Ensuring Trust and Transparency in the Electricity Market
Catherine Mitchell, IGov Team, 28th February, 2014
Such is the life of an electricity nerd that pleasure can be gained from watching a spat between the Regulator Ofgem and the Labour Party. With no love lost between them, particularly since the Labour Party has said that they will replace Ofgem with a tough new energy watchdog, it was fun watching the press–releases ping out about transparency of prices on 26 February 2014.
Ofgem had published actions to improve the transparency of energy company profits. While most commentators, including the Labour Party and Which? said that the actions were positive, they also said that they were not enough. Ofgem then waded back in accusing the Labour Party and Which? of misunderstanding the barriers to competition that they, Ofgem, had identified and were tackling. Ofgem also, rather unbelievably, said their proposals went further than the Labour Party’s proposals for increasing liquidity, which Ofgem said the Labour Party refer to ‘as the pool’.
From an outsiders perspective, this was Ofgem being particularly sensitive given that the reality is they have been incredibly slow, if not inept, at keeping track of electricity prices and large company profits. Luckily for Ofgem, the focus of criticism, and interest generally, over the last year or so has more or less remained on electricity prices. But it is also true that Ofgem has been too relaxed about how much money companies are making, whether they be in the electricity or gas sector, and including the network companies. There was a short refocusing towards gas last week with the Centrica and British Gas profit announcements and DECC pressing Ofgem to look at the gas industry profits, but overall Ofgem has been pushed towards its actions rather than actively moved there themselves.
Having said that, Ofgem’s latest announcement on actions to improve transparency in energy company profits are useful. They are to increase auditor scrutiny; to undertake a transfer pricing review; and to establish greater insight into trading activities. All of this is good stuff but I agree with the Labour Party and Which? – this is not enough.
Essentially there are two basic concerns. One is about the transparency of prices (whether electricity or gas, wholesale and retail). But there is also the second (but not secondary) concern at the level of prices, and whether they are either artificially high (as a result of internal selling from the vertically integrated generation arm to the supply arm) or that they are higher than they might be were there greater competition and liquidity in the electricity markets. Ensuring transparency of prices is likely to help with the level of prices (through increasing competition and liquidity). Ofgem’s latest actions pertain to improving transparency as well as trying to gain ‘more insight’ into the second concern of level of prices.
By contrast, the key proposals in the Labour Party’s Green Paper in relation to these two concerns are: (1) to ring fence supply and generation businesses within vertically integrated companies; (2) improve competition and transparency in the wholesale market through an open pool; (3) increase transparency in the wholesale gas and electricity markets by formalising uncleared over the counter (OTC) trading (which can be interpreted in many ways); (4) simplify tariffs so consumers can compare prices and engage with the market; and as said above (5) abolish Ofgem and create a tough new energy watchdog. On this basis, Ofgem has not gone further than the Labour Party!
Moreover, while the Labour Party’s proposals do go some way towards improving transparency and liquidity, as yet, they also do not go far enough. They have asked for inputs into their consultation to help them finalise their energy policy. I would be arguing, briefly put here, to:
- Ring fence supply and generation businesses (as they have said they will do)
- Ensure that 100% of trades have to be external to generation and supply companies
- Ensure that exchanges publish all price and volume details
- Ensure that all contracted positions are known through a mandatory day ahead market (this is known inter alia as a ‘pool’; a ‘spot’ market’ (i.e. Nordpool); a must offer market (some US markets) etc) but the essential point is that the intention of this market (whatever it is called) is to create a liquid, accessible market with a transparent price from which other benefits flow (including other linked trades etc) (and again, I take this to be their points 2 and 3 above)
- Have an ‘independent’ market monitor
- Make sure transfer trading does not hide price or profits
- Separate the system operator (SO) arm from National Grid and make the SO a state-owned not for profit entity responsible for security and the technical transition, and bring the system operator and market operation (currently with Elexon) functions together in the SO
- Re-organise the regulatory structures and put in place Codes and Licenses which enable innovation and change and which do not protect incumbent interests (the fifth of the Labour Party points above)
- Firmly support retail competition, but regulate certain aspects including (1) moving to one year, fixed price contracts like annual contracts for insurance for cars, telephones etc which require a positive response to re-contract for another year, unless customers opt out; and (2) regulating comparison sites (the fourth of the Labour Party points above)
Time is moving on fast towards the election period. Energy, rightly, has become a central concern for society. The New Statesman recently published a redacted DECC document on the Labour Party price freeze proposal. Whatever anyone’s views, Ed Miliband’s Energy Reset speech has been good for shining a spotlight on Energy Policy and this, without doubt, has led to more vigorous responses from all sorts of actors about transparency of prices and profits, including this latest action by Ofgem.