The Committee consisted of the following Members:
Kate Emms, Alison Groves, Committee Clerks
† attended the Committee
Rt Hon Edward Davey MP, Secretary of State, Department for Energy and Climate Change
John Hayes MP, Minister of State, Department for Energy and Climate Change
Philip Dunne MP, Parliamentary Under-Secretary of State for Defence
Emily Bourne, Electricity Market Reform Programme, Department for Energy and Climate Change
Nick Winser, Executive director, National Grid
Keith Anderson, chief Corporate Officer, ScottishPower
Sue Wheeler, Head of Electricity Market Design, Centrica
Sara Vaughan, Director of Strategy and Regulation, E.ON UK
Andrew Wright, Senior Partner, Markets, Ofgem
The Chair: Before we begin, I have a few preliminary announcements. As usual, hon. Members may remove their jackets. Will they please ensure that mobile phones, pagers and so on are turned off or switched to silent mode. As a rule, I and my fellow Chair do not intend to call starred amendments that have not been tabled with adequate notice. The required notice in Public Bill Committees is three working days, so amendments should be tabled by the rise of the House on Monday for consideration on a Thursday, and by the rise of the House on Thursday for consideration on a Tuesday.
Not everyone is familiar with the process of taking oral evidence in Public Bill Committees, so it might help if I briefly explain how we will proceed. The Committee will first be asked to consider the Programme Motion on the amendment paper, for which debate is limited to half an hour. We will then proceed to a motion to report written evidence, and then to a motion to permit the Committee to deliberate in private in advance of oral evidence sessions, which I hope we can take formally. Assuming that the second motion has been agreed to, the Committee will move into private session. When the Committee has deliberated, the witnesses and members of the public will be invited back into the room, and our oral evidence session will begin. If the Committee agrees the programme motion, it will hear oral evidence this morning. I call the Minister to move the programme motion in his name.
(3) proceedings on consideration of the Bill in Committee shall be taken in the following order: Clauses 1 to 3; Schedule 1; Clauses 4 to 31; Schedule 2; Clauses 32 and 33; Schedule 3; Clauses 34 to 38; Schedule 4; Clauses 39 and 40; Schedule 5; Clauses 41 to 54; Schedule 6; Clauses 55 to 57; Schedule 7; Clauses 58 to 62; Schedule 8; Clauses 63 to 79; Schedule 9; Clauses 80 to 85; Schedule 10; Clauses 86 to 93; Schedule 11; Clause 94; Schedule 12; Clauses 95 to 107; Schedule 13; Clauses 108 to 117; Schedule 14; Clauses 118 to 126; new Clauses; new Schedules; remaining proceedings on the Bill;
(3) proceedings on consideration of the Bill in Committee shall be taken in the following order: Clauses 1 to 3; Schedule 1; Clauses 4 to 31; Schedule 2; Clauses 32 and 33; Schedule 3; Clauses 34 to 38; Schedule 4; Clauses 39 and 40; Schedule 5; Clauses 41 to 54; Schedule 6; Clauses 55 to 57; Schedule 7; Clauses 58 to 62; Schedule 8; Clauses 63 to 79; Schedule 9; Clauses 80 to 85; Schedule 10; Clauses 86 to 93; Schedule 11; Clause 94; Schedule 12; Clauses 95 to 107; Schedule 13; Clauses 108 to 117; Schedule 14; Clauses 118 to 126; new Clauses; new Schedules; remaining proceedings on the Bill;
Examination of Witnesses
The Chair: Good morning again, ladies and gentlemen. We will now start our oral evidence session, with Edward Davey, MP, the Secretary of State for Energy and Climate Change, and Philip Dunne, the Parliamentary Under-Secretary of State responsible for defence equipment, support and technology at the Ministry of Defence. Mr John Hayes is also here to answer questions, as is Emily Bourne.
Before calling the first Committee member to ask a question, I remind everyone that questions should be limited to matters within the scope of the Bill and that we must stick strictly to the timings in the programme motion to which the Committee has already agreed. I hope that I do not have to interrupt mid-sentence but, obviously, I will if I feel that people are speaking out of order, although, because I know the members of the Committee, I am sure that none will do so.
The first question will be asked by Tom Greatrex. I should say to the members of the public that we have already agreed some broad headings, so that we can have some continuity in our questioning. We will start with the need for electricity market reform.
Q 1 Tom Greatrex (Rutherglen and Hamilton West) (Lab/Co-op): I thank the Secretary of State and his Department for providing an impact assessment. He said on Second Reading that he would do so before we started in Committee and he managed to meet that by 18 hours, which is significantly better than the Department for Work and Pensions last week, so I congratulate him on that. May I start by asking the Secretary of State about the impact assessment. In table 19, there is a distributional analysis that looks at the impact both on consumers and on producers and indicates that the producer surplus, defined as the profitability of the generation sector, has increased significantly between the last impact assessment and this one. Can he tell us why?
Mr Davey: If you look at the net present value calculations from this impact assessment compared to the others, that has increased, and obviously that is good news. That relates to your question about producer surplus. The increase is due to a number of factors, but the main factor has to do with the overriding reason for the Bill, which is about the contract for difference investment mechanism, the aim of which is to reduce the cost of capital. That calculation, in our new modelling, results in higher savings, so that is showing that it will send the right signals. When you look at the detail, it shows that some of the savings have been calculated from 2014 when previously they were not, because a lot of people are looking at project financing decisions earlier on. That is really what has driven the increase in the net present value and it is therefore linked to the producer surplus.
What is difficult to model is how that will then pass through to consumers. I know what lies behind your question: you would like that saving—I would like that—not just to go to the producer, but to come through the system. That is quite a difficult modelling
Emily Bourne: The key tables to look at are probably tables 17 and 18, which look at the distributional impact of the EMR package against the two different base cases that we use for the IA, under an emissions intensity of 100 grams of CO
2per kWh in 2030. These tables show that the net impact of EMR is a positive impact on the consumer surplus under both base cases. The change to the producer surplus varies between the two base cases. In base case A, it starts off negative and becomes positive. In base case B, the change to the producer surplus is negative.
Q 2 Tom Greatrex: That is very useful, but could I ask the Secretary of State this question. In terms of the second part of this—the impact and how that will potentially be passed on—what comfort can we offer consumers that the Bill will not result in a significantly increased rate of profit for big companies and to consumers not being any better off?
Mr Davey: One of the aims of the Bill is to make sure that energy bills do not go up as much as they otherwise would if we did not take this action. You will know that we have three core objectives for energy policy: energy security, decarbonisation and affordability. In trying to meet those three objectives, the Bill, with contracts for difference at the heart of it, is trying to make sure that we can attract all the investment that is needed—tens of billions of pounds of investment—without it massively increasing bills. We already know, through National Grid and Ofgem, that the cost of replacing a lot of the network is increasing bills. That means that we have to be extraordinarily careful, in this new regime, to make sure that the investment is attracted at the least cost and is as competitive as possible. I do not think that this regime will mean that people will make supernormal profits. We need to attract investment, but ultimately only competition will ensure that the consumer gets the best deal.
Mr Hayes: It also depends on how you see the relationship between the cost of capital and the health of the market and prices. The aim of CFDs is of course to create more stability, but they will also—this is reflected in the revised impact assessment in respect of the cost of capital—have an important role to play in making investment happen affordably. The effect, read from that and from what in the end consumers pay, is important. It is tough to model, as the Secretary of State has said, but it is critical that we build as much clarity and certainty into long-term investment assumptions as possible.
Q 3 Barry Gardiner (Brent North) (Lab): Secretary of State, you have said that the 2030 or fifth carbon budget has yet to be set and, because of that, that it would be premature to fix a carbon intensity target, but the
Mr Davey: You mentioned that in your remarks, and I have to say that I disagree with you. We had a record amount of investment—a 20-year high—last year. This Bill aims to increase that, because we have such a gap. There was too little investment in the past decade, and we have to turn that round, which is what the Bill is about.
Mr Davey: People need to see the difference between the carbon budgets under the Climate Change Act 2008—they are economy-wide, UK-wide targets—and the debate around the decarbonisation target, which is a sectoral target beneath that overarching target. When we looked at this, there was debate about whether we should have any sectoral targets at all, because we have the economy-wide target, which we all strongly support: we all or almost all—everyone but three Members of Parliament—voted for the Climate Change Bill. My view is that we need only a small number of targets, but there is a very strong argument for having a decarbonisation target, which is why we will put that power in this Bill. We will table amendments, we hope by 5 February at the latest, for the Committee to consider.
We therefore think that there is a need for a decarbonisation target. I think that, like the EU 2020 renewables energy target, it needs to be one target for the sector, not a whole series of sectoral targets, and that it needs to be far enough away, at a period such as 2030, which is what the whole debate has been around. If we were to set targets for 2020, 2025 and 2030, that would be quite unhelpful, not least because we need long time scales. Such investments are lumpy, and it is quite difficult to deal with a whole series of separate time scales, as you suggested, Mr Gardiner.
Q 6 Barry Gardiner: Secretary of State, you have suggested that it is a series, but it is not; it is a choice. You have said that you have not got a carbon budget in place for 2030, but that you have one for 2025. You are saying that you want to delay taking a decision about a 2030 target, but you could now take a decision about a 2025 target. The reason for the carbon intensity target is to ensure that there is certainty for the sector.
Mr Davey: You could set a decarbonisation target for the power sector now. In my response, as you quoted, I said that I think that it is more logical to set it at the same time as we set the fifth carbon budget, which is in 2016. What I am not saying, for the record—I hope this is helpful, Mr Gardiner—is that you do not have to wait until 2016. There is nothing stopping you setting one earlier.
