Select Committee on Trade and Industry Minutes of Evidence


Examination of Witnesses (Questions 500-519)

MR CALLUM MCCARTHY, MR JOHN NEILSON AND MR STEVEN SMITH

TUESDAY 4 DECEMBER 2001

  500. So you are developing the long-term auction as we speak?
  (Mr McCarthy) Yes.

  501. One other issue that also concerns us is the consultation on the gas balancing. I have your consultation document and I have finally got all the observations too and obviously one of the concerns is that you may have been trying to deal with one problem but you are creating an expense and a cost offshore. Is that something you take into account?
  (Mr McCarthy) Yes.

  502. Do you accept that one of the best things we could do for our security of supply is to maximise the exploitation of our own gas before we have to start importing?
  (Mr McCarthy) I am all in favour of that. Our concern about gas balancing, which is balancing within a day over a 24 hour period, is that one of the things that Ofgem is more concerned about than most people who discuss security of supply is just the on the day balancing within the gas network and between the gas and the electricity network.

  503. I do not want to drag the Committee down into too much detail on one aspect but I want to try to tease out how you look at the wider implications because if in the end you deal with your daily problem and produce a slightly better market to your satisfaction onshore, but the consequence is that an operator decides that the investment needed offshore to put the meters in or to meet your needs onshore means that there is no point operating that field, that closes down that field and the potential to maximise the exploitation of that production leading, obviously, to less security because we have to start to go into the European market sooner. Is that not a concern that you have to put in to the other side of the equation?
  (Mr McCarthy) It is certainly a concern that we have had in coming forward with the proposals and amending the proposals in the light of comments that we have received that we should take full account of the costs involved, not simply onshore in GB but also offshore. One of the things that we have been much concerned to do is to try and establish accurate estimates of both the physical costs of metering and the costs of making contractual changes if the original gas balancing proposals had remained unchanged, which incidentally they were not.

  504. On the Better Regulations Task Force recommendation that economic regulators should look at costs and benefits, is that something that you would welcome?
  (Mr McCarthy) We always try to look at costs and benefits. We always try and establish a clear rationale for what we are doing. We will undoubtedly work to do that more explicitly and more clearly. I actually have, in a rather "techie" way, a reservation about what is normally called cost benefit analysis because I think most people who use the phrase do not necessarily understand the full implications of it.

  505. Obviously people might get slightly cheaper gas bills but if the Chancellor does not get the tax revenue from the North Sea they will have to pay for that through higher tax bills in the long run and perhaps if they knew that they would not be so pleased with their cheaper gas.
  (Mr McCarthy) There are some bits of the computation which are probably beyond us.

Chairman

  506. Just on this question of balancing, you mentioned the Netherlands as a supplier but am I not right in saying that the Netherlands themselves are importers of gas and they use Norwegian and Russian gas for balancing themselves? This is a slightly different issue but this question of balancing is an issue for a number of countries, not least the Netherlands, if I can put it that way. Is that not a problem as well? You mentioned the Netherlands, I was surprised about their significance as a potential supplier given that they themselves import.
  (Mr McCarthy) I think you find that all the Benelux countries, because of their geographical position, are a hub for both gas and electricity but the Netherlands' reserves are very considerable.
  (Mr Neilson) They are net exporters as well.
  (Mr McCarthy) They have got very large reserves.
  (Mr Neilson) The Netherlands are net exporters. The figures here are that they consume 40 billion cubic metres a year and they produce 57 billion cubic metres a year.

  507. But they do use some foreign gas?
  (Mr Neilson) I am sure they do, yes.

  508. I just want to be clear.
  (Mr Neilson) They have got very substantial reserves, 1.77 trillion cubic feet.

Richard Burden

  509. Could we have a quick look at paragraph ten in your memorandum. This is in the section talking about whether there is a conflict between security of supply and environmental policy. In paragraph ten you make a fairly bold point that you think "effective competition and economic regulation save resources, have favourable environmental effects and lower prices to consumers." I can see the last one of those, if you have got effective competition then the prices will come down, but obviously one of the points that has often been made about that is that could actually be a disincentive to environmental conservation rather than an incentive to it. What would your view be on that?
  (Mr McCarthy) I think it is important to recognise those places where there is congruence between economic efficiency and the environment. One of the things that has happened in the decade since privatisation and as we have introduced effective competition into the generating sector is there have been very significant improvements in the efficiency of generating plant. That must be good for the environment in the sense that it means less gas is burnt for every electron that is produced, less steam is produced and so on. I completely agree that there is some elasticity of demand for electricity and gas and as those prices fall there will be greater consumption. I do not think it is to the benefit of the environment that there should remain substantial monopoly rents, which was the previous position. Ofgem has the responsibility of balancing various things in terms of the price controls we do for the monopoly networks, which I think we have done competently. It is open for the Government to take opposing action if it believes that the price has fallen below some socially desirable point, but it should not be for Ofgem.

  510. In terms of, if you like, the application of the price mechanism on the consumer, whether that consumer be industrial or domestic, I am just trying to understand what you are saying. Are you saying that you think it is legitimate to try and use price to encourage particular forms of behaviour amongst end users but it is not for you to say that, or are you saying you do not think that is a good way of doing it anyway?
  (Mr McCarthy) I think that is a perfectly proper decision of Government.

