered from a range of stakeholders can be found here).

Going further back, the Bill represents unfinished business from the Competition and Markets Authority (CMA) investigation of the GB energy supply markets that concluded in 2016. The instigation of that investigation by the sector regulator, the Gas and Electricity Markets Authority (Ofgem), almost four years ago, was itself the culmination of years of public debate about energy prices and the allegedly excessive profits made by GB utilities.

The CMA found “an overarching feature of weak [domestic] customer response which, in turn, gives suppliers a position of unilateral market power concerning their inactive customer base which they are able to exploit through their pricing policies or otherwise”. In particular, huge numbers of customers of the “Big 6” suppliers who showed little interest in or awareness of the possibility of shopping around for a better deal, found themselves on high “standard variable tariffs” (SVTs). As a result, the CMA identified “customer detriment associated with high prices” of “about £1.4 billion a year on average for the period 2012 to 2015 with an upwards trend”. However, the CMA panel that conducted the investigation decided (by a 4:1 majority) not to impose a price cap to address the harm to SVT customers generally – although they did decide in favour of a price cap for customers supplied through a prepayment meter (PPM). For others, the majority of the panel concluded that measures designed to increase the chances of those on SVTs signing up for a better deal were enough.

The CMA’s conclusions failed to satisfy the public and political appetite for dramatic regulatory action. This was partly because in the period following the CMA’s report, average Big 6 SVTs showed little or no sign of decreasing, while their cheapest tariffs seemed to be increasing, and partly because many of those on high SVTs were also economically or digitally disadvantaged. Poorer customers appeared to be subsidising offers of more competitive prices to the more affluent – or perhaps the larger suppliers were just not very efficient. As the impact assessment published alongside the Bill (a more vigorous and forcefully expressed document than many of its kind) puts it: “a majority of people lose out, with disproportionate impact on the vulnerable”. These – and other, more overtly political reasons – made the move towards a cap unstoppable, notwithstanding the counter-argument that protecting those who didn’t shop around would be likely to result in higher prices for those who did, undermining the development of a properly competitive supply market in the longer term. Interestingly, during the course of the Select Committee’s inquiry, more industry voices than might previously have been expected came out in favour of a cap. (For a sober economist’s justification of the cap, see the evidence given by Professor Martin Cave, who was the dissenting member of the original CMA panel, to the Select Committee.) The charts and table below, published (or derived from data published) on Ofgem’s website in December 2017, tell their own story.

Where exactly are we now?

The Bill follows the text of the draft Bill closely. The table below sets out the key features of the tariff cap regime in the draft Bill and the Bill as introduced, and how the substantive changes from the draft correspond to recommendations made by the Select Committee in its report.

Key feature of draft Bill Select Committee recommendation Revised feature in Bill
As soon as practicable after Royal Assent, Ofgem must include conditions in electricity and gas supply licences to cap SVT and “default rates” (tariff cap conditions). The Committee favours an “absolute cap” rather than one expressed in relation to the level of suppliers’ non-SVT / default rate tariffs. The Bill remains silent on the precise form and level of the tariff, which are left to Ofgem to determine.

A new provision emphasises that the cap will apply to all supply licences and contracts, whenever entered into.

Ofgem can subsequently modify, but not abolish, tariff cap conditions. N/a N/a
Ofgem must:

(a) consult, and allow 28 days for feedback, on the proposed tariff cap conditions or any later proposed modifications;

(b) allow at least 56 days between publication of definitive tariff cap conditions / later modifications and their coming into effect.

N/a N/a
Ofgem is to have regard to five matters in setting / modifying tariff cap conditions – the need to:

(a) protect existing and future customers on SVTs and default rates;

(b) incentivise suppliers to be more efficient;

(c) set the cap at a level that enables effective retail competition;

(d) maintain incentives for customers to switch;

(e) ensure that suppliers who operate efficiently can finance their licensed activities.

To deter legal challenge to Ofgem’s decisions, Government should clarify that all five objectives do not have to be satisfied at once.

In particular, Government and Ofgem should minimise the risk of challenge arising from the likely short-term reduction in switching when the cap first comes into force and its (perhaps inevitable) reduction in the incentives for some customers to switch.

Matter (a) is elevated to an overarching objective, in aiming to achieve which, Ofgem is to have regard to matters (b) to (e).

A new sub-section provides that the cap does not include charges that are part of the SVT / default rate, but are not regularly paid by the majority of customers who pay that rate.