Q 7 Dan Byles (North Warwickshire) (Con): Further to that, Secretary of State, are you basically saying that although the 2030 decarbonisation target might be useful at some point to set a long-term direction, the decisions on investment now are more likely to be made on nuts and bolts, such as the CFD, the levy control framework, the counterparty, rather than on a long-term big picture target—in terms of investor confidence?
Mr Davey: I think you need both. Unless you change the overall shape of the electricity market and the way investment comes, especially with the CFDs that can lower the cost of capital because of the greater certainty and the greater predictability of the revenue, I do not think that you will see the investment in these high cost, low-carbon technologies that we need to.
Q 8 Luciana Berger (Liverpool, Wavertree) (Lab/Co-op): Secretary of State, can you tell us please which companies or organisations have made representations to you that they do not want a 2030 decarbonisation target in the Bill, because I have not met one?
Mr Davey: I would have to check exactly, but it would be unfair to say that there is complete agreement in the industry on this. However, the vast majority do appear to support a decarbonisation target on the Bill; that is true.
Q 10 Gordon Henderson (Sittingbourne and Sheppey) (Con): Is it true that this Bill is about not only decarbonisation but energy security? There are very many people who actually think that that is the more important aspect of the Bill.
Mr Davey: I think that both are important. It is quite difficult. In an earlier answer I said that the three objectives are security, affordability and decarbonisation. Both need to be addressed. You are absolutely right to say that energy security is critical. We have to keep the lights on. We have to keep the power going to industry and this Bill is about that.
Q 11 Julie Elliott (Sunderland Central) (Lab): Secretary of State, at the Liberal Democrat conference last year, you supported a motion that called for a target to be set between 50 mg and 100 mg for power plants built after 2030. Why does that commitment not appear in the Government’s Energy Bill?
Mr Davey: I do not think that it is a secret. That is my position and the position of my party. We are in coalition and we have had discussions with assertive colleagues. We have reached an agreement whereby we will bring forward amendments to put the power to set a decarbonisation target on the face of the Bill. That is a very good position, because it shows the commitment of the coalition to go ahead with a decarbonisation target at the appropriate time.
Q 13 Mr Mike Weir (Angus) (SNP): Certain of the witnesses have expressed concern about the lack of detail at the moment about how contracts for difference will actually work, as opposed to the well-understood ROC system. What discussions have you had and what progress have you made in assuring investors that they will produce the necessary income to allow investment to take place?
Mr Davey: That was a concern of witnesses for the Select Committee. As I am the first witness for the Standing Committee, I would be surprised. When we published the Bill we published a set of documents with it, setting out great detail, particularly about the contracts for difference. It has been warmly welcomed by industry that we are answering a huge amount of their questions. Inevitably, when you go into the detail there are always some elements which have yet to be finalised. We are working in partnership with industry to finalise those details.
The big issue that they want to know is the strike price. That is rather important, as you can imagine, for the contracts for difference. At the moment, National Grid, the system operator, has called for evidence and is consulting on what strike price to propose. It will publish a draft strike price in July this year, then we hope to have a final strike price in December. Obviously that is one of the pieces of the jigsaw that they want to know. However, so many other aspects of the contract for difference are there and they have been welcomed.
Mr Hayes: I guess that what lay behind your question is the concern of the renewable industry about the early allocation of CFDs. You will know that a number of renewable firms, on the basis of the pre-legislative scrutiny, argued that the process needed to be simplified and brought forward. In fact, the final Bill, as published, reflected that scrutiny and critique. As a result, the renewable sector is now more comfortable with the early allocation of CFDs.
Q 14 Mr Weir: There is still concern from the written evidence that we have seen so far about the proposed closure of the ROC scheme, which is widely seen to be in 2017, although that is not said anywhere in the Bill. Is there scope for moving that date if there continues to be concerns or difficulties with CFDs?
Mr Davey: No. We want to close the ROC scheme in 2017. While we will run the CFD scheme parallel with the ROC scheme in 2017, after 2017, it will only be CFDs for investment in low carbon. It is very important that that certainty is there.
Q 15 Barry Gardiner: Obviously, in the case of building a new nuclear plant, the strike price has to be sufficient to incentivise that investment, does it not? If it is to be sufficient to incentivise that investment, you have to have clarity about what the construction cost of that investment is going to be. The problem is that a perverse incentive is built into this whole negotiation process. The company constructing that new plant has an incentive to inflate its expectation of what the price of construction will be, in order to get a higher strike price at the negotiation. I am sure that Mr Dunne will be familiar with this from the Ministry of Defence. We subsequently find out that it will not cost that much and, goodness me, the strike price is set at a nice level where they can get good profits back in. How are you tackling that perverse incentive?
Mr Davey: Yes, but it is a principle that applies to ongoing negotiations, which is probably why you asked the question. I believe that it is possible for properly advised Governments to negotiate and make sure that they transfer the risks in an appropriate way and get a good deal too. I do not see why that should be impossible.
Q 16 Barry Gardiner: So if the construction costs eventually do not come in, in such a way as simply to give a reasonable rate of return on capital, will there be a clawback mechanism in the CFD, so that the strike price will reduce over time? If not, why not, because that is in the public interest? The public will be paying that money and if you get your negotiations wrong, they will be paying it for 35 years.
Mr Davey: John may want to come in in a second, but you are tempting me to talk about those negotiations. Let me say for the Committee, because I think it will be helpful, that there are two types of CFDs. There is the standard CFD, which will be the vast majority of CFDs, but in this early stage there are these final investment decision CFDs, particularly the one we are talking about here, and that will operate in a slightly different
Q 18 Peter Aldous (Waveney) (Con): Secretary of State, are you happy that the transition path from ROCs to CFDs is sufficiently clear to investors? Would you agree that timeliness with this change is of the utmost importance?
Mr Davey: I think it is clear, and timeliness is very important. Let us remember that the White Paper was published some time ago. There has been a lot of consultation. We are talking about a change in 2015 which is still four years away, so there has been a lot of visibility before the closure of the ROC regime. I would be very surprised if anyone is surprised.
Mr Hayes: The point about that, Chairman, is that what businesses argued is for their own business planning. They need exactly that kind of certainty. Given that the transition is being planned in the way the Secretary of State described, business say that they are much more comfortable with this. You will know the feedback; the renewables industry has been positive about the changes we made. I think you are right that that was a challenge, but it is a challenge we faced up to.
Q 19 Dr Phillip Lee (Bracknell) (Con): I know that between the draft Bill and the Bill before us there has been a change on the counterparty model; it is now a single counterparty model. Can you tell me, in discussions with industry since the publication of the draft Bill and now with the decision to go with a single counterparty model, whether the industry is happy with this? What is the likelihood of it investing now with that change?
Mr Davey: All the feedback that I have seen, both in individual discussions with individual companies and investors, and through trade associations such as Energy UK, is that they are very pleased with that change. Just for Members who have not followed it as closely, we proposed a multiparty counterparty body. Industry investors said they were worried about that because they were not absolutely sure who they would be able to go to law at for non-payment, and they preferred a single counterparty body. We looked at that, we took that on board, the Select Committee made that point to us during the pre-legislative scrutiny, we did the analysis and we found a way of meeting their needs with a single counterparty body model, which you see before you. Unless John can say otherwise, I have not heard people complaining about what is proposed.
Mr Hayes: No, you will know that that was one of the points that the Select Committee raised specifically, and also other witnesses who are going to appear before
Q 20 Tom Greatrex: You are right to flag up that this was an issue that came up in the pre-legislative scrutiny, but the Bill still allows there to be a multiparty counterparty, does it not? It is not explicit about it being a single counterparty.
Emily Bourne: Yes, the Bill is as the Secretary of State says. The intention is to create a government-owned company which will be the counterparty for the contracts. The Bill does provide for change to be made to the counterparty should that be required in the future, so that is why the text is fairly flexible.
Mr Davey: But there is good reason for that, let us be clear. Sometimes having flexibility in legislation gives you the ability that if things do not work out right as everyone thinks they are going to then you may be able to make that change. But we will be setting up a single counterparty model, and that is how people will be signing contracts. They will be private law contracts.
Mr Davey: Because you have these contracts, which you do not have at the moment, particularly in the renewable sector, and of course you have not seen them in the low-carbon sector, CCS or nuclear. That certainty is not there at the moment. We are giving that certainty by going through the contracts.
I remember a conversation I had with a major investor, who has a huge fund from the US and invests all over the world. He said that he had not been coming to the United Kingdom because the ROC system had the Government behind it and that was not good enough; he wanted contract law and the courts behind it. He was going to look at the UK for the first time because we were going for contracts for difference. I think people should be focusing on the certainty that underpins the whole system. We could not be clearer about how the contract body will be set up.
Q 24 Dr Alan Whitehead (Southampton, Test) (Lab): Secretary of State, you mentioned the need to make sure that there is as much downwards pressure on prices as possible, and that customers are best served by this Bill. With regard to capacity markets, in the impact assessments that you have published it is quite clear that the option of a strategic reserve—which I see was recently dropped from the final impact assessment—comes in at roughly half the price to 2030. It would therefore be half the cost to customers to 2030 of your favoured administrative capacity market, because money could be raised from customers to fund the capacity market. Why have you therefore rejected the idea of a strategic reserve as a capacity mechanism to ensure security of supply?
Mr Davey: For a number of reasons. Most importantly of all, we think the capacity market is much more likely to bring forward the investment we need for the energy security objectives. I think it would be a much more flexible system; we would be able to promote demand side response measures, for example. The problem with the strategic reserve is that it all sounds terribly easy, but there is a danger of gaming in the rest of the industry, where they would not come on line and would force you to use the strategic reserve. Inappropriate or unwise use of the strategic reserve could reduce the incentive to invest.
