04/11/14 – The CMA investigation: energy prices and costs

Speaker: Tim Yeo MP, Chair, Energy and Climate Change Committee

All Party Group on the Costs of Energy

Tuesday 4 November 2014

The Chair, Lord Palmer, introduced the speaker.

Tim Yeo MP outlined his talk, which would cover energy prices and costs in reference to the CMA investigation.

Energy costs are not under control of government (or industry) other than in the extremely short term.  Influences are the wholesale prices of electricity, gas and coal.

Governments can influence costs and therefore prices, and should use that influence to exert as much downward pressure on prices as possible to encourage competition and facilitate improvements in technology, which will also drive down costs. Also, scaling up some technologies. The dramatic fall in the price of solar power comes from the direct expansion of the manufacturer of solar products in China.

The effects on gas prices of the shale gas boom in North America are clear.  The benefits enjoyed by the US are to be welcomed, the government must do all it can to exploit reserves in the UK. It is likely they are substantial. There is understandable reluctance but, properly regulated, shale gas can be exploited quite safely (the Energy and Climate Change Committee reported on this and visited the US to discuss regulatory systems). The effect would not be dramatic on the price, but would impact UK gas imports (US is now reliant on importing 50% of its gas). UK is competing with China and other Asian economies (whose consumption is likely to rise substantially in the next 2 years) in the Middle East for LNG. LNG is having a dampening effect on UK gas prices, but less dependence on this source the better.

Electricity price is significantly dependent on gas price, because so much electricity is generated from gas, which is outside the control of government. But some areas are more in control of government. The Energy and Climate Change committee is currently investigating network costs, the transition and distribution companies. The National Grid has not had enough scrutiny by the media, regulator etc. The Daily Mail does not get excited by it. Transmission is a monopoly, distribution almost is a monopoly. More attention needs to be given to this area. Evidence suggests that costs have not been driven down as much as they should, one of the reasons for the committee investigation. Ofgem now recognise this more clearly. There may be more progress with this under the new leadership.

Generally speaking, in electricity, competition is not as it should be; the big 6 have had very strong positions. There is a complete loss of consumer trust in the big 6, that is beyond repair. Vertical integration makes consumers suspicious about activities of companies; they appear not to be completely transparent (although they are clearer than before). Companies have not done enough to address that problem. Trust can only be restored with the end of vertical integration. There is not enough evidence that should this happen companies will put prices up, there is no compelling evidence that this move would force prices down, but there is evidence that it would persuade consumers that companies are not conspiring against them.

Improvements that can be made in the wholesale electricity markets. The really exciting developments and opportunities are in the application of smart technology, in particular with an introduction of timed pricing for all consumers; allowing consumers the chance to manage their own consumption, save them money and significantly reduce peaks in demand. In North America, there is a greater use of demand-side response technology. Opportunities exist to reward consumers for flattening out demand. Unfortunately the UK is locked in a mind-set that the answer to capacity problems is to build more generators. With its guaranteed returns on infrastructure build, this suits National Grid to incentivise more building.

Tim Yeo MP had to leave for a vote; Lord Palmer introduced APPG Technical Advisor, David Lewis, to speak whilst the MP was absent.

Several themes emerged from what was said, firstly grid costs. The APPG published a report on smart metering (which has the potential to reduce distribution costs). Interconnection is a priority for the Commission (which is looking to introduce targets) the UK is getting better at getting inter-connected. Is greater interconnection a means of reducing costs or perhaps just affecting profits of grid operators?

David Lewis: The APPG working group on smart metering submitted evidence on smart metering to the Energy and Climate Change Select Committee, based on the report published in July. He also informed the attendees that a new working group on wholesale gas had started. It is due to report in early March. The CMA are looking at energy industries (usually limited to the supply to domestic consumers) and not looking at the wholesale gas market.  The industry generally has lost the trust of its consumers, it will be helpful to just get the facts out; a lot is said about the industry which has no basis in fact. This report aims to set out the facts.

Lord Palmer: In hindsight, was it sensible to deregulate the market – better in state ownership?

David Lewis: (previously as a civil servant worked on privatisation processes). Responded by giving the e.g. of telecoms, things improved with deregulation. The cost savings achieved in energy for distribution and transmission in the late 80’s early 90’s were very significant and worked very well. Supply is a natural monopoly; it would be difficult to see where savings can be made.