Tariff cap conditions do not apply where:

(a) customers benefit from the PPM cap introduced by the CMA or any replacement for it; or

(b) electricity is supplied on a “green tariff” that meets the standards set out in electricity supply licences.

The exemption for green tariffs should be strengthened to avoid gaming by suppliers moving customers onto “loosely defined green tariffs” and should not apply where there was no substantial benefit to the environment or the consumer has not actively chosen the tariff. Green gas tariffs should also get the same treatment. The references to PPM caps and green electricity tariffs have been replaced by more generic wording on:

(a) caps imposed in relation to vulnerable customers; and

(b) SVTs that apply only if chosen by customers and that appear to Ofgem to support the production of electricity or gas from renewable sources.

No doubt partly to acknowledge the fact that there is no current “standard” for green gas tariffs in gas supply licences, Ofgem is given more time to provide for exemption (b).

Starting in 2020, and for as long as the cap remains in place (see below), Ofgem must, by 31 August, annually review “whether conditions are in place for effective competition for domestic supply contracts” and report to BEIS (report to be published by 31 October each year).

The Secretary of State (SoS) must consider the report and publish a statement on whether the SoS considers the conditions for effective supply competition are in place.

The Government should not seek to define what is meant by “effective competition” before a cap is in place, but the SoS’s decisions should be based on “the minimum requirements that overcharging and the differential [between SVTs and cheapest tariffs] are substantially reduced, fairness is improved, and vulnerable customers are protected”. A new provision: at least once every 6 months while the cap remains in place, Ofgem must:

(a) review the level at which the cap is set; and

(b) state whether, as a result of that review, it proposes to change the level at which the cap is set.

The Bill does not include any further definition of “effective competition”.

The cap ceases to have effect at the end of 2020 unless the SoS concludes that conditions of effective supply competition are not yet in place. In that case the cap remains in effect for 2021 and the Ofgem report / SoS statement process is repeated in 2021 and – if the SoS considers conditions of effective competition are still not in place then – again in 2022 (but with a final “sunset” for the cap at the end of 2023 in any event). N/a N/a


It will be immediately obvious from the above summary that the Bill leaves Ofgem with the hard work of actually setting the cap and drafting the standard licence conditions that will give it effect, and balancing a number of potentially conflicting objectives as it does so. From first publication of proposed tariff cap conditions to their entry into force is likely to take at least 4 months (allowing for one month to consider feedback from the initial consultation). Consultation that takes place before the Bill receives Royal Assent is permitted.

Accordingly, having the new regime in place by Winter 2018-19 looks achievable. Even with Parliamentary timetables dominated by Brexit legislation, it should not be too difficult to find the relatively short amount of time required to debate this Bill, given the broad consensus behind the cap.

Will Parliament be happy to leave it to Ofgem to come up with the all-important numbers? It should: Ofgem is an independent economic regulator (whose independence from political control remains, at least for the moment, guaranteed by EU law). The potential to disrupt delivery of the cap may lie rather with the energy suppliers themselves, or anyone else who may seek to challenge Ofgem’s eventual decision on the level of the cap or other related licence provisions in the courts.

Some suppliers tried to persuade the Select Committee that Ofgem’s decisions on the cap should be subject to a right of appeal to the CMA, rather than only being challengeable by way of judicial review by a court. Their representations unsurprisingly emphasised the benefits of the CMA’s expertise and faster-track procedures more than what they may have perceived as the higher threshold that has to be satisfied for a court to entertain a challenge by way of judicial review or the narrower administrative law grounds on which a court can determine that a decision that is subject to judicial review is sufficiently flawed to be struck down and remitted to the decision-maker (here Ofgem) to reconsider.

In a number of ways, the legislation has been constructed so as to reduce the risk of a successful challenge: Ofgem has been given a fairly clear (if by no means simple) job to do in a particular context, and a court may well be slow to second-guess e.g. the regulator’s judgments when prioritising the competing objectives it must bear in mind when setting the tariff cap (see above).  But even if JR remains the only route for a challenge in the Bill as enacted, the possibility that a challenge will be launched cannot be ruled out, since if the calculations made by the CMA and others are even half right, there is a lot of money at stake here for some suppliers.

What next?

Whether or not Ofgem has to defend any of its tariff cap decisions in court, this new function is going to be a significant item of work for the regulator over at least the next two and a half – and possibly as many as five – years. This is likely to have a number of consequences.