When we look at issues it is important to consider beyond the modelling. The modelling and the numbers can not derive everything; you cannot capture all the other elements that you need to consider in modelling. It helps make the decision. I think the downside of a strategic reserve in terms of incentive to invest and flexibility are very significant.
Q 25 Dr Whitehead: Do you, however, accept that as far as the administrative capacity market preferred model is concerned, there is also the question of gaming? When a company hears that you are to undertake a capacity auction, that in itself may deter investment, to the extent that people will not invest until such time as an auction is actually held, and that therefore brings the auction forward. I presume you now have the option to run the first auction in 2014, when originally it was proposed not to have auctions until the end of the decade?
Mr Davey: You are right that in these sophisticated markets with many players there is always the possibility of gaming, with almost any model. In designing auctions, one of the things that you look at is to make sure the auction cannot be played. A lot of the work on designing has been done or will be done over the next few months, and we will be coming back to the Committee—I think in May—with details about some of the minutiae of the design of the capacity market. However, the particular point you make is a really important one. It worried me when we tackled it when we published the draft Energy Bill in May. There was some concern that people would not invest until the capacity market was run, because they felt they might lose out, because if they were considered as new plant in the capacity market, they would not get the payments. There was a real danger
Mr Hayes: Alan, you have raised this matter previously, and you will know that as a new Minister I asked whether the capacity market was the best means of delivering capacity, or was a strategic reserve, such as that used in Sweden, a viable alternative. One of the reasons why I was convinced that the capacity market was the best approach was not just because it was widely used elsewhere, and increasingly in Europe—as you know, other European countries are looking at this—but because demand reduction can play in the capacity market.
You are keen, as I am and the Secretary of State is, on demand reduction, and I think there is a growing consensus around that. In the capacity market mechanism, I am anxious that demand reduction should play a part. That is harder to square with a strategic reserve. You could work a system, perhaps, but the capacity market allows for the flexibility that the Secretary of State has described.
We have taken conflict of interest issues seriously; we consulted and discussed this with the industry. The Bill will give the Secretary of State the power to give the role to any body, and if a future Secretary of State thought it was the right thing to do for the market and investment, it could be moved. We believe that the conflict of interest issues that have been raised with us can be managed with National Grid performing the role, but we have put safeguards in the Bill.
Q 27 Albert Owen: The safeguard in the Bill is that it will be overseen by Ofgem. There is the belt and braces, you could say, because you are not confident that it will act as independently as another body could, so you will have the option to move it at a later stage. Here is a body that has a commercial interest in the whole industry, whether it be gas or transmission, and it is the system operator. It is a private company. Do you not feel uncomfortable that there are bound to be conflicts of interest, which is why you have Ofgem to oversee it? Perhaps Ofgem could be the body to do the job, and its powers could be strengthened.
Q 29 Albert Owen: With respect, Secretary of State, Ofgem already gives National Grid a programme for its future programme and planning, and that will happen in the future. It will have a role and have that expertise, which another body could use more independently.
Mr Davey: As I understand what Ofgem says to the National Grid, they are talking about the network, which is how Ofgem regulates National Grid, because National Grid operates there as the network provider. What the delivery plan does—and National Grid’s role in it—is about future generation plants, what types they should be and the capacity needed. National Grid is not a provider of that capacity.
Mr Davey: We are not going to identify that other body ahead of time, because we think National Grid can do the work. We have not been working on this for several years and gone through the analysis on conflicts of interest to suddenly say ahead of time, “Actually, if they don’t do it, we’ll give it to them.” We do not need to. We have the power to do that. Clearly, before exercising that power, there would have been a lot of work and consultation, no doubt, with Parliament and the Select Committee, as well as with the industry, to exercise that power in an appropriate way.
Q 32 Albert Owen: But when the Select Committee, after taking evidence, proposed another body, you simply dismissed that because you had been looking at it for years, and the National Grid was the right body.
Mr Davey: No, we did not dismiss it. We looked at it carefully. You will remember, Mr Owen, that I got criticised because it took us a while to respond to the Select Committee, because we were considering its recommendations very seriously, many of which we adopted.
Mr Hayes: Just one sentence, Chairman. Had there been an alternative system operator, they would have looked very like National Grid or would have had to beg, borrow, steal or duplicate National Grid’s competency.
I have discussed with the Secretary of State before value for money, the impact on consumers and the fact that we need to decarbonise, but we cannot necessarily do so at any cost. What reassurances can you give us that the investment contracts will deliver value for money to the consumers, and what counterfactuals have you considered when looking at the impact on future consumer bills?
Mr Davey: We have done a huge analysis on this, and the impact assessment has been revised subsequent to the final decisions being taken. It is at the top of our minds. The amount of investment that we have to bring forward for energy security and for low carbon, whether it is nuclear, CCS or renewals, is a huge cost. Without massive investment, we have to ensure that we do that as cheaply and competitively as possible. We think the investment instruments in the Bill will enable that to happen.
Q 35 Barry Gardiner: Can you provide further clarity on what will be included in the open-book scrutiny of developers’ documentation, and will it be available to Parliament at the same time that the contract is laid before Parliament?
Mr Davey: I take it you are referring to the FID-enabling CFDs. Our intention, as we have always said, is that once we have concluded negotiations on such investment contracts, we will give Parliament and the public as much information as possible. We hope—indeed, we would expect—that Parliament would comment on that.
Mr Davey: We will be making key aspects of the terms of the contract publicly available. But, for example, in the case of EDF, we will not be publishing every bit of cost data that it has provided. Some of that is provided in commercial confidence and I do not think that anyone would expect us to publish all the detailed analysis. However, we are determined to be held to account. We are determined to get a very good price for the consumer and business.
Q 37 Tom Greatrex: I would like to ask the Secretary of State about community energy projects, because he has talked in the past about wanting to foster a community energy revolution. Will he explain why, contrary to the Select Committee’s report and other representations, he decided against increasing the threshold for the small-scale feed-in tariff above 5 MW?
Mr Davey: I know that there has been a lot of focusing on that. I would say first that community energy strategy is far wider, richer and deeper than simply that particular issue, although I know the Select Committee paid a lot of attention to it. Mr Barker and I will be publishing a consultation paper on a community energy strategy in March—I think that is the current working timetable. Mr Barker will correct me if I am wrong, but I think that we are working to March.
Mr Davey: Yes. We would then hope to finalise that community energy strategy before the summer recess, or it might end up going into the autumn. The community energy strategy will cover many more issues than the one that you have identified.
Mr Davey: The Bill is before the Committee. Of course, we keep those things under review, but let us be clear that the Bill’s major focus is not on community energy. It is about many other things, as we have been discussing. As you will be aware, community energy does not have to go into this Bill. As I have said, it goes much broader than the particular point that you are focusing on, important though that is.
Mr Davey: To invest in bigger schemes than that, you need quite a significant amount of money. You are talking about several more millions than most of the communities will be putting in. When you get to that size of scheme, there is a question mark about how much of a community scheme it remains. There is no science here. I cannot say absolutely that that is the right threshold. There is a legitimate debate to be had about it. I am not pretending that there is not a legitimate debate, but one can slightly over-egg the pudding and not see the overall picture of what we are trying to achieve with community energy.
The Chair: Okay. Let us not over-egg this particular pudding, because I am anxious that Mr Dunne should come in. He has been very quiet. Before we hit the guillotine, Luciana Berger would like to ask you about the Government pipeline and storage system.
Q 41 Luciana Berger: Thank you. I want to ask you a three-part question, Minister. Why do you believe that it might be desirable in the future to sell the Government pipeline and storage system? If that sale were to go ahead, what conditions would be put in place in the event of a sale that would guarantee military needs? You will be aware that in the impact assessments, there is very little detail available about this. The current operating costs of the GPSS are missing. It value and the likely costs that the Government would be charged to use it in the event of a sale are all redacted. I assume that that information has been redacted and not put into the public domain in order to protect commercial sensitivities, but can you provide members of the Committee with copies of the material on the proviso that it is not made public so that we can better scrutinise the Bill?
Mr Dunne: Thank you, Mr Leigh, for giving me an opportunity to talk briefly about the pipeline system and to respond to Ms Berger’s questions. This is an enabling set of clauses, only 12 clauses in a very large Bill. It is to provide the opportunity for the Ministry of Defence, if it decides that a sale is the best outcome for this asset, to be able to effect a sale. It would not take place until at the earliest 2014 and, at this point, the Ministry of Defence has not decided that it will necessarily sell this asset. The rationale for seeking approval to be able to sell the asset is that, at the moment, the asset resides within the personal fiefdom of the Secretary of State for Defence, so we are not able to sell it without the clauses being put through.
The decision will be taken based on our assessment of the potential balance of value between continuing to operate it ourselves and selling it. The Ministry of Defence only receives 10% of the throughout through the pipeline. It was originally conceived as a pipeline to supply military airfields prior to and during the second world war. It was expanded after the second world war, but now 40% of aviation fuel for the commercial industry is supplied through this pipeline, so there is much more civil use than military use. That is why we are going down this route.
The judgment about whether it is appropriate to sell it will be made on the basis of our assessment of the increasing capital expenditure required on the pipeline to meet growing environmental standards. Those standards were partly imposed following the Buncefield incident, and are partly about general increases in environmental standards for handling fuels. That is set against any charge to the MOD if it is in private hands. That is a relatively delicate balance. The reason why we have not included the financial performance of the pipeline in the impact assessment—it has been redacted— is to protect the commercial sensitivities of a sale, as Ms Berger rightly identified.
