Ed Miliband’s energy price freeze promise last winter gained popular support from households struggling with rising fuel bills – but many in the industry merely shook their heads in dismay.
Last year’s Energy Act looked set to inject some certainty into the industry and clear the path for billions of pounds of investment in new energy infrastructure.
But the reaction of most investors to Labour’s proposed 20-month price freeze was to run for cover, and last month’s announcement of an Ofgem-prompted competition inquiry heightened that sense of wariness.
Many now fear the resulting uncertainty will paralyse significant new investment in UK power generation capacity – which is disconcerting as the UK faces serious capacity issues from this winter onwards.
Ian Fells, emeritus professor of energy conversion at Newcastle University, said: “The investigation by the Competition and Markets Authority is not due to be completed until the end of 2015. This means that vital investment in new electricity generating capacity will be delayed until sometime in 2016 when the dust will have settled.
“The major short-term investment required is for the provision of additional generating capacity to bring up the pitiful figure of 2% spare capacity to an acceptable figure of 15 to 20%. The position is urgent and critical; the lights may well go out, it is like living in a third-world country. Medium and long-term energy policy cannot be left solely to the market, which is essentially short term in its action.
“There has to be informed intervention, leading to long-term stability, with subsidy where necessary.”
Paul Verill, director of Yarm-based EnAppSys, a firm of energy data analysts, said: “The inquiry will cause a degree of stasis in the supply market with the Big Six being unlikely to make any particular changes or implement new initiatives, as these would be unlikely to be completed in the inquiry period and, in any event, the inquiry may end up recommending changes which would undo any new moves.
“Also, there is the danger that any changes from the current practice may appear to be reaction to the inquiry and that they were not doing things correctly in the first place.”
Many argue a competition inquiry is needed to help the sector regain the confidence and trust of British households.
James Bryce, head of the energy team at Newcastle-based Square One Law, said: “The rising cost of energy and a perceived lack of transparency from energy suppliers have given politicians a stick to beat the industry with, but hopefully the CMA competition investigation will create a more stable and trusted energy market for consumers and industry.
“While this investigation may partly be driven by the political scrutiny placed on the sector in recent months, it is not something the industry objects to.
“Indeed, stakeholders including the ‘Big Six’ suppliers and consumer groups had suggested, prior to Ofgem’s announcement, that a competition investigation might prove necessary to restore consumer trust.”
This seems to be the position the energy market regulator Ofgem is taking. On announcing the investigation last month, it said the move was designed to “rebuild consumer trust” in the sector.
The energy regulator said its recent assessment of the energy market, prepared with the Office of Fair Trading and CMA, had showed that competition was not working as well as it should for consumers.
“It showed increasing distrust of energy suppliers, uncertainty about the relationship between the supply businesses and the generation arms of the six largest suppliers, and rising profits with no clear evidence of suppliers reducing their own costs or becoming better at meeting customer expectations,” it said.
One of Ofgem’s central concerns is the structure of the market, which allows big companies to be both energy generators and suppliers to households. It wants the CMA’s investigation to examine how this works and whether the relationship should be broken up.
“It could lead to a major structural change in the industry and indeed the energy companies themselves,” Ofgem’s chief executive Dermot Nolan told the BBC’s 5 live Money.
Verill said: “Possibly the main issue facing the inquiry is the separation of the trading functions from the supply companies, and some of the trading functions being based outside of the UK.
“This arrangement allows ‘transfer pricing’ and could be used to offshore profits and reduce the supply companies’ profits.
“Vertical integration, where the generation of energy sits in the supply companies and in effect is not offered in the open market, means that the wholesale price that feeds in to all energy costs is a price based upon only the sale of power volumes at the margins and not the whole volume of power sold in that particular period.”
It is this lack of transparency that has led to accusations, notably from shadow Energy Secretary Caroline Flint, that the ‘Big Six’ are making excess profits at the expense of bill payers.
Tony Trapp, managing director of renewables business Osbit Power of Riding Mill, who was at the forefront of the development of the region’s world-leading subsea oil and gas industry, questioned these claims.
He said: “The UK has neglected to maintain a proper energy policy and strategy for some decades and we now face the prospect of under-capacity at a time of rapid economic growth, coupled with a rapidly expanding population.
“A two-year CMA enquiry should not be used as an excuse to yet again delay hard decisions about energy policy and strategy, as urgent investment is required now.
“I believe that energy company profits are not large when compared with other industries, and UK energy prices are not high by European standards. However, energy companies must be held to account and there must be checks to ensure that the market operates in a fair and open way.
“Arbitrary price freezes driven by political expediency will damage the market and deter much-needed investment.
“Energy businesses have to ensure the safe continuity of supply in all conditions and take account of changing climate and environmental requirements. They also have to be profitable and this should ensure that they operate efficiently in a competitive market.”
Verill believes there needs to be a shake-up in the way energy is traded, enabling the process to becometransparent.
He said: “The market is quite transparent for large consumers of electricity. For users with less consumption – small business and residential customers – the market is confusing and poorly served.