It is hard to see how Ofgem can make judgments about e.g. how “to ensure that holders of supply licences who operate efficiently are able to finance activities authorised by the licence” without potentially routinely engaging with those suppliers on the commercial costs of their businesses in a degree of detail, and level of intensity, to which they are unaccustomed as part of “business as usual” activity. Consideration of the efficient costs of operation is normally what Ofgem does in relation to the natural monopoly businesses of transmission and distribution, not the competitive business of supply (although of course, it is a founding premise of the tariff cap regime that competition is not working properly in the domestic supply sector). Inevitably, individual suppliers will assert that their businesses do not fit particular assumptions Ofgem may make: yet the legislation explicitly precludes making “different provision for different holders of supply licences”.

Perhaps the only way to avoid this level of regulatory attention would be for suppliers unilaterally to follow in the direction proposed by Centrica during the course of the Select Committee’s inquiry as an alternative to a tariff cap, by not having SVTs or default tariffs; but that in itself would not be without its challenges, not least from a customer engagement perspective.

The partial re-regulation of domestic tariffs is by no means the only significant regulatory development that will occur in the energy supply sector over the period when the tariff cap is in force. Government and others have been at pains to stress that changes such as the rollout of smart meters and the introduction of market-wide half-hourly settlement, that could enhance competition in energy supply markets, are not to be seen as reasons not to have the cap. Recent history suggests that the number of such obligations on suppliers only moves in one direction: up. And unlike in the case of “pass-through” costs such as network operator charges, obligations like market-wide half-hourly settlement may be inescapable, but there is likely to be plenty of scope for argument over how much they should cost suppliers to comply, against a background of reduced SVT revenues. Meanwhile, Ofgem has opened up the whole question of the place of suppliers in the regulatory architecture with a call for evidence (November 2017) on the future of supply market arrangements.

Whatever happens, there is a strong chance that Ofgem’s performance, in the eyes of most politicians and the public, will be seen as overwhelmingly focused through the lens of the tariff cap and its impact on SVT customers’ bills. The next few years will not be easy either for the regulators or the regulated.


Ofgem has published a letter setting out its timetable for developing the tariff cap condition, as well as its other ongoing work to protect vulnerable customers from overcharging.  A series of working papers is promised over the next few months, with draft licence conditions being issued in August 2018 and the tariff cap being in force by the end of the year – subject to the progress of the Bill.

UPDATE – 12 MARCH 2018

Ofgem has published its first working paper on how it will go about setting the tariff cap, drawing heavily on earlier work in the context of the cap for the protection of vulnerable consumers.

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Further step towards energy retail price (re-)regulation as tariff cap Bill is introduced into UK Parliament

Failure of competition in retail energy markets: “disengaged customers” (still) the root cause?

Emerging analysis from the investigation into GB gas and electricity supply by the UK’s Competition and Markets Authority (CMA) suggests that consumers are paying more than they need to because of their failure to “engage in” the market and because of shortcomings in the regulation of the sector.

Some seven months into an investigation instigated by Ofgem and six months after producing its initial issues statement setting out the areas on which it would be focusing, the CMA has published an updated version of the issues statement and a summary of smaller suppliers’ views on barriers to entry and expansion in the market (one of a series of “working papers” that provide more detail of the CMA’s analysis and the evidence on which it is based).

The problem

The CMA is fairly clear that both domestic and “microbusiness” consumers of gas and electricity are paying more than they need to – noting, for example, that “95% of the dual fuel customers” of the Big 6 could have saved an average of between £158 and £234 by switching tariff and/or supplier.  They also note, as others have done before them, that customers on “Standard Variable Tariffs” (SVT) tend to see their bills rising faster and falling slower than increases and decreases in the underlying costs of supply would suggest (the so-called “rocket and feather” effect – see graph below).

CMA fig 1

The search for causes

However, the CMA has so far rejected a number of the “usual suspects” when it comes to explaining why consumers appear to be paying more than they need to, without there being any obvious reason for their loyalty to their existing suppliers.  The initial issues statement was based on four hypothetical “theories of harm” that could account for failures of competition:

  • “market power in electricity generation leads to higher prices;
  • opaque prices and/or low levels of liquidity in wholesale electricity markets create barriers to entry in retail and generation, perverse incentives for generators and/or other inefficiencies in market functioning;
  • vertically integrated electricity companies harm the competitive position of non-integrated firms to the detriment of the customer, either by increasing the costs of non-integrated energy suppliers or reducing the sales of non-integrated generating companies;
  • energy suppliers face weak incentives to compete on price and non-price factors in retail markets, due in particular to inactive customers, supplier behaviour and/or regulatory interventions.”.