Q 43 Peter Aldous: Just going back to the renewables obligation, Secretary of State, I would be interested to know how you arrived at 2017 as the date for closing the RO. If investors gave feedback that a longer period would be appropriate, would you consider that?
Mr Davey: There was an awful lot of analysis of that. We wanted to make sure that people had time to prepare for the project. In the analysis, it was important to realise that companies have long lead times to plan, get planning permission and get final investment. That is why it is quite a long way away, in 2017. Of course, some companies think those long lead times should be even longer. No doubt you will hear evidence, as we have, that some people would like it to be longer. However, if you are changing the system, you have to have a point at which you make that change. We are running them in parallel from 2014 to 2017, so by 2017, CFDs will be hugely visible and industry will be used to them.
2per kWh. Will the Secretary of State or the Minister tell us how that figure was arrived at? Secondly, it was announced a couple of weeks ago that up to 30 unabated gas-fired power stations will be coming online. What impact will that have on the UK’s long-term climate change targets?
Mr Davey: The emissions performance standard supports the whole regime, because it make clear that we need to move to low carbon. Power stations that emit huge amounts of carbon will not be possible in the future.
Q 48 Graham Jones (Hyndburn) (Lab): I just want to ask you about the impact the energy prices for domestic consumers. I am just reading the briefing notes. The Prime Minister announced recently that the Energy Bill would include measures requiring energy companies to give customers their cheapest tariffs, but those measures are not yet in the Bill. Why is that?
Mr Davey: I am glad you have given me the chance to inform the Committee. We will table amendments following the consultation, which is closing very shortly. I think we will have them before you on 5 February at the latest.
by applying a merit order, to reduce emissions from 486 grams in 2011 down to 273 grams; that is with existing capacity, changing nothing of the plant that is in place. Why is the merit order not in this Bill?
The Chair: Good. That is a very brief answer. I am afraid that brings us to the end of the time allotted to the Committee to question these witnesses. I thank them on behalf of the Committee. We will now hear oral evidence from National Grid, ScottishPower, Centrica and E.ON UK.
Examination of Witnesses
Q 51 Tom Greatrex: It is really in relation in to the counterparty—I do not know whether you heard the Secretary of State’s evidence, but there was some discussion about the single counterparty model. Can I first ask whether you are satisfied that a single counterparty model will be workable, from what you know so far? Is there enough detail?
Sara Vaughan: From the E.ON perspective, we are very pleased with the changes that the Government have made to move from the multiparty counterparty to the single counterparty model. I was listening to your questions earlier, and the point you made about the potential to have more than one designation under that clause of the Bill. I think what we have to do here is rely on the policy intent. I accept your point that if there were a multiplicity of counterparties we would be back where we were in the first place, but our understanding is that it is clear that there will be one counterparty, that a body will be set up by Government to be that counterparty and that that counterparty will be the counterparty until such time as it is changed. That is what the power is under that clause.
Keith Anderson: Very similar. We also wanted to see a move towards a single counterparty body and we are happy with that proposal. There is still some detail to be resolved around how exactly that body is to be funded and secured, and we would want to see that detail, as well as some detail around how the payments could be made out of that body to the generators, and through from the suppliers. Those details are important, and we need to see them coming through, but the concept and principle of a single counterparty is a good, positive move.
Q 52 Tom Greatrex: Mr Anderson, are you concerned—Ms Vaughan touched on this point—about the scope there is in the Bill to go back, effectively, to a multiparty counterparty if the single counterparty model does not work? How much impact does that make in terms of investment decisions, if the contract is one part of those, and the counterparty is allied to that?
Keith Anderson: The reason why we were so keen on moving to a single counterparty model was because of the administration issues of having multiple bodies, but also because of the legality and enforcement of the contracts. It is difficult for us to see how you could create legally binding, enforceable contracts if you do not go through a single counterparty body. In essence, simplistically, who would you take to court if the other side of the contract defaulted? It is very difficult to understand that if it is not a single body.
Q 54 Mr Weir: You heard what the Secretary of State had to say about the time scales for the introduction of contracts for difference and the closure of the ROCs scheme. Are you satisfied that investors will be confident enough for contracts for difference to get up and running within that time scale, to allow ROCs to be closed in 2017?
Keith Anderson: Our perspective has always been that it was a fantastic move to have contracts for difference coming in and allowing the renewables obligation to carry on so that you have an overlap of three years. That gives us and the market a lot of confidence and certainty. With regard to bringing the Bill forward and the time schedule, we have always said that if you bring the Bill through on the agreed dates, and the strike prices come through at the agreed time, then that time period is fine. We are satisfied with it. If there is a delay in the Bill and in us seeing the detail of the strike prices, then we will start to get more concerned about the ending of the RO, because it will start to affect investment decisions.
Sara Vaughan: I would agree with that. There is always concern when you introduce a new instrument. When the renewables obligation first came into place it took some time for people to get used to working under it. As Keith said, the overlap—the ability we will have to see how contracts for difference work while the RO is still in place—will give us the confidence we need.
Q 55 Mr Weir: We heard, if I remember correctly, that it was anticipated that strike prices would be known by the end of this year at the latest. It is a pretty tight time scale to get contracts for difference up and running by 2014 if we do not get strike prices until later this year. What sort of slippage are you thinking about? If it slipped into the early part of next year, would that cause a problem?
Keith Anderson: My understanding just now is that we will see draft strike prices before the summer—I think in June. Starting to see that clarity coming through will give us confidence, so that we will start to engage and see where the debate is going and where the draft strike prices are. If we start to see that in June, that starts to build up our confidence, because we are then getting into a far more detailed debate leading up to the end of the year. It is not about a specific date, it is about how our confidence is built up during that process. If we start to see draft strike prices in June, that gives us confidence that we are moving in the right direction. If we do not see them until after the summer, we will start to get worried, because we will start to think that there will be a delay to the final strike prices. As long as those timelines are there or thereabouts—
Q 56 Tom Greatrex: Can I clarify something that I think you just said: that it is not necessarily about setting a date of 2017 or 2020, and that the period of time for which the two run in parallel is more important. Have I summarised your position correctly?
Q57 The Minister of State, Department of Energy and Climate Change (Mr John Hayes): How important is the certainty the Bill gives for investment, particularly the cost of capital? How do you see that in terms of your decisions about long-term strategic investment?
Keith Anderson: It is terribly important. For example, we are currently investing £50 million to £60 million in a round 3 offshore development project. The output of that project will not come to the market until 2018. We are therefore investing huge sums in projects that will be absolutely reliant on contracts for difference, and on those strike prices. Therefore, the sooner we see the draft strike prices, for example in June, the sooner we will have the confidence that the money we are spending today will have a sensible rate of return.
Q 59 Dr Whitehead: The whole basis of the availability of contracts for difference is squeezed into the levy control mechanism, which we have been told will come to £7.6 billion by 2020. However, if you strip out the money going to existing new projects each year, that suggests that the available money for new entrants each year up to 2020 under CFD is no larger than under present arrangements. Is that something you feel comfortable with, in terms of the need to supply CFDs to ensure that future investment in low-carbon energy renewables is secured up to 2020?
Sara Vaughan: We all have to accept that there has to be a ceiling, that there cannot be an unlimited amount of money available for investment in renewables or nuclear. The fact that the Government have published the details of the levy control framework and made it clear that there is this £7.6 billion available is helpful from our perspective. That is in today’s money, so I think it is about £9.4 billion in 2020.
Keith Anderson: I agree with that. The other thing from an investment point of view—again, it comes back to clarity and certainty—is about being able to see what is going on in future years, so that we understand. If three or four of us are bringing forward large projects, are they all likely to come in the same year? What is the capacity of that year in the framework? What has been laid out in terms of the process and principle of registering for your contract for difference, at the point you have a grid connection date and a planning consent, starts to give you foresight and clarity. You will understand, in the context of how many contracts will be let that year, how close that takes you to the capital levy control framework. So you get early signals about when you should push or accelerate investment.
Nick Winser: We do have some foresight of what generation may come forward, because generation is applied for transmission connections on to the system, so we can analyse that queue of generators that are proposing to come forward by what year, and we can compare that with the amounts of money that have been ascribed to the levy control framework. We have done that work. There are a lot of unknowns but, by and large, it looks a reasonably sensible plan.
Q 60 Dr Whitehead: Regarding the targets set for investment in low-carbon energy and the amount of deployment that it is suggested should be reached for low-carbon energy by 2020, what I was trying to get clear was that the LCF will not allow those targets to be reached.
Nick Winser: Our analysis would say that those targets can be met. It is dependent, of course, on what other variables, such as the price of energy, there are over that period. A scrutiny of the calculations that we have done would say that, taking reasonable assumptions, it looks like the targets can be met.
Sue Wheeler: The industry has welcomed the move to the single counterparty model and the private law contract arrangement that will be available. I think investor confidence is increasing as more details are being firmed up about how the arrangement is going to work. There are some details that still need to be worked out, particularly around the principle that has been set up that this counterparty is going to be a pay-as-paid vehicle. That means that if it does not get funding from suppliers, it will not be able to pay out to generators. There are some changes that we have detailed in the written evidence that we would like to see to firm up those arrangements. We need to have confidence over the full term of the contract, regardless of any future policy changes, that generators will be able to see a route to their income.
Sara Vaughan: I very much support that. I would also raise a point about the change in law provisions. As you say, this is a contract with a counterparty. Currently, you strike a bargain under a contract whereby you have agreed a particular strike price. Things may happen that change the value of that strike price, through legislation that this or future Parliaments may pass. Currently, the change of law provisions in the draft heads of terms are very narrowly drafted, and the ability to compensate for any of those changes is very tightly circumscribed; it relates only to changes that are discriminatory, specific and were foreseeable. That is an area where, if you really want to have investor confidence around the bargain you have struck, there needs to be some more work done, and it should potentially be picked up in the Bill.