“The market is dominated by OTC (Over The Counter) trading – that is the trading which is done behind closed doors with parties they have a relationship with – which means that new entrants into the market find it difficult to lock prices over the long term, as they cannot secure the volume due to not having the relationships in place.
“More transparency is needed with all volumes traded through open access exchanges or else offered to the market equally, irrespective of subsidiary and affiliate relationships.
“The results of all trades and deals should be made public, or provided to the regulator, to enable accurate wholesale market prices to be determined and tracked, allowing regulators to hold the market to account.
“Currently, if suppliers fail to pass on reductions through to the consumer as the wholesale price drops, the suppliers claim they are locked in at a higher price and therefore there are no price reductions to pass through. This is all symptomatic of there being no transparency of what the true price suppliers pay in the market is.”
The energy companies have welcomed the referral, which they believe is the only way to address increasing political criticism and rid the industry of uncertainty that they could be forced to break up their generation and supply businesses.
Vincent de Rivaz, EDF Energy’s chief executive, has been calling for an independent investigation into the market since 2011, said: “We will approach the investigation with an open mind, and will not be defensive. This inquiry should help identify where the market can work better for customers and strengthen areas in which it already works well.”
Sam Laidlaw, Centrica’s chief executive, said the company“welcomed” the investigation. “We want an energy market that is trusted by customers, and we believe that an in-depth and thorough review by an independent and respected authority can help to achieve this,” he said.
The company, which owns British Gas, has delayed plans to invest in gas-fired power stations, citing uncertainty triggered by Ofgem’s initial call for an inquiry. Bryce added: “The main concern is the continued market dominance of the Big Six and that these suppliers could be charging higher prices to some customers, while making cheaper deals available to others. In addition, recent research has indicated that surcharges for inherited customers had trebled over the preceding three years.
“While the investigation will look into these issues, they will remain at the forefront of political debate, with Labour attacking the Coalition’s management of industry regulation, which will only serve to influence public perception of the state of the industry, rather than waiting for the conclusion of the investigation.
“The short-term impact on the industry will come from the continued uncertainty among investors about long-term supply security, which has the potential to lead to further delayed investment in new energy generation infrastructure.
“Hopefully, this investigation will provide some rational analysis of the energy market that will provide the certainty investors have called for and the trust required from consumers and politicians.”
Carlton plans to build new power plant
A North East company is at the forefront of multi-million pound developments designed to ensure the country’s lights stay on over the coming winters.
Carlton Power was instrumental in developing the Carrington Power Station in Manchester, which is set for completion late this year and is the only new independent power station to start construction in the UK since 2008.
Stokesley-based Carlton also has plans to develop a second power plant – Trafford Power – on land next to Carrington station and has welcomed last week’s Government announcement aimed at securing sufficient electricity capacity over the coming winters.
Last week, the DECC unveiled details of the Capacity Market and confirmed the amount of capacity which will be procured in the first auction to be held in December 2014, with Carlton saying it intends to bid its 2000MW Trafford Power project into this. Trafford will be the first station in the UK specifically designed with the flexibility and fast start-up times required to support the expanding intermittent renewable generation such as wind and solar.
Mike Benson, business development director at Carlton Power said: ‘We are delighted that the Government’s Electricity Market Reform programme has now reached a position which means that Carlton Power will be able to bid in the first Capacity Market auction and deliver our Trafford Power project in Manchester by 2018.
“Following the minister’s confirmation of the Demand Curve Parameters for the first capacity auction in December 2014, the Capacity Market is now ready to attract new independent generators and investors into the UK energy market and ensure we keep our lights on.”
The Government recognises that it is vital for new gas-fired power stations to be constructed to replace the 11GW of coal-fired power stations that are being forced to close by EU regulations, as well as older and less efficient gas plants.
The new plant proposed at Trafford by Carlton will utilise the latest generation of gas turbines with an efficiency approaching 61%, an increase in efficiency over the first generation of gas-fired power station of more than 20%.
However, Carlton has asked the Government to heed a warning in order to ensure the investor focus developed over the past 12 months is not squandered by any delays to the planned auction date.
It has also expressed its concerns over comments from the DECC at the weekend that only existing capacity may be considered for this winter’s auction.
However, a spokesman for DECC said: “The Capacity Market auctions to be held later this year are technology neutral, which means that coal, gas, nuclear can all apply. This will include both new-build and existing power plants.”
“Only plants that are already receiving other types of support – such as the existing Renewables Obligation or the future Contracts for Difference – will be ineligible to take part.”
Benson added: “We are now at a critical stage of the legislative process. Any further changes or disruption to the current timetable would be to the detriment to UK PLC and could seriously damage the confidence of new investors.
“We strongly feel that, whilst EU approval is an important step which needs to be fulfilled before new projects can be financed, the need for such approval should not be used as a reason to further delay the delivery of the Capacity Market auction.”
The cost of arranging the back-up power via the capacity mechanism is predicted by DECC to add £2 per year to the average consumer’s energy bill.