Taking each of these in turn, the CMA’s current (but explicitly provisional) analysis is as follows:

  • The Big 6 are not making excessive profits from generation and do not have the ability or incentive – individually or collectively – to increase profits by withdrawing capacity.
  • There are not significant problems as regards the transparency of the wholesale markets.  Those smaller suppliers who complain about a lack of liquidity, at least for certain products, have yet to persuade the CMA that this is a major concern, although they note that Ofgem’s Secure and Promote licence condition has not addressed all the problems in this area.
  • The CMA also does not think that the Big 6’s vertical integration enables them to cause independent generators to restrict their output or allows them to take action in the wholesale markets that disadvantages independent retailers.  One independent supplier saw vertical integration as a competitive disadvantage (potentially tying a supplier to generating plant whose efficiency reduces over time, especially if measured against the best in the market).
  • The only one of the original “theories of harm” which seems to offer an explanation of the failure of competition is the fourth one above, notably “inactive consumers”.  Although the domestic market share of independent suppliers grew from 1% to 7% (electricity) or 8% (gas) between July 2011 and July 2014, the fact remains that almost half of domestic consumers have not switched supplier for at least 10 years.  Many do not even believe switching is possible.  As one of the independent suppliers points out, having a large base of relatively price-insensitive customers on SVT may enable an incumbent to compete more aggressively against new entrants for the business of those who do take active steps to get a good deal.  Another suggests that it is almost as if there are two markets: one composed of potential switchers and another of those who are terminally loyal to their incumbent supplier.

Regulation may be stifling competition

One of the things that stands out in the CMA’s analysis is the emphasis on the potentially adverse effects that various aspects of sectoral regulation may be having on competition.  This is most conspicuous in the addition of two new hypothetical “theories or harm”:

  • “the market rules and regulatory framework distort competition and lead to inefficiencies in wholesale electricity markets;
  • the broader regulatory framework, including the current system of code governance, acts as a barrier to pro-competitive innovation and change.”.

But it is also seen elsewhere.  Examples of potentially problematic regulation identified include:

  • Elements in Ofgem’s recent reform of cashout prices (the Electricity Balancing Significant Code Review) “may lead to an overcompensation of generators”.
  • It may be inefficient not to have a system of locational prices for constraints and losses on the transmission network.  It may be that consumers in Scotland and the North of England should be paying more, and those in the South of England paying less, for their electricity.
  • The Capacity Market element of Electricity Market Reform (EMR) “appears broadly competitive”, but the CMA plan to look at if further.  They note that the Contracts for Difference regime may not secure the lowest prices for renewable generation subsidies by having separate “pots” for different technologies, rather than requiring them to compete all-against-all, or by allowing the award of contracts on a non-competitive basis, before observing, equally obviously, that “there are potentially competing objectives that need to be taken into account in the design of the CfD allocation mechanism”.  One independent supplier also characterises the system by which CfD costs are recovered from suppliers as “madness”.
  • But any problems caused by EMR are for the future.  Looking back, the CMA have clearly listened both to those who have criticised Ofgem’s 2009 decision to prohibit regional price discrimination (while providing exemptions for promotional tariffs), which may have led to a consumer-confusing increase in the number of tariffs, and to those who question Ofgem’s 2013 decision to force suppliers to “simplify” their tariff portfolios drastically, which resulted in the loss of tariff discount options that may or may not have been valued by consumers.  However, the CMA have yet to form a final view on the merits of either decision.
  • It has often been observed that the 250,000 account threshold, above which suppliers become subject to the Energy Company Obligation (ECO), may act as a barrier to growth for independent suppliers.  More interestingly, the CMA note that the costs of the social and environmental policies delivered by suppliers “fall disproportionately on electricity rather than gas”, meaning that “domestic consumption of electricity attracts a much higher implicit carbon price than domestic consumption of gas” – which may have implications for the take-up of electrical heating systems (normally thought of as part of decarbonising energy usage).  This is another area where the CMA will be investigating further.
  • Finally, the CMA identify aspects of the Balancing and Settlement Code (BSC) and other industry agreements that could be standing in the way of more effective competition.  They ask, for example, why, once smart meters have been rolled out, there are no plans to move away from the system whereby domestic customers’ consumption is “profiled”, rather than being based on half-hourly meter readings.  Failure to take advantage of the new technology in this way could “distort incentives to innovate”.  The CMA will also be considering further whether there are just too many codes in the electricity industry (constituting a barrier to entry) and whether the mechanisms for changing industry rules may be stacked too heavily in favour of incumbents and the status quo.  On the first point, Elexon itself, administrator of the BSC, apparently thinks that “rationalising” the codes will remove potential barriers to competition.