Q 62 Luciana Berger: We know that contracts for difference will be allocated initially on a first come, first served basis, before moving to the allocation rounds once a significant proportion of the budget available under the levy control framework has been allocated. What is the panel’s understanding of how the allocation rounds will work, and do you believe that further clarification is necessary?
Sara Vaughan: This picks up Keith’s earlier point. You have a place on the list when you have established that you have a grid connection and a consent, and that gives you the confidence that you require to go ahead and to make the additional investment that you need. The case where that is slightly different is in relation to the conversion of biomass plants. Old coal-fired power stations that convert to biomass clearly already have the consents and the grid connections they need, so a slightly different process is being applied to them, in which they have to make a commitment in May of the year in question. From our perspective, yes, we think that this has been well thought through. We have worked with officials to get something that we are confident with.
Q 64 Peter Aldous: I very much have the feeling that timing is of the essence—the timing of strike prices—involving a clear narrative coming through, with the detail therefore being provided as necessary. We have just heard the answer about you getting more confidence; what are your views on the decarbonisation target?
Sara Vaughan: We have not argued for a decarbonisation target to be in the Bill. We believe that, for us, that raises concerns about the cost to consumers because of the inflexibility that it brings with it. We think that the proposal is a reasonable compromise in those circumstances. We believe that these things should be driven through Europe, through the EU emissions trading scheme, so although we have not been arguing for a specific decarbonisation target, nor would we oppose one.
Sue Wheeler: We are in agreement with that. We are not strongly advocating a target. We would work with one if one came in, but we think it is important to get the framework right in this Bill and get the immediate things so that we can start meeting the targets, rather than putting another in place.
Nick Winser: It might be useful to clarify how we as the delivery body would deal with either a target or the absence of a target. If there is a target, we will obviously include that in the analysis—DECC will ask us to include that. If there is not a target, we would expect DECC to ask us to produce a number of scenarios against different carbon intensity profiles, which would be submitted to Ministers so that they could look at the various different outcomes. My own view is that it probably would give greater certainty to have some sort of target somewhere in the process. Nevertheless, in terms of turning the handle and getting the job done, we think we would be able to work with either.
Keith Anderson: I would only add that targets in and of themselves do not create investor confidence. What we need to see behind that is what all the processes and mechanisms are to help us deliver that target, and whether Parliament and everybody have bought into the costs and funding implications of setting such a target. That is what will start to give us investor confidence.
Sara Vaughan: It is that policy stability that is most important. If I could raise an example of an area where policy stability has not been given, it is in relation to the LECs—levy exemption certificates—which are the exemption certificates from the CCL. In Budget 2009, the Government confirmed that they would be in place until 2023, but they were removed in Budget 2012. When you have made investments on the back of a promise that they will be in place, that puts companies like ours in a difficult situation. We cannot afford to have too many of those situations.
Nick Winser: They both have the potential to set marginal prices. We see gas setting marginal prices more currently. In fact, coal sets marginal prices at the moment, but gas has historically set marginal prices more than wind.
Q 66 Barry Gardiner: The way in which gas and renewables respond to an inadequate marginal price is, obviously, by curtailing output. But that does not save costs for renewables as it does for gas, does it? Renewables actually lose revenue if they decide not to go for what is a lower than normal, less attractive price. Is that not right?
Nick Winser: The current market’s design does not really work in a way that it requires—it depends how you look at it—to curtail output. Generators bid their costs and self-dispatch against market prices, by and large. We drew up the system in real time.
Q 67 Barry Gardiner: But if gas did not want to bid at a particular time, it would simply respond by not bidding. That option is less available to renewables because, actually, they would be cutting off their nose to spite their face.
Q 68 Barry Gardiner: Yes, but of course it would not be consuming the fuel, which is the largest part of the input cost for gas. That is the point that I was making. The new impact assessment for the Bill, which came out yesterday with revised emissions pathways in annexe C, says that the decarbonisation trajectory requires a significant increase in the carbon price up to 2030; but actually, a high carbon prices does not incentivise switching from gas to renewables because of what we just talked about, does it?
Q 69 Barry Gardiner: My point is this: the idea that a decarbonisation trajectory requires a “significant increase” in the carbon price up to 2030 does not show that a high carbon price does not incentivise the switch from gas to renewables. It does not do that because of the limited capacity that renewables have to influence and respond to marginal prices in the market.
Nick Winser: There were rather too many negatives in it for me to get a really good grip, but I think that you have hit exactly on one of the key things that supports this set of interventions, because there will be, directly, contracts for low carbon let to developers of that plant which will drive the proportion of that against the decarbonisation target, which is either inferred by DECC, or in the Bill or secondary legislation. That behaviour that you talked about is not important to the operation. What is important is the letting of contracts for low carbon.
Nick Winser: We still need to see the exact detailed design of the CFDs and, indeed, the capacity mechanism, but proper design of those interventions ought to come to the same point: you end up having a merit order submitted that takes account of the economics of carbon as inputted into the delivery plan and recognised in the contracting strategy. So it should come to the same place.
Q 71 Mel Stride (Central Devon) (Con): In the previous session we had some discussion about the relative merits of the capacity market proposals in the Bill compared with the strategic reserve as an alternative. Could we have your comments on that? Specifically, have you made any assessment of the cost to consumers of the capacity market compared with a strategic reserve?
Sue Wheeler: We think that the capacity mechanism is extremely important. In a world where we have more intermittent generation on the system, it will be important to have flexible generation to back it up. At the moment that will be mostly gas-fired power. The incentives and the signals for that generation to be there at the moment, without the capacity mechanism, are very uncertain. It is quite a difficult investment decision to make to invest in plant that might be required only part of the year when prices are really high. The capacity mechanism redistributes some of that revenue so that some of it becomes a certain payment, and energy prices should come down a bit because the price spikes will not be there any more. We see the capacity mechanism as a redistribution of revenue as opposed to extra costs on the system.
Keith Anderson: I would add that if you look back through all the years this market has been in operation as a liberalised market, in one way, shape or form, it has probably had some form of capacity mechanism built into it, whether it was through the old pool system or through carbon allowances. For most of the time, in essence, some form of capacity payment has been made in the marketplace, so introducing a new capacity mechanism should not radically affect the economics of the market; it just helps to direct the investment. Again, if you look back at the market for the three or four years in which there was no capacity mechanism at all, you probably had the greatest level of disruption in the market, with generators pulling out because there were no economics in the market. Fundamentally the market needs some form of capacity payment to underpin it.
Q 72 Mr Hayes: Just to be clear, the market direction you describe, particularly around gas, is essential if we are going to achieve our ambitions for renewables. These two things are inseparable—gas, with its flexibility, plays its part in building a market that works and, in those terms, the capacity market proposals are welcome.
Sara Vaughan: That is right. You need gas in the future. The market will need to be balanced by gas, but not based on gas, if it is to operate successfully in the future, and for that we will need the capacity mechanism.
Nick Winser: And the fact that gas is likely to be significant is an interesting part of the debate between a capacity mechanism and a strategic reserve. This is capital-intensive plant. The idea that you segment the market into two sections and spend the money on capital-intensive plant and then leave it sitting—not operating; not taking part in the market—is, in principle, a difficult idea. If you are going to spend the money on it, it would be better for it to play as much of a role in the overall market as possible to get better economics for customers.
2per kWh. Do you think that is appropriate? Secondly, the Government announced only a few weeks ago that up to 30 gas-fired power stations could be brought on line unabated. Is it your view that that would have any impact on long-term climate change targets? In fact, might it even have an impact on the decarbonisation target, if indeed the Government come up with one?
Sara Vaughan: We have not supported an emissions performance standard on the face of the Bill. We do not think that it really does anything. Set at the level at which it is set, it certainly stops new coal-fired power stations, but they were effectively stopped anyway, so it does not have that impact. We know what the system has to look like. We have carbon prices that will penalise higher carbon plant, and therefore encourage investment in lower carbon plant. For me, the emissions performance standard has little value.
Keith Anderson: The important thing for us around the emissions performance standard is that once it is set and you are in it, you are grandfathered in there, which has now been confirmed. Otherwise, that would create investment uncertainty, because you start to think that in two, three, four or five years’ time that somebody is going to change the economics of your plan through the emissions performance standard. That creates a big issue for us, but as long as that principle of it being grandfathered remains in the Bill, that is fine.
Q 76 Gordon Henderson: Centrica has stated that that the Bill should mark the start of an “honest conversation” with consumers about the long-term outlook for energy prices and their drivers. As part of that honest conversation, do you agree that any steps to decarbonise the power supply and to improve energy security would have an impact on prices—as followed, for instance, from the policies of the previous Government—but that the long-term benefits make urgent action essential? Furthermore, do you agree that one of those benefits will be an increase in employment?
Sue Wheeler: I would certainly agree that moving towards lower carbon generation and the policies that are in place at the moment will put the unit costs of energy up. The real challenge is to ensure that we help our customers to use less energy and fewer units so that the absolute costs need not be any higher. That is an important point, which is why energy efficiency and helping our customers with it is important.
Keith Anderson: I do not really mind whether it is on the face of the Bill, other than if you are going to put it in the Bill, do not just put it there as a target. It must be fully costed out and all the implications of it have to be agreed and understood.
Q 79 Dan Byles: Speaking of the decarbonisation target, which seems to be a particular bone of contention, I am quite interested in Centrica’s view, because it put out a press release in November saying that it was opposed to it and urging the Government not to implement such a target.
