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Has Ofgem lost faith with competition?

11 June 2010

I've been trying to understand how energy regulation has changed in the five years that I was away from the energy sector. I started by looking at a number of recent Ofgem documents. Here are some quotes:
"There is an increasing consensus that leaving the present system of market arrangements and other incentives unchanged is not an option." (Project Discovery)
"We are now setting out for consultation policy options which we will progress if market initiatives do not show clear signs of delivering in the course of this year." (Electricity liquidity)
"The RPI-X price control mechanism, which has been successfully used by regulators for over 20 years, needs to be changed." (RPI-X@20)
"In Ofgem's code governance review we are therefore proposing a role for Ofgem to lead significant code changes." (Governance)
These documents all have common features. The status quo is not an option. Competitive solutions are not preferred. And Ofgem is central to the proposed solution.
Can this be right? At a time when Ofgem is to become judge and jury under its governance proposals, it is fair to examine its track record.
On transmission access, Ofgem pushed for auctions but the industry wanted pragmatism in order to get generators connected. The Department of Energy and Climate Change (Decc) agreed with the industry.
On gas capacity, as North Sea flexibility reduces, the need for system flexibility increases. However, Ofgem's reforms of gas exit capacity resulted in interruptible customers - a vital source of flexibility - becoming firm.
On metering, Ofgem allowed National Grid to enter into long-term contracts, then found that these same contracts were in fact demonstrations of market dominance. It was not surprising that, while finding in Ofgem's favour, the judges found Ofgem's behaviour surprising.
On Project Discovery, within a couple of months of this document, Decc and the Treasury had concluded that Ofgem options such as the single buyer and strategic storage were non-­runners - but the damage in terms of undermining competition had already been done.
Meanwhile, other issues that fall within Ofgem's purview are not addressed. For example, when will gas quality be sorted? It has been in the "review" in-tray for at least ten years. And since the nature of gas entry points is changing, losing fast response capability, why hasn't 20 years of price controls in the transmission network delivered the flexibility the system needs?
Ofgem has become too big, with too many civil servants thinking of things to do.
There are plenty of things that could be done, but that is different from what needs to be done. For example, an Ofgem decision recently allowed one of the regulated companies to re-open its price control for the sum of £300,000. Can this level of micro-management be right? The salaries involved in making this decision must have been more than the decision itself.
The unfortunate thing is that Ofgem is doing some really good work. The analysis (rather than the conclusions) of the Discovery document was a thorough consideration of the uncertain future. Likewise, the RPI-X@20 document was an excellent summary of all the differing price control methodologies.
It is, however, the turning away from the competitive market that is of most concern to the Gas Forum. This is highlighted most of all in the Discovery document. Here, the amazing success of the competitive market in bringing gas and infrastructure to the UK has been almost set aside, in favour of the contention that "something must be done". While Ofgem's wilder proposals have been overruled by the government, the conclusion is that the market cannot be relied upon. If the regulator or government believes this, they will act to intervene - causing the very failure that is foreseen.
The Gas Forum is clear that the competitive gas market remains the best way to ensure that gas and infrastructure is delivered to the UK. However, a predictable investment climate is key to incentivising such delivery. It is therefore imperative that Ofgem and the new government act with all haste to return the energy market to the relatively stable framework that existed until fairly recently.
Kyran Hanks, spokesman for the Gas Forum
Source: Disconnector

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