Next steps

Interested parties have until 18 March 2015 to comment on the updated issues statement.  The next major step will be the publication of “provisional findings”, currently scheduled for May 2015.  Overall, the investigation is not due to conclude before November / December 2015, and it could be extended into 2016.  It is of course far too early to speculate on possible remedies, but for now the more obviously Draconian options in the CMA’s armoury, such as the breaking up of vertically integrated groups, appear unlikely outcomes.  Something eye-catching to cause “inactive” consumers to “engage”, and a lot of “boring but important” changes in the regulatory undergrowth around industry codes and agreements seem reasonable bets for now, but there is a long way to go yet.


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Failure of competition in retail energy markets: “disengaged customers” (still) the root cause?

Market investigation: just what UK energy markets need?

It has been widely reported that Ofgem has referred the “Big 6” UK energy companies for investigation by the Competition and Markets Authority (CMA).  That is of course not strictly true, for three reasons.

  • First, and most trivially, the CMA, which will take over the functions of the former Office of Fair Trading (OFT) and Competition Commission, currently only exists in “shadow” form, and does not assume its statutory functions until next month.
  • Second, although the prospect of a market investigation reference has been canvassed for some time, Ofgem have not yet made a reference.  They are consulting on a proposal to do so.  The consultation ends on 23 May 2014.  As any administrative lawyer will tell you, a decision-maker must not consult with a closed mind, so we are probably still at least 3 months away from the start of a CMA investigation.  It would be possible for Ofgem to agree “undertakings in lieu of a reference” from players in the market if it felt that would adequately address the problems it is concerned about without the need for a market investigation – although at present that seems an unlikely outcome.
  • Third, as is normal with a market investigation, the proposed terms of reference do not refer to individual companies.  What Ofgem proposes that the CMA should investigate is no more and no less than the supply and acquisition of energy (i.e. electricity and gas) in Great Britain.

Market investigations are the oldest and in some ways the most powerful tool in UK competition law.  In their modern form they are governed by the Enterprise Act 2002, a piece of legislation enthusiastically promoted by the then Chancellor, Gordon Brown, as destined to make the UK economy more competitive by the more vigorous application of competition law.  They exist to deal with markets which appear to be insufficiently competitive, but whose problems do not appear to come from cartels or other anti-competitive agreements between firms, or the abuse of a dominant position – all of which obviously anti-competitive kinds of behaviour are prohibited under UK and EU law in any event.  A market investigation aims to find other features of a market which prevent, restrict or distort competition and then to devise a means or remedying, preventing or mitigating those effects, taking account of any incidental benefits which those features may bring to customers.  In a regulated market such as gas or electricity, the CMA may also need to have regard to the statutory functions of the sectoral regulator concerned.   The powers which the CMA can deploy in devising remedies for any problems it finds are extremely wide, and – unless Ministers legislate under the Act to give themselves a role – are formulated and imposed without any political sanction.  They can include everything from price regulation to divestment of a business – such as the forced sale of Stansted Airport that took place following a market investigation into airports.

Back in 2002, it was expected that there would be between two and four market investigation references a year.  In fact there have been slightly fewer: 17 completed investigations.  Back in 2002, some questioned whether economic sectoral regulators such as Ofgem would ever use the power that was being given to them to make a market reference in respect of their own sectors (otherwise, the power to refer a market rests with the OFT, or, in an extreme case, Ministers): would referring the market that it was their function to regulate not look like an admission of defeat?  Ofgem’s proposed reference, if made, will be the first to be made by an economic regulator into the very heart of the markets which it is responsible for regulating.