Sue Wheeler: I was not aware that we had ever said that we were against it. We certainly said that other things are a priority. We think it is much more important to get the framework in the Bill right. We support the 2020 renewable targets, the carbon budgets and the 2050 carbon targets. If, at 2030, the power-intensity target was going to be introduced, we would of course work with it, but we do not think it is a priority.
Q 80 Dan Byles: I want to explore what you said about it not being a priority, because during the Energy and Climate Change Committee’s pre-legislative scrutiny, we heard from Climate Change Capital and the Low Carbon Finance Group, both of which said, in effect, “For God’s sake, don’t delay the Energy Bill arguing over the 2030 decarbonisation target. The important things are contracts for difference and the levy control framework—the nuts and bolts.” Do you all broadly agree with that?
Q 81 Gregory Barker: I have two quick questions. First, if the 2030 decarbonisation target were added to the Bill at this stage, do you anticipate that that would add an additional cost to consumers? Secondly, on the emissions performance standard and grandfathering, the grandfathering goes out some considerable way, so over what period of time do you anticipate that new-build gas-fired power stations would be amortised?
Nick Winser: On the question about whether it will add cost, my answer would be that it depends what the target is—I do not mean that in a facetious way. As part of putting together the delivery plan for DECC, if there is not a target, we would anticipate DECC asking us to model a variety of different targets and the costs that come out of those. It could cost the same, less or more, depending on which of those scenarios Ministers ultimately pick. In principle, it should not make any particular difference to the out-turn cost if the target put in the Bill is the same one as would have been picked by Ministers as a result of our delivery plan scenarios.
Sara Vaughan: Nick has got his scenarios and, as he says, each of them implies a certain cost to consumers. If you have in the Bill, and therefore inflexibly lodged in primary legislation, a target that on the modelling comes out as more expensive for consumers than another target, but that target still takes you in the right direction—that we are decarbonising—that feels to me to be a risk and an excessive burden for consumers.
Sue Wheeler: No, that is not right. We certainly still offer power purchase agreements for independent generators. The issue is that, under the renewables obligation, a power purchase agreement had to perform a number of tasks, one of which was to sort out the future energy price. Under a CFD in the future, you will not need to provide a power purchase agreement to give certainty of energy price any more, because that is what the contract for difference does. Power purchase agreements in the future, in a CFD world, will provide a different service.
That is what we are working through at the moment—trying to get a model for a power purchase agreement that will allow an independent generator to cover its balancing risks and will give it a kind of guaranteed route to market, but will not necessarily provide the power price underpinning that was needed in the past. PPAs will be different animals in a CFD world, but we will certainly still be in that market to provide those services for people who want them.
Keith Anderson: One of the other things is that you are seeing fewer PPAs being traded in the market at this point in time—that is correct. That is really as a result of people still not fully understanding what, when this Energy Bill comes through, will be its impact on power prices, the impact of the capacity mechanism on those prices, and how the wholesale market will work and react in the future, which has a massive impact on the way you write a PPA. At this point, it is very difficult to write a 20-year PPA, because in the modelling of that, you need understand what is happening with wholesale prices. That is difficult to do right now.
Q 85 Dr Whitehead: Indeed, in the absence of any sort of obligation after 2017, the likelihood is that any CFDs retained by independent generators will be heavily discounted in order to sell their energy, so the idea that they, in replacing PPAs, set the actual price appears to be somewhat wide of the mark. Is that right?
Sara Vaughan: For me, it comes back to Sue’s point. A PPA does three things. One is that it gives clarity around the energy price that the generator will earn, and the CFD will deal with that. The second is that it provides a route to market—market access for the generator. A number of different organisations offer a service of providing a route to market. Banks do it, and so do we. Thirdly, it helps them to manage the risk of balancing. Ofgem is looking at this question of balancing and cash-out at the moment. It is looking at whether it wants a dual cash-out price or a single cash-out price. I do not want to go into too much complicated detail, but we believe that there are risks that balancing will become greater and there are other routes that can be suggested to help independent generators to manage those balancing risks. I will not take up the Committee’s time now, but we are talking to officials about those.
Nick Winser: You would have to ask their owners. Some of them still have registered TEC—transmission entry capacity—which is the capacity on the transmission system. Some have released that transmission capacity, so they would be less likely to come back.
Nick Winser: The amount of mothballed gas generation and the age of that gas generation does not make that a long-term prospect, in truth. There are a few gigawatts against a much bigger requirement in the next 10 or 15 years. Most of that plant is mothballed because it is old and less efficient, at least on public data, than plant on the system today, so I do not think that that constitutes a viable, long-term alternative to the capacity mechanism—certainly not.
Nick Winser: I do not know if that refers specifically to mothballed plants. There just is not that much mothballed plant out there that would fill the gap that appears towards the end of this decade and into the next.
Keith Anderson: It sounds slightly flippant, but setting targets is easy; it is about how you will deliver it and what you want to do to deliver it, and then you start to look at how much it costs. So it depends what target you want to set, how you propose to go about it and what frameworks you put in place, and then you start to understand the cost implications of doing it.
Keith Anderson: It is like anything: we have had renewables targets in the past, which have been good because they have been backed up with a clear policy and a clear understanding of what has to be done, the cost implications of doing it and the investment implications. That is what creates the market and creates our incentive to invest in it, because we understand what we are doing and that there are agreed assumptions about what that does to the market place, the cost implications and the investment implications.
Nick Winser: As part of putting together the delivery plan for DECC, we would expect to try to cost carbon intensity targets and the profile under various scenarios, yes we would. Obviously, it would depend on the assumptions that go in and we will look to DECC to give us advice on what assumptions to make, but that work is ahead of us.
Q 96 Stephen Gilbert: We have talked a lot about levy frameworks targets. I want to draw the Committee’s attention to part 5 of the Bill relating to consumer redress provisions that would enable Ofgem to require energy companies to pay compensation directly to consumers. As energy companies, do you welcome those provisions?
Sara Vaughan: Under the current arrangements, where energy companies regrettably get things wrong, and an enforcement action is brought against them by Ofgem, if a penalty is levied by Ofgem, that penalty will go into the Treasury pot, into the consolidated fund. The consumers will not receive a direct benefit from it, unless the company and Ofgem have sat down and made a settlement agreement that, instead of it going into the consolidated fund, it will be directed to consumers. However, that is an agreement not a penalty as such. Putting this provision in the Bill to enable Ofgem to require companies to offer redress to consumers is the right way forward.
Q 99 Graham Jones: The Secretary of State just said that on 5 February he will bring forward a Government amendment to ensure that customers do receive the cheapest tariff, as laid out by the Prime Minister. How do you see that working?
Sara Vaughan: We do not quite know yet. We have responded to the consultation and have been supportive of the proposals put forward by the consultation. What I understand is to be proposed is that if a customer is on a fixed tariff that comes to an end, they will be moved on to the cheapest fixed tariff. Similarly, for a variable tariff. It is the tariff of the same type as the customer is on. We believe that that is the right approach but we wait with interest to see what the drafting looks like.
Keith Anderson: It becomes very difficult and complicated. For example, if you have a customer on a fixed-term tariff and that ends, do you have the automatic right to put that customer on a new one? They actually have to sign the agreement to say that they want that tariff. There are a lot of complications that need to be worked through in terms of the mechanics of how it would work. There are also a lot of complications around the definition of what is the cheapest for that person. That is not always easy to work out either.
One thing we would say around all of this and the amendments around consumer tariffs is to urge people to think about whether to put a sunset clause into that part of the Bill. We are not sure what the implications of this are going to be, how exactly it is going run in the market with regard to competition, customer choice and how that plays out in the marketplace. You may want in the Bill the ability at a set period of time to come back and review how it has worked and been implemented.
Q 100 Graham Jones: Sara, you seemed to suggest that people would be put on the lowest cost within particular tariffs; the lowest tariff of type but not necessarily the lowest tariff. They may have to switch tariffs in order to get a lower price. Would that be a fair summary of what you just said?
Sara Vaughan: That is my understanding of the proposal. It comes back to the point that Keith was making that, if you are on a fixed tariff, you may be paying a premium for the benefit of having your price fixed, but there may be a lower tariff available in the market. But that lower tariff will go up, if prices rise, whereas sitting on your fixed tariff, you may be better off. My understanding of the Government’s proposal is that it is
Keith Anderson: It does become very complicated. If you have a customer on a quarterly credit tariff and the cheapest tariff is an online tariff, if they do not have the capability of going online, you cannot put them on that tariff.
Q 101 Graham Jones: On that point, I was going to raise the issue of prepayment meters, which you have probably started to discuss. How are you going to offer the cheapest tariff for people on prepayment meters, for example?
Keith Anderson: It is very difficult. These are the issues that need to be worked through in this conversation. At its highest level, it sounds perfectly sensible and laudable to say, “Let’s put everybody on the cheapest tariff”. But you start to look at the detail of that and it becomes very complicated. It is very difficult. What is the cheapest tariff for certain people? It is an incredibly complicated thing to look at. You also have customers out there who prefer to have a higher standing charge and a lower usage charge because of the way in which they live and how they run their household. They believe that that is the best for them. When that contract comes to an end, what is the cheapest tariff for them? Is it the cheapest tariff with the high standing charge or is just the cheapest tariff in the marketplace at a unit cost? That is not necessarily the cheapest tariff for them as an individual. To put that into a piece of legislation will be incredibly difficult and incredibly complicated.
Q 102 Graham Jones: So you are saying that there is access to market issues, ie somebody who can get online obviously has access to a cheaper rate than somebody who cannot get online and has a prepayment meter. There are access to market issues, in terms of accessing the lowest tariff.
