Regulating Power

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Another ‘Big Six’ Row

 

Another winter, another ongoing row between the Government, the Opposition and the ‘Big Six’ over the rising price of energy. Five suppliers have raised the price of gas and electricity by almost 10%, minus a ‘saving’ from moving ‘social charges’ onto general taxation. Consumers are displeased, to put it mildly.

Two questions seem to arise:

  • Who is to blame;
  • What can be done about it?

Agreed, we cannot really blame the Government or the Opposition for rising world energy prices. Arguably, the Conservatives began the damage by privatising the utilities when they were in office from 1979-97. But the initial privatisation gave us 12 regional electricity suppliers which were subject to retail price regulation and had the same boundaries as the previous Area Boards.

The present structure, featuring the Big Six, was left to develop between 1995 and 2002. It provides neither effective competition nor effective regulation [1]. Given that the Conservatives were in power from 1995-97 and Labour from 1997-2002, maybe we should blame both of them? [2]

 

Reform

 

But what can we do about it? To make things better – or less bad – I have a boring, unexciting suggestion. This is to revert to the retail price regulation and structure that we had for 12-15 years after privatisation.

England and Wales still have retail price regulation for water. In each region, there is one privately-owned, vertically-integrated supplier, one tariff and retail prices are controlled. Can somebody explain why it was such a bright idea to move away from this with energy?

Re-regulation would cost nothing. Margins and prices would almost certainly fall from current levels [3]. Better still, if companies again have defined supply areas, the regulator can require each one to invest in ‘negawatts’ on consumers’ premises and to meet specific energy efficiency and CO2 reduction targets. This leads to large savings on bills and large reductions in emissions [4].

 

‘Foreign’ Utility Regulation

 

This more interventionist approach typifies utility regulation in California. The most successful tactic that its utility regulator ever devised was to allow private utilities to keep 15% of the extra net profits which they made by investing in ‘negawatts’ instead of in costly new power stations. If such an electricity supplier meets its energy efficiency target, everyone wins in the form of:

  • Lower CO2 emissions for the planet;
  • Higher dividends for shareholders;
  • Lower bills for consumers than if the utility had not invested in energy efficiency [5].

 

Laissez Faire

 

Under our laissez faire approach, no energy supplier has a financial incentive to invest in measures which reduce consumption. To meet its legal duty to its shareholders, the only way for an investor-owned, deregulated supplier to behave rationally is to sell more kilowatt-hours [6]. The more that its sales grow, the more CO2 it is set to emit.

More CO2, anyone?

 

 

Notes:

 

[1] The structure of the industry in the years between privatisation and 1995 reflected an attempt to reduce the scope for market manipulation. The suspected result of the present structure which developed after 1995 is ‘transfer pricing’ within subsidiaries of vertically-integrated companies which seek to understate profits and neutralise outside criticism. See http://blog.abundancegeneration.com/2014/01/the-secret-self-supply-of-britains-big-six-energy-giants/.

There is nothing wrong per se with vertical integration if a system is effectively regulated and/or publicly-owned. Under public ownership, Scotland was vertically-integrated but England and Wales were not. A vertically-integrated utility which succeeds with energy efficiency programmes can delay construction of its own power station(s) rather than incur the cost of re-negotiating contracts with separate generating companies.

[2] The companies which own the gas and electricity transmission and distribution networks are still regulated. But given the pattern of ownership that developed, one doubts whether this is as effective as regulation of the pre-1995 structure.

[3] Generation margins, especially, would be lowered. A more regulated situation tends to reduce business risk, lower the rate of return needed on assets and increase the time horizon over which investments can be paid for.

[4] The author suggested this initiative in LESS IS MORE: Energy Security After Oil, report published by the AECB (February 2012).

[5] Investment in more energy-efficient lighting systems may cost, say 1 to 5 pence per kWh saved. This is less than delivered electricity from new power stations, which may cost 10-15 p/kWh. If the first technology displaces the second, consumers’ bills fall.

[6] No matter what assurances it has given to the government. The Secretary of State for Energy recently pleaded with the big Six to behave differently but seemed unaware that a UK company’s primary legal duty is to its shareholders, not its customers.

 

 

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