Ofgem have published a consultation on the proposal to make a reference and, separately, a state of the market assessment containing the fruits of its own investigation, with the OFT and CMA, into the current state of competition in energy markets.  Both are well worth reading (as is the Secretary of State’s statement to Parliament on the Ofgem announcement).  Don’t be put off by the apparent length of the state of the market assessment, as a large amount of its more than 100 pages is taken up with rather striking graphs and charts.  I particularly liked Figure 14, which shows that the proportion of consumers who said they have not switched supplier because they are “happy with their current supplier” fell from 78% in 2012 to 55% in 2013; the proportion who claimed to have checked prices and found that they were on the best deal rose from 9% to 12%; and the proportion of those honest enough simply to say that switching was too much of a hassle rose from 20% to 27%.

The points that Ofgem have highlighted as reasons for proposing a market investigation are mostly what economists would regard as potential symptoms of competition problems rather than the actual features of the market that are giving rise to those problems.  They are, however, symptoms traditionally associated with uncompetitive oligopolies, which is what market investigations are meant to be good at tackling: high levels of apparent customer dissatisfaction, but low levels of customer switching; static market shares of incumbent firms; possible “tacit collusion” (e.g. co-ordinating in the timing and size of price changes); possibly high profits; and potential barriers to entry.  The last of these is the most significant, but the assessment document is notably circumspect in its conclusions: “In the time available…we have not been able to examine in depth the claimed benefits and reasons for vertical integration for the suppliers and the implications for barriers to entry, and assess the net impact on consumers of vertical integration overall.”.

The big question of the effect of the Big 6’s high shares of both the supply and generation markets is therefore left for the CMA to consider in the greater depth that its procedures and wider powers to compel the provision of information allow.  Another big question in any regulated market is of course the effect that regulation itself has on competition.  Here, the CMA will really have its work cut out, because the regulatory landscape in the energy sector is in a more than usually fluid state just now, with various significant Ofgem reforms about to take effect and DECC in the process of finalising the radical upheaval that is Electricity Market Reform (EMR).  The CMA will have a ring-side seat as the first allocations of EMR Contracts for Difference take place and the EMR Capacity Market is launched, expected to be later this year.

That in turn raises the question of timing.  Some have been calling for an energy market investigation for some time.  Others suggest that with so much change, such an investigation can only add to uncertainty and further inhibit decision-making on new infrastructure that is sorely needed to keep the lights on.  What is certain is that market investigations can, and frequently do, take up to two years (not counting any further time taken up in legal challenges to the outcome).  There are often good reasons for that, but even apparently uncompetitive markets can change over time.  What appear to be problems at the start of an investigation may not still be there at the end.  How relevant will the CMA’s findings be in 2016, a year after an election that may be won by a Labour Party which has announced its intention of making a series of further regulatory changes, including the abolition of Ofgem and the separation of generation and supply businesses?  In any event, if the CMA do find that there are features of the regulation of energy markets that are part of the competition problem, that is one area in which it may not be able to impose remedies, and may instead have to limit itself to making recommendations to the sector regulator or the Government of the day.  So those welcoming Ofgem’s announcement as an end to “the politics” around the issues and the start of a dispassionate, technocratic process may have spoken too soon.

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Market investigation: just what UK energy markets need?

Contracts for difference: established technologies must compete for strike prices

Only a few weeks ago, DECC announced the “final” strike prices that were to apply to contracts for difference (CfDs) for the various eligible renewable technologies under Electricity Market Reform (EMR) (see our earlier post on this).  But things move fast in the world of EMR.  On 16 January 2014, DECC announced that for those technologies considered “established”, there would be no guarantee of securing strike prices at the level of the figures fixed in December 2013. 

The group of “established” technologies for these purposes consists of onshore wind (>5MW), solar PV (>5MW), energy from waste with CHP, hydroelectric (>5MW and <50MW), landfill gas and sewage gas.  For these technologies, it is proposed that strike prices will be set by a process of competitive bidding for which the December figures will function as a cap.  For the “less established” technologies (offshore wind, wave, tidal stream, advanced conversion technologies, anaerobic digestion, dedicated biomass with CHP and geothermal) the December strike prices will apply.  A decision has yet to be made about strike prices for biomass conversion and Scottish islands projects.

Moreover, all technologies will have to apply for their CfDs through allocation rounds – i.e. at specified times, rather than whenever it is most convenient for them to do so.  There will be no initial period of “First Come, First Served” allocation of CfDs.  The draft CfD allocation framework, originally scheduled for publication in January 2014, will not now be published until March 2014.

