Discussing Energy Economics on the Internet

Ofgem Moves on Retail Prices

Posted in Retail,UK by Cheryl Morgan on the October 6th, 2008

Since February of this year the UK energy regulator, Ofgem, has been conducting an inquiry into the prices charged to retail customers. Their report was released today. The text is available online here. Ofgem has not found any evidence of price fixing by retailers, but it has raised a number of concerns about the market. Here are a few highlights.

Ofgem notes that with 6 major companies in the market, energy supply is actually rather more competitive than similar consumer services such as telecoms, television, supermarkets and banking.

Nevertheless, retail energy markets are still heavily concentrated and new entry has proved almost impossible:

Most new entrants over the past decade have subsequently exited for a variety of reasons – some unrelated to the functioning of GB energy markets. Those that remain serve less than 0.3 per cent of the market.

With a switching rate of 18% the UK leads the world in active consumer choice for energy supply. Nevertheless, 18% is still woefully low and large numbers of consumers still pay more than they need to. Also the vast majority of consumers claim to be interested only in price. Issues such as quality of service and green power offerings are not an obvious influence on the market, although subconscious effects such as brand marketing may be at work.

Companies continue to operate pricing regimes that do not appear to be related to cost of service. For example, higher prices are charged to consumers who have been with the company since pre-competition days compared to those in other regions of the country. Also customers who, for various reasons, are unable to qualify for a discounted “dual fuel” deal on both gas an electricity are charged significantly more for electricity-only deals. And companies appear to be operating “bait and switch” operations online whereby customers are offered very cheap initial deals which may even be below cost, and only make profits by raising prices for those customers in later years.

The issue that has gained most attention in the media, however, is that of pre-payment meters. Companies have always argued that customers with poor payment records need to be put on pre-payment meters to secure revenue, and that pre-payment customers are more expensive to service and should therefore pay a higher price. Ofgem responds that poorer customers often go onto pre-payment meters voluntarily to help them manage their budgets, and that the higher prices charged to such customers are well beyond what is required to cover additional costs. A significant action point from the report is:

We will propose a new licence requirement on suppliers that differences in charges for different payment types must be cost-reflective.

Ofgem will also take action to help those customers who are stuck on high tariffs for various structural reasons such as being in remote rural areas, not being on the Internet, not having bank accounts and so on.

Such actions may not be enough for social campaigners, however. Gordon Lishman, director general of Age Concern told the BBC:

… much wider reforms are needed. It is particularly vital that social tariffs are made fit for purpose, and are made mandatory through legislation, so that the poorest consumers get the cheapest energy rates.

In other words, Age Concern wants retail energy prices mandated by government as a form of wealth redistribution. In addition two other charities, Help the Aged and Friends of the Earth are intending to sue the government for failing in its duty to end fuel poverty. As the BBC reports, eight year ago the UK government made a promise to end fuel poverty for all consumers by 2016 and for vulnerable groups by 2010. With energy prices rising worldwide the UK is actually going backwards on attempting to meet this pledge, and the two charities want a High Court judicial review to force the government to put more effort into meeting the targets.

Update: Platts has more to say on the market concentration issues, including the HHI numbers, which are not pretty.

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