Keith Anderson: There are those issues. There are complications around people’s personal circumstances. There are complications around people’s personal choices in terms of how they want to engage with utility companies. It is very complicated.
Q 103 Peter Aldous: Coming back to the decarbonisation target, I have a feeling that a clear framework, a set direction of travel and timeliness are important to you as energy companies. Have you had any discussions with your manufacturers and supply chain companies? Obviously, we will hear from them themselves, but have you had any feedback from them on that point?
Keith Anderson: If you take particularly the offshore wind sector, the existing targets and time frames are long enough and big enough to have sensible conversations about inward investment into the UK in terms of setting up manufacturing, creating jobs, investment required—whether it is factories, cabling companies, vessel companies or turbine manufacturers, the size and shape of the market today is big enough to have those conversations. We do not need a new target to kick those conversations off.
Sara Vaughan: The companies also want to see things happen. Things will start happening when we actually get proper contracts for differences and they are operating. They want to see investment starting, and another target will not help them with that.
Q 104 Gregory Barker: There seemed to be a little confusion in your answers, particularly Mr Anderson, about the tariff issue in that you were confusing the Government’s proposals, which are not to have one tariff. The Government’s proposals are to have a set of core tariffs across a set of limited payment options. That is not the same as saying that there should be one tariff.
Q 106 Gregory Barker: To correct you again, “the cheapest tariff” is not what we saying. There is a slight qualification: it is the core tariff, of their payment type. We do not propose to put people who on pre-payment meters on to an internet tariff.
Sue Wheeler: Centrica also supports the direction of the DECC and Ofgem proposals. It is all about balancing simplicity and the ability to innovate. Both of those things are very important, particularly in an energy market that is changing, with smart meters coming in. That innovation side of things will be particularly important so we need to have a balance.
Q 107 Gregory Barker: The simplest way of putting it is to say “the cheapest tariff for them”. The intent behind the policy is to improve consumer choice and competition between the energy companies so we can compare like with like.
Keith Anderson: Once we see all the detail come through. We are absolutely committed to doing this. We are committed to customer simplification. We are committed to giving better information to customers. All I am saying is that there is a lot of detail still to be worked through in terms of how that gets written into legislation. There is a lot of conversation around what impact that has on the consumer market. Obviously on the one hand there is an assumption from Ofgem that it will increase competition because it will increase consumer engagement, but a lot of other commentators out in the market are saying that it could potentially reduce competition in the market. All I am saying is that we need to be very clear how we measure competition. What is the success of the competitive market? That will be very important to understand as well.
Q 109 Albert Owen: Just before I move on to potential conflicts of interest, can I just deal with this tariff and your answer, Mr Anderson. It was my understanding that the Government did say “the cheapest tariff” when they made their initial announcement. That may change. Can I ask Ms Vaughan and Ms Wheeler, with regard to what Mr Anderson said about a potential sunset clause in the Bill, whether you favour that because we are not really sure where we will end up on this journey?
Sue Wheeler: On this specific one as well. You do not want to have a power like that when you are not clear how you are going to use it and it is just sitting around in a Bill for an extended length of time.
Q 111 Albert Owen: We have not had the full details. We are out to consultation. But we could be scrutinising a Bill when we do not know the full details until the last minute. We could rush it through and get it wrong. Is that why you think there should be a sunset clause there, Mr Anderson?
Keith Anderson: It is also for the point I was addressing to Mr Barker: I do not think I fully understand or can predict how this will impact on the market. It would be useful to have the ability for that to come back and be reviewed.
Sara Vaughan: We would not argue for a sunset clause. We do not feel particularly strongly. We support the policy. That is the important thing. None of us knows exactly how the policy will work in practice. So if that is a useful mechanism, fine, but we are not arguing for it.
Q 112 Albert Owen: Can I move on to a potential conflict of interest that might arise from National Grid’s role as the delivery body? Do the three representatives of the energy companies see any potential conflicts of interest there?
Sue Wheeler: From our point of view there might be potential conflicts of interest but the important thing is to identify them and make sure that mitigating action is put in place. We think it is perfectly possible to be able to ring-fence actions within the company.
Sue Wheeler: I think information provision between the arm of National Grid that is working on the delivery plan and the delivery actions of the body. I think the information that is held within that part of National Grid does not want to be shared outside of National Grid. However, it is perfectly possible to put in robust separation arrangements. I come from Centrica and we have a storage business that we run as a completely separate business, completely ring-fenced from the rest of our business, so I know from personal experience that measures such as that can be put in place and are very effective.
Q 115 Albert Owen: Mr Winser, we have had evidence sessions before and asked the same questions, and, on the evidence we received, the Committee believed that there should be an independent body that was a not-for-profit organisation. How can you reassure the Committee that your interest is not profit first?
Nick Winser: I would like briefly to talk about the role, and then talk about our experience of these sorts of perceived conflicts and how they are managed. There are essentially four roles here, four jobs that we have to do. As part of implementing this, as we did on NETA and BETA in the past, we have to build IT systems and put in place processes. That is number one. Secondly, we will need to do analysis for DECC using method, data and assumptions that DECC says we should use; we would do the analysis, but on the basis of the input from DECC. Thirdly, we will assess generation projects against eligibility criteria, which will be pre-defined and public. Fourthly, we will monitor performance of generators. I wanted to emphasise that just to give you a sense that, in my view, there is pretty limited discretion in this role. We are anxious to do a very professional job, but there is limited discretion.
Nevertheless, we have a lot of experience of managing these types of perceived or actual conflict issues. We have 20 years of experience and a number of partitions in our business already. Let me just briefly tell you how we work with them. What we can and cannot do is clearly specified today, with respect to other perceived conflicts, in our licence that Ofgem puts there; what data can be looked at by whom and used for what purpose, and so on—where people have to sit, whether there need to be access cards in place between different parts of the business. That is specified in a licence. We are required to appoint a compliance officer and a compliance team to look at what we are doing all the time and put in a detailed compliance statement to Ofgem, which Ofgem is then required to approve or ask us to amend. That compliance team then puts in regularly—
Nick Winser: I understand why there is that perception, but the framework that is put in place on our existing business is all about aligning shareholder interest with customer interest. That is absolutely the main pillar of modern regulation. To the extent that that does not work, these sorts of requirements are put in place. There is also the Utility Act, which puts very serious penalties on—
Q 117 Albert Owen: With respect, I am referring specifically to the Bill here. Are you comfortable with the clauses that the Government have put into this Bill, whereby the Secretary of State would have the power to appoint another body?
Q 118 Barry Gardiner: Mr Winser, when it was originally suggested that the Government would be the counterparty, and then the Treasury said no, the Government came up with a second idea, which was that you, the National Grid, would be the counterparty, and you said no. Now you are saying yes. Why did you say no then, and why have you changed your mind?
Nick Winser: I do not recognise that historical sequence. We always said that we did not think we should be the counterparty body for the CFDs. It is absolutely critical for customers that our balance sheet is deployed on our core business, which is about building networks. It would not be a good deal for customers with the significant sums that are going to flow through to generators.
Q 119 Mr Weir: I have a quick question on the capacity market. The Government have said that they are minded to run the first capacity auction in 2014. Does that give you the encouragement to invest in new plant?
Sue Wheeler: The introduction in 2014 would be a good idea. If there is not a great requirement for capacity in 2014 when they run the auction, the prices will be low. It seems to be a low-regret option to get what will be quite a complicated mechanism in place, with the details sorted out and the rules working and in operation earlier rather than later, so we would definitely support its introduction in 2014.
Examination of Witness
Tom Greatrex: I want to ask about part four: the strategy and policy statements section of the Bill. I want to ask Mr Wright whether he agrees that there is a need for greater clarity around Ofgem’s statutory duties and where precisely he thinks that need for clarity is.
Andrew Wright: This came out of the Ofgem review during the early months of the current Government. The Government effectively reiterated Ofgem’s independent role, but thought that there would be some merit in clarifying the respective roles of Government and Ofgem. The strategy and policy statement is seen as a means of doing this. It would set out the Government’s high level policy objectives and outcomes that the Government want to achieve, and some things that they would expect us to do in support of those objectives, in a way that generally respects our independence. We support that. Indeed, it was something that we suggested as part of that Ofgem review process.
Q 121 Tom Greatrex: How do you envisage that not compromising your independence? You talked about the importance of your independence alongside it. What safeguards would there be to ensure that your independence was not compromised, while those duties are still set out in more detail?
Andrew Wright: There are two safeguards. One is that the strategy and policy statement should very much focus on Government policy objectives and outcomes. That is the framework within which we would work. It would not involve directing Ofgem in a way that would compromise our independence. The second safeguard is that our requirement to have regard to that strategy and policy statement is subject to our principal duty to protect the interests of consumers. It is clear that that remains the paramount duty of Ofgem as an independent regulator. So we think there are sufficient protections within the framework that has been set up.
Q 122 Mr Hayes: You will know that it is central to the Government’s ambitions to make the market more plural and liquid, and you have done a great deal of work already on this. Can you say a word about the work, and do you welcome the fact that the Government have powers to go further, should that be necessary?
Andrew Wright: Generally, I think that we would be the first to recognise that our programme to improve liquidity in the market has been a long one, but we feel that we are making significant progress. Under pressure from potential Ofgem measures, we have seen significant commitments to put more liquidity through the market, but we are very clear that we think that more needs to be done.