The DECC announcement is cast as a consultation, but the key points look fairly firm.  Although the document lists a number of factors that have been taken into consideration, it is clear that the European Commission’s draft state aid guidelines have played a big part in DECC’s thinking (see our earlier post on the draft guidelines).  The draft guidelines place a heavy emphasis on the desirability of competition for subsidies to renewable generators.  

There can be no doubt that the change of approach on strike prices ought to improve the chances of gaining state aid clearance from the Commission for the CfD regime.  But what will be the practical and wider impacts of more projects having to compete on strike prices sooner? 

How “technology-specific” will each auction be?  How frequently will auctions take place? Some questions will have to wait for an answer until we have seen the allocation framework.  For some time now, it has been clear that the allocation framework will be a hugely important document.  Assuming that DECC sticks to its overall timetable, there will not be very much time to consult on the first allocation framework before the package of EMR secondary legislation that requires Parliamentary approval is laid before Parliament.

In the meantime, it is a fair bet that some projects which might have applied for a CfD will now opt for the more predictable support mechanism provided by the Renewables Obligation (RO) instead (as they will be able to do until 2017).  Many of these projects are not large and the process of competing on strike price can only add to the costs of a CfD application.  But if more opt for the RO from the outset, how will that affect the budget available for CfDs under the Levy Control Framework?  And what will be the implications for any state aid analysis of the RO if projects that fail to win CfDs in the auction process can go on and claim what turns out to be a higher level of support under the RO?

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Contracts for difference: established technologies must compete for strike prices

EU renewable generators: time to wean them off “overcompensating” subsidies?

The European Commission has published draft state aid guidelines on environmental and energy aid for 2014-2020 for consultation.  According to the accompanying press release, these would “facilitate the decarbonisation of energy supply and the integration of the EU internal energy market”.  A less charitable reader might detect in the draft guidelines some tensions between the EU’s competing goals of promoting free competition and completing the EU internal energy market on the one hand and the need to reduce greenhouse gas emissions and ensure security of energy supply on the other.

The draft guidelines follow the policy outlined in the Commission Communication on delivering the internal electricity market and making the most of public intervention, published with accompanying  staff working papers in November: the suspicion that, notwithstanding “the challenges of the climate change agenda”, some national subsidy regimes for renewables are “overcompensating” what are now “mature” technologies; that new schemes designed to ensure security of supply may end up supporting plants that are unnecessary or inefficient; and that Member States too readily opt for subsidies rather than pursuing demand reduction options or the potential for EU market integration.

There is considerable emphasis on the use of competitive bidding processes.  The draft thresholds for determining whether a technology is “deployed” and subsidies to it therefore require to be subject to more rigorous criteria may be set quite low (between 1 and 3 per cent of production at EU level).  For each technology / kind of aid, the draft guidelines list specific anti-competitive pitfalls to be avoided and/or ways to monitor for, and correct, possible overcompensation.  And it is envisaged that the guidelines will apply not just to new schemes, but also to existing ones which are amended after the guidelines come into force – unless the only amendment is the publication of a new tariff, or the beneficiary has received confirmation that it will benefit for a predetermined period.

In some ways, none of this should be surprising.  By definition, even aid that has been cleared by the Commission remains susceptible to further examination in the light of changing market conditions – which may lead to something that was originally found compatible with the internal market subsequently being found to be incompatible.  It remains to be seen whether the draft Guidelines will lead to this happening more often, or whether they will change much as a result of this new consultation (the third on this subject).  One thing that is certain is that there is no shortage of high-profile cases to which the Commission can apply its current thinking.  On the same day as the draft guidelines were published the Commission announced an in-depth investigation into a German scheme reducing renewables surcharges to energy-intensive users and into the UK’s proposed aid to EDF’s Hinkley Point C nuclear power station.

All of which comes as a reminder that the low carbon investment support and security of supply elements of the UK Government’s flagship programme of Electricity Market Reform (EMR) require – and have yet to be granted – state aid clearance from the Commission.  The same is true of the proposed exemption for energy intensive industrial users from the increases in supply charges that will fund EMR.  It is not surprising that recent DECC announcements have stressed the possibility of e.g. moving to competitive bidding for EMR contracts for difference (rather than setting the “strike price” administratively) sooner rather than later.  Fortunately, the EMR regime has been designed in such a way as to accommodate a lot of adjustments both before and after it goes live later this year.

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EU renewable generators: time to wean them off “overcompensating” subsidies?