By Guy Chazan
Ed Miliband’s call for an energy price freeze will resonate well with
consumers increasingly fed-up with rising fuel bills. But the Labour leader
may have picked the wrong target.
Experts say the real drivers of mounting energy costs are factors outside
the big six energy suppliers’ control – such as green policies pursued by
the coalition but with their roots in the Labour government where Mr
Miliband was energy secretary.
The Labour leader wrote to the big suppliers on Wednesday saying he wanted
to “reset” a market that had “consistently failed to secure the confidence
of the public or the investment Britain needs”.
Mr Miliband also warned that he would take action against companies if they
raised prices before the cap comes in. Shares in energy groups Centrica and
SSE fell more than 5 per cent on Wednesday.
The choice of rallying cry is astute. Energy bills have increased 37 per
cent since 2007, far outstripping the 3 per cent rise in household incomes
over the same period.
Ofgem, the energy regulator, has found that bills rise when wholesale
prices go up but do not go down enough when they fall.
But there is scepticism about Labour’s claim that profiteering is to blame.
“Despite all the Ofgem probes and select committee hearings there’s little
conclusive evidence that the energy suppliers have been overcharging,” says
Omar Abbosh, senior global MD at Accenture Resources.
Indeed, electricity prices in the UK remain among the lowest in Europe. The
World Energy Council said this week that Britain had one of the world’s
fairest energy systems.
Data from Ofgem suggest that there is not much of a correlation between
fuel price rises and the profits of the big supply companies. In fact,
their returns have fallen sharply, reflecting a recession-related fall in
demand for energy.
Instead, experts identify three key factors behind soaring bills: a steady
rise in the wholesale price of natural gas; increases in network charges;
and a surge in government environmental levies.
As in many European countries, British consumers are footing the bill for
subsidies introduced to encourage a move to low carbon power generation.
These are expected to increase to help bring on a new generation of
offshore wind farms and nuclear power plants.
But Citigroup analysts estimate that this financial support, combined with
government energy efficiency schemes, could push up bills 50 per cent by 2020.
It is a big change from a couple of decades ago. In the 1990s, British
consumers benefited from the country’s headlong “dash for gas”, when the
discovery of North Sea resources led to the building of gas-fired power
plants. Aggressive regulation of network charges, the fees paid for use of
pipes and wires, kept bills down.
Now the UK’s indigenous gas supplies are dwindling and power companies have
been forced to buy wholesale gas in the global market, where prices are rising.
Meanwhile, the government began requiring suppliers to reduce carbon
emissions in people’s homes, with the cost passed on to consumers. “As a
result, a vast chunk of the final bill is not in the control of the retail
utilities,” says Mr Abbosh.
Whatever the rights or wrongs of Mr Miliband’s proposed price cap, it
represents a radical break with the past.
“This appears to be a step back towards centralised control of the
industry, and as such is at odds with the direction Britain has been going
in since 1990,” says Robin Cohen, a partner at Deloitte economic consulting.
Mr Abbosh says: “If you’re challenging the whole idea of a competitive,
free market, you may as well just nationalise the whole industry.” .
Many warn that any talk of a price freeze may deter the billions of pounds
of investment that Britain urgently needs for new energy infrastructure.
Mr Cohen says: “If you’re going to intervene to constrain final prices,
investors will wonder what other mechanisms there will be to remunerate
them if their costs go up.”
The idea of a price freeze flies in the face of EU policy. Even countries
with state-owned utilities, such as France, are coming under pressure to
liberalise fixed electricity prices.
“Ever since the 1990s, the whole thrust of European law in this area has
been to dismantle price controls,” says Peter Atherton, a utilities analyst
at Liberum Capital.
. . .
Lights unlikely to go out, despite Californian experience
The combination of liberalised wholesale energy markets with
price-controlled retail markets, as proposed by Ed Miliband, the Labour
leader, has inauspicious associations, writes Ed Crooks.
That was the structure of California’s electricity market after its
pioneering move to partial deregulation in 1998, which was followed by an
energy crisis that hit the state in 2000-1.
However, significant differences between the UK and Californian markets
suggest that its experience will not necessarily be repeated.
California and other western states were hit by soaring prices and rolling
blackouts, starting in the summer of 2000, that continued until the state
imposed new regulations on its wholesale markets, including an obligation
on generators to supply power, in the spring of 2001.
The role played in the crisis by Enron, the fraudulent energy company that
went bankrupt in December 2001, became notorious. Its traders were caught
on tape gloating about stealing money from “the poor grandmothers of
California” by restricting power supplies into the state to drive prices
higher.
The US Federal Energy Regulatory Commission concluded in its 2003 report
that “flawed market design” was one of the factors that “made possible
significant market manipulation” in electricity and gas by Enron and other
companies.
The retail rate freeze, it said, was one of those flaws, because it
“insulated residential customers from high wholesale prices, thereby
thwarting the ability of price signals to shape and limit demand.”
However, California’s energy markets had plenty of other problems,
including inadequate gas storage requirements, excessive reliance on spot
markets for power rather than long-term contracts, and underestimates by
utilities of electricity demand.
As well as the weaknesses created by flawed market design, California’s
energy market was vulnerable because of the strains created by rapid demand
growth in the economic boom of the 1990s, insufficient investment in new
power plants, and random factors including the rupture of an important gas
pipeline, unusually high temperatures increasing the use of
air-conditioning, and low rainfall hitting hydropower generation.
With UK electricity supply going through a radical transformation to
increase the use of renewable energy, similar strains are not out of the
question.
However, aggressive market manipulation as seen in California seems
unlikely in the UK. The “big six” energy suppliers – Centrica, EDF, Eon,
RWE, Iberdrola and Scottish and Southern Energy – are all vertically
integrated. If they try to enrich their generation businesses, their retail
operations will suffer. If the lights go out, they will get the blame.
Copyright The Financial Times Limited 2013.
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