New Thinking Blog: March of the market makers?

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on Jun 14, 13 • posted by

New Thinking Blog: March of the market makers?

Matthew-photo tinyMarch of the market makers?

Matthew Lockwood, IGov Team, 14th June 2013

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Ofgem’s new proposals for liquidity in the wholesale electricity market, out this week, have already attracted a lot of attention. The press release says that : “Industry has responded positively to some of the challenges Ofgem has set for increasing liquidity in the wholesale power market”, but reports are already filtering through that the Big Six are, not surprisingly, unhappy.

If the changes do come through, it is unclear what the implications would be for movement towards a more sustainable energy system, including more renewable generation, energy efficiency and demand-side response. In theory, a more liquid long-term market could mean less volatility in the day-ahead market, with fewer spikes in the reference price that will be used as the basis for the contract for difference (CfD) under the electricity market reforms, which would be good for renewable generators. But in practice the whole system could be vulnerable to gaming, and some smaller players, such as Ecotricity, remain sceptical.

More widely, if the reforms reduce barriers to entry in both wholesale and retail markets we could see greater genuine competition in the form of smaller, potentially more innovative actors entering on both the generation and supply sides – this is clearly what some of those actors hope for. However, if the more fundamental barrier to entry in retail markets is to do with the difficulty of gaining new customers in a market with low rates of switching, then improving wholesale market transparency isn’t necessarily going to help much.

At the same time, Ofgem’s approach begins to look slightly Heath Robinson in nature. There is no such thing as a natural electricity market – all around the world the structure of markets is created by regulation. In the case of Britain, the underlying market design (i.e. the New Electricity Trading Arrangements (NETA), subsequently extended to Scotland in 2006 as BETTA) has produced illiquidity and opacity. To address this by adding on a new market makers obligation seems like reacting to being in a hole by digging deeper. If you want liquidity and price transparency, why not have a pool arrangement or something similar, with a design that ensures sufficient entry and competition to avoid the gaming problems experienced last time round in Britain’s original 1990s Pool?

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