  511. Yes.
  (Mr McCarthy) But it should not be for a group of appointed members of an authority to make that decision because it is a central political decision.

Mr Hoyle

  512. In the case of generated electricity it is estimated that about nine per cent is lost in transmission and distribution. I just wonder how that can be reduced and what amount can be reduced and what would the cost be of that? I just wonder what contribution Ofgem has made on transmission pricing and what savings that can make?
  (Mr McCarthy) We believe that one of the things that is wrong, and has long been acknowledged to be wrong, particularly in relation to electricity, has been the absence of effective locational signals. If you look at Britain it is an incontrovertible fact that we have our generation and our demand located a long way from each other and one of the things that Ofgem is trying to do is to develop better locational signals to encourage the co-location, or closer co-location, of demand and generation. This is something that we are pressing forward with. I am afraid I do not have to hand the benefits that would be got from that but, if I may, I will give a note to the Committee.

  513. That is fine. Excellent. What do you think the impact of the Government's new Energy Efficiency Commitment will be?
  (Mr McCarthy) Because they are spending more money than was there under the previous regime I would expect it to be more effective. There is an interesting balance in terms of the objectives of energy efficiency in terms of if you wish to see, if I can put it simplistically, carbon, you would try to attack particularly rather heavy consumers, and if you are concerned about fuel poverty you will help people attack the problem in relation to places where the probability of saving in terms of carbon is relatively reduced but the benefits in terms of much greater comfort for people who live in very miserable conditions is very considerable. There is a difficult balance for DEFRA, which is now responsible for this, between those two objectives, just as there was a difficult balance for Ofgem when we were responsible for it.

  514. Do you think that we have got the balance right?
  (Mr McCarthy) I hope they will and I think they are going to.

  515. Could I ask Mr Neilson?
  (Mr Neilson) The objective of the new DEFRA scheme, which is a tripling of the previous energy efficiency standards of performance, is to save 400,000 tonnes of carbon each year which compares with 150 million tonnes which the UK produces overall. The target overall is to produce in the three years of the scheme 62 terawatt hours of fuel weighted energy benefit[2]. That is a very big energy saving. Some of that will be taken in savings in improved comfort, some of it will be taken in lower fuel bills, and half the savings have to be achieved in priority households which are households who receive a range of benefits.

Chairman

  516. On this question about transmission, one of the features of the UK is that the area where the greatest opportunities are for wind and wave power are in Scotland, which even within Scotland is not located too close to the centres of population, maybe because people in Scotland do not like living in places that are windy and wet. Notwithstanding that aspect of it, it is agreed that NETA has created some problems for renewables and you envisage bringing in `Jock Neta', or BETA, in the sense of creating a UK wide market. Do you envisage problems being created for the incorporation of the wind and wave capabilities that would be available in Scotland in the new BETA system that you are hoping to introduce?
  (Mr McCarthy) In one respect I think that if we have a nationwide transmission system, which is what we want to do, there will be benefits because, apart from anything else, it will give us means, it will give signals to encourage people to invest to eliminate some of the constraints that exist which are important constraints on the Scottish/English interconnector and elsewhere in the North of England. I do not think that it is the introduction of the arrangements that we propose that will cause problems but it is a fact that we have too much generation in the north at the moment and if we add to generation there it is less effective than adding to generation in other places in Britain. That is just a fact of geography and where the economic demand is.

  517. Do you see the prospect of there being any hope of great improvement in the performance of transformers, which I am led to believe are really the points in the system from which electricity is lost? It is not the wires, it is the transformers. Apparently it is something to do with the laws of physics but certainly I am not equipped to wander down that particular cul-de-sac today. Do you anticipate there being a capability for change and making that more efficient? Maybe you could incorporate that in the written reply you give us on this issue.
  (Mr McCarthy) If I may, Chairman, I will do that rather than hazard an answer. It is complicated.

  518. For both of us, yes.
  (Mr McCarthy) I would say, Chairman, that I think one of the most important changes is the prospect of actually getting storage of electricity as an effective and economic event. One of the things that is interesting is that for the first time ever there are proposals coming forward in this country for investment on a significant scale in storage which if that comes about will actually revolutionise the position of renewables.

Mr Lansley

  519. Your memorandum to us speaks of the benefits of competitive markets and effective regulation. Of course, the regulation that you seek to implement is principally intended to ensure that those competitive markets and the benefits that flow from them are not distorted. In so far as that implies trying to prevent dominance and abuse of a dominant position, why is it not also the case that you might look forward to the future and see a position where a particular source of fuel supply, that is gas, would be effectively in a dominant position even if not in the hands of one dominant supplier, and therefore lead to a distortion of competitive markets? Why do you not see that contradiction beginning to emerge between your two objectives?
  (Mr McCarthy) Because the evidence at the moment and the evidence over any timescale where I think it would be reasonable for Ofgem to take action does not justify that action. At the moment we have a more balanced supply, greater diversity, in our energy than has occurred at any time in British history.


2   Note by witness: This target will be achieved over the lifetime of the measures which are installed during the three years of the Commitment. Back


 
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