Tim Yeo MP had returned from voting by now.

A contributor (who has a licence for fracking) asked why is it not the government’s role to control prices? In US state regulators want movements in wholesale gas prices to be passed on to the consumer.

Tim Yeo MP: Governments do have a role to play to help keep prices as low as possible through different mechanisms – one is competition. Energy prices have become a hot topic, much higher profile than it was 10 years ago. There are too many issues beyond government control.

Agreed that there should be more fracking, there are issues, but there are Ill-informed opinions on both sides.

A questioner returned to the issue of trust pointing out that Ofgem recently published research which found the idea of trust is not recognised as a concept by the research focus group. Instead, the research suggests that consumers do not engage in that way with energy companies.

Tim Yeo MP: Chairing the Energy and Climate Committee results in lots of correspondence, from that the idea seems to be that electricity companies increase prices “at the drop of a hat” but then don’t reduce them when prices fall. That is the suspicion amongst consumers, not always fair. Whilst not a scientific sample, this is a sample based on 4 years of correspondence. Significant groups of people don’t trust their energy supplier to work in their interests. Trust is not essential, but it helps.

The Government story is that future oil and gas prices will steadily rise, this is not borne out by history. Prices are currently falling (oil and gas) exposing more and more the additional costs of renewables, government does influence in that way. Is now a time for government to row back?

Tim Yeo MP: Agree that it’s a “mug’s game” to try to forecast commodity prices. Energy decision are more long-term that most others. Government does not tend to make these guesses.

IEA are not recommending that policy makers assume fossil fuel prices will be lower in 20/30 years than they are today (certainly not gas). The Asian economies make the assumption that gas prices will go up. That is sensible.

Regarding renewables, total subsidies paid are half the relevant element on the average electricity bill, is this fair?

Tim Yeo MP: Expensive renewable technology (particularly offshore wind) solar PV would probably not have grown in popularity without support early on. Chinese equipment manufacturers have driven down prices and in Southern Europe Solar PV prices will soon reach parity. It might even do so in the UK in the next decade. There are certain areas where it is fully justified to add to consumer to bills to bring up technology. Nuclear is quite expensive, EDF bosses were smart in their negotiations. With issues of security of supply, if this is scaled up the costs of nuclear power could fall significantly.

Suppliers struggle to explain to customers, why bills are increasing, need to explain about renewables, increased cost of distribution and transmission (government has not explained this either).Whilst suppliers struggle to explain to consumers why bills are increasing, smart metering will add £7.00 to bills, should this be delayed? Is this the right time to introduce this? Who will benefit? The subsidies (from taxpayer) will benefit very few people

Tim Yeo MP: There is a debate about the figures, £7.00 is quite different to Ofgem figures (they may be wrong). Environmental and social costs 7%, network costs 22% supplier operating cost 13%, pre-tax margin 7%, VAT 5%, wholesale 46%. Seven percent is a small element. The smart meters programme has not been well managed or sold, but Britain should be at the forefront of a revolution; a wonderful consumer empowering technology (allows small company competing with big companies to give consumers more control). The full benefits won’t happen unless there is time-of-use pricing.

David Lewis: The Industry will save costs, such as that of sending out staff to read meters; savings need to be taken into account. The roll-out should be justified on those types of savings.

There is an issue of value for consumers. There needs to be honest conversation with consumer. At present de-carbonisation is being ducked.

Tim Yeo MP: Agreed, politicians are understandably reluctant on the things public does not like. Decisions on energy have a long-term nature which is not helped by 5 year democratic cycle. The existing debate (in the newspapers) is often ill-informed. A better educated debate would be welcome, one in which public, industry and policy-makers all participate, with a bi-partisan political approach. Consider what happened with interest rates after Gordon Brown, overnight, gave independence to the Monetary Policy Committee. It is disappointing that Ed Milliband announced two years in advance that there would be a price freeze. That announcement would increase prices, discourage investment and raise costs as well as prices in the short term. The way to do a freeze is not to tell anyone until the day after you are elected. The issues are complex, it is difficult to get concepts such as risk into the public domain; the MMR debate shows that. The debate needs to be a grown up debate.

Policy makers must use maxim from Darwin, the species survives not by those who are strong but those who are adaptable and an industry like the energy industry has to be adaptable.

The Chair closed the meeting.