The retail market roadmap is missing, says Economic Insight director James Harvey.
Last month, the Department for Energy Security and Net Zero (DESNZ) published its Ofgem review. It notes that the introduction of the price cap in 2019 “was a significant intervention in the market, which continues play a key role in how the market is structured and regulated”. It’s right about that. A recent report published by Energy UK notes that “the price cap now covers over 50% of households”.
Despite the profound importance of the price cap for the retail market and so Ofgem’s oversight of it, the review says nothing concrete about the effectiveness of the price cap – or its possible future.
Instead, the review reiterates the commitments made in the Regulatory Action Plan, which included that “Ofgem will ensure that the price cap continues to protect consumers who are not able to engage, but that it can adapt to a changing market” and “DESNZ will work with Ofgem over the next 12 months to consider the future of the energy retail market”.
But what is needed is a concrete plan – a roadmap – for how we will move from the retail market regulation we have today, where the price cap has an outsized role, to the retail market regulation we need.
The roadmap should include a holistic evaluation of the price cap
The roadmap should include a holistic evaluation of the current price cap, including a critical examination of its objectives, whether they are still relevant and being met, and whether it is of appropriate scope and design. The evaluation should reexamine whether the benefits of the price cap outweigh its costs in view of the market changes that have occurred since 2019 and those expected and desired over the next five to 10 years.
There is some guidance from the past. When the Competition and Markets Authority (CMA) concluded its investigation of the energy market in 2016 and recommended the introduction of a pre-payment price cap, it also discussed the costs and benefits of a broader price cap.
It said: “The majority of us concluded that the disadvantages of attempting to address the detriment of all SVT [standard variable tariff] customers through a price cap would exceed the benefits, believing that attempting to control outcomes for the substantial majority of customers would – even during a transitional period – undermine the competitive process, potentially resulting in worse outcomes for customers in the long run. This risk might occur through a combination of reducing the incentives of customers to engage, reducing the incentives of suppliers to compete, and an increase in regulatory risk.
“The majority of us considered that once the principle of such a highly interventionist remedy to deal with weak customer engagement is established, it inevitably increases the risk of further such interventions in the future, with ongoing harmful effects on engagement and supplier incentives.”
Re-reading the above paragraphs nearly a decade on, it is hard not be struck by the accuracy of their gloomy predictions, including that descoping or removing price caps would be difficult because they tend to create their own demand.
Would anything that has happened since 2016 reverse the CMA’s evaluation of the costs and benefits, or alter the dissenting opinion? Perhaps the costs associated with a loss of pricing flexibility are higher now than they were then? Perhaps the benefits associated with consumer protection will be more limited when Ofgem can directly enforce consumer law?
It is hard to say without doing the analysis. But what is certain is that today’s market conditions and priorities are very different to those of 10 years ago. A holistic evaluation is required – piecemeal technical reviews resulting in an on-going volley of ad-hoc design tweaks to the existing price cap will undermine customers’ interests.
We need to talk
But it’s not all gloomy. Properly empowered and independent regulators can tackle difficult and emotive topics, invite and transparently report internal and external differences of opinion, and reach well-understood and reasoned conclusions – even if some dissent remains. And this is what Ofgem must now do.