We are pursuing a specific proposal for a mandated auction, but, in response to feedback from stakeholders, we are also looking at a somewhat more nuanced proposal, which we are now consulting on, which we call “secure and promote”. Effectively, it will secure the gains that have happened under pressure from Ofgem and the Government, and promote further liquidity where it is
Q 123 Barry Gardiner: You talked about introducing more liquidity into the market and the measures that you have taken to do that. Of course, there is a reason for introducing that greater liquidity: ultimately, the hope is that, through greater competition, there will be a lowering of prices. What evidence have you seen that that has actually resulted? It is not outputs but outcomes that matter here, is it not?
Andrew Wright: You are absolutely right; liquidity is not an end in itself. The objective is to make it easier to remove barriers to entry for smaller suppliers and new entrants to come into the market, to improve competition between the big six and to improve transparency. I think that, in line with the limited improvements in liquidity, we have seen limited benefits on those fronts as well. We certainly hear from the smaller suppliers that it is now easier for them to get the products and services that they want to compete against the big six. We have seen large increases in their market share—albeit from a very low base—which is now around 1% of the market, which is leading to real price competition. That is a big step forward from where we were, and some suppliers are growing very quickly. We have greater transparency, certainly in the short-term market.
Q 124 Barry Gardiner: My point to you is this: you said that the 20% figure that you were aiming for was going to do the trick. Now, 1%, or less than 1% for the non-big six does not sound like it has done the trick and it certainly does not sound—to any of us—as if it has lowered domestic prices. Having seen the ineffectiveness—I will not say total ineffectiveness—of that and your failure to achieve your objective, how do you now propose to go further and extend that beyond the 20% that you originally proposed?
Q 125 Barry Gardiner: But some of us were saying, back then, that 20% was not going to be enough. You are now saying that it has not proved to be enough, so why do you not now go the whole hog and really try to shake this market up?
Andrew Wright: The important aspect that we have not yet realised is where that liquidity is. More than 20% of electricity is traded through short-term markets. We need the liquidity to go through the forward markets; the longer duration products that enable smaller suppliers to hedge. We have not achieved that yet, so as we have not yet achieved the objectives, we would not expect to see benefits. That is why we are taking further measures.
Andrew Wright: We will respond to the current consultation, I think, before the summer, and potentially out of that will come firm proposals to put in place either the mandated auction that we have already developed or a more alternative, flexible arrangement which meets the concerns of the stakeholders—not just the big six but the independent generators and the small suppliers. It is worth saying that, if you look at the market today, in many cases the smaller suppliers offer the lowest prices or some of the lowest prices, so there is already evidence that the entry from small suppliers is having a beneficial effect.
Q 128 Barry Gardiner: I would be interested in seeing the evidence on that, if you could send that to the Committee, to show where it is that small suppliers are offering the best prices in the market and how that is feeding through into domestic bills.
Q 129 Peter Aldous: The Bill will give Ofgem a major role to play in improving liquidity, improving access for smaller suppliers and ensuring value for money to consumers, with powers of redress against energy companies. Do you think that your duties, powers and responsibilities have the necessary clarity at the moment? Will the proposed strategy and policy statement help improve that?
Andrew Wright: As I have said, the strategy and policy statement will help to improve that and provide greater clarity about the respective roles of the Government and the regulator. I think we have enough powers to address the concerns we have on liquidity. We are subject to appeal from the companies, and I believe that that is one of the reasons why the Government have taken their own powers in the area, in case we face opposition and appeal from the companies regarding our proposals.
Q 130 Dr Whitehead: On consumer prices, the Bill’s content appears to have some pressure on prices. Consumers will, for example, pay for the issue of contracts for difference. I imagine that you would be pleased, in terms of your role as regulator relating to consumer prices, that there is a levy control mechanism as far as CFDs are concerned.
Andrew Wright: First of all, generally, the way given to supporting low-carbon generation and the priority given to that are very much matters for Government. Our concern is to ensure that that is done in the most efficient and effective way possible. We believe that the CFDs represent a significant improvement on the renewables obligation, in terms of providing value for money to consumers. We have some concerns over some of the detailed design of the CFD, and we would like to see a greater role for competition. We certainly welcome the Government’s ambition to bring competition into CFD pricing at the earliest possible opportunity.
More generally, on the levy control framework, that brings the prospect of earlier competition through the process, whereby that is rationed if there is a lot of demand for the CFDs. From that point of view, it could provide some welcome downward pressure on the cost of delivering these objectives to consumers. But certainly,
Andrew Wright: No, we are not concerned about that. I am sure that you have had the debate already in this Committee, but we believe that a capacity mechanism is important. The earlier there is clarity that there will be a capacity mechanism, the better, and the greater the chance the industry will be able to respond positively to that. A well-designed capacity mechanism will deliver better value for money for consumers. Security of supply is an important outcome. Lack of security of supply has a cost, both in terms of the impact on industry and consumers, and of potential scarcity pricing that will result. I do not believe that it is necessarily poor value for money to have a capacity mechanism per se. A well-designed capacity mechanism could be in consumers’ interests.
Q 132 Dr Whitehead: Would you, for example, favour some form of capacity mechanism that increased consumer prices by about £1 per bill through to 2030, as opposed to £11 per bill by 2030 via a different mechanism?
Andrew Wright: Just looking at the impact on the bill is only looking at one side of the equation. You need to look at the benefits it brings in improved security of supply. I presume that you are alluding to the case for a strategic reserve relative to a market-wide proposal. There are pluses and minuses with each of those to some extent. They address different issues. A well-designed strategic reserve may well end up being more expensive, because you would still have the scarcity pricing in the market that could result from it, so you may end up paying for both the scarcity pricing and the strategic reserve. There are complicated trade-offs, and the Government have made the decision to go for a market-wide proposal, which has significant merits.
Andrew Wright: We do, and we have been supporting the Government with the decision and providing support and help to the Government in making critical decisions and making the trade-offs. In general, the market-wide system has the benefit in that it incentivises all players, including existing players. It is important not only that you get investment in new generating plant but also that you do not get premature closure of existing generation stations. The mothballed stations that currently sit idle can be incentivised to come back into the market if they are needed. A pure focus on a strategic reserve does not necessarily achieve that. There are real advantages in a well-designed market-wide approach. I can see the arguments in favour of a strategic reserve as well. To some extent, it deals with a different requirement. It deals with the potential for the market not responding properly to signals. It is almost a belt-and-braces insurance approach and may have benefits in its own right for that reason.
Q 134 Laura Sandys (South Thanet) (Con): Issues around consumer redress and the pressure in the Bill towards lowest tariffs are things that Ofgem is obviously looking at. Do you feel that the Bill actually strengthens your proposition, as a regulator, on those particular measures and enhances your ability actually to take forward some of your thinking?
Andrew Wright: First of all, we totally welcome the Government’s measures on consumer redress. We asked for that change. We saw it as a gap in our powers. In several cases, we were taking enforcement action, but were not able to provide consumer redress when it seemed as though it might have been the right thing to have done. Instead, the fines do not go back to the consumers. The change will provide an important addition to our toolkit in terms of enforcing licence conditions and getting good outcomes for consumers.
On the retail market powers that the Government are seeking to take, we welcome the Government sharing our objectives on the retail market. We are absolutely clear that we need greater clarity, greater simplicity and more fairness in the market. We are both aligned towards that objective. We hope that the Government use their legislative powers to complement and support the retail market review, and we are working closely with them to try to get the best outcome that is in the best interests of consumers.
Q 135 Mr Weir: May I ask you about the contracts for difference system? Clearly, the key to its success or otherwise is setting the right strike price, about which we have heard a lot from other witnesses. Although it will be set by the market in the longer term, it will initially be set administratively. With nuclear, I understand that it will be set by negotiation with the developers. How confident are you as a regulator that the initial strike price will be robust and will reflect market realities, because whatever it is will send a signal to the markets for future negotiations?
Andrew Wright: We gave oral evidence to the Energy and Climate Change Committee when it last looked at the Bill to say that there should be a greater role for competition in setting strike prices under the CFD regime. We welcome the clear direction of travel that the Government have indicated towards introducing auctioning at the earliest possible opportunity. It would have been better if the role of competition was built into the proposals from the start, but as I have said already, we are looking at something that is a material improvement on the renewables obligation in providing value for money. It is really for the Government, through their strike price setting process and the negotiations with the various parties on nuclear power, to ensure that they get value for money, and we will be happy to support them in any way we can to achieve that.
Q 136 Mr Weir: Are you confident that what is proposed at present will reflect the market reality? You raised the nuclear question, but if, as I understand it, you are having a negotiation between developers of one nuclear—Hinkley, as I understand it—and the Government, that
Andrew Wright: This is not a new problem. We regulate a number of monopoly companies. We are effectively in the same position of having to negotiate with them with potentially an asymmetry of information, and trying to set prices that are sufficiently demanding for them but at the same time allow them to carry out their business effectively. This is not a new problem.
Essentially, the Government are faced with a similar issue in relation to nuclear power. The difficult questions of how you allocate risk between consumers and the company to get best value for money and of how the Government ensure that they have access to good, independent information about the costs are all challenges that we face in our regulatory process when we regulate National Grid and the distribution companies, for example. It is possible to do it in a way that delivers good value for money for consumers and that incentivises efficient behaviour, but I cannot pretend that it is easy.
Q 137 Dan Byles: I think it is fair to say that Ofgem threw a hand grenade into the debate in October with your report that capacity was likely to fall from 14% to about 4% in as little as three years’ time. How confident are you that the Bill will take us back to a more comfortable level of capacity in a reasonable time frame?
Andrew Wright: It may have been a hand grenade; I think it was consistent with what we have said in the past. Effectively, the conclusion was similar to the conclusion we put forward in “Project Discovery” back in 2009-10—slightly earlier, I think—in terms of the problem or the tightness in the market arising. It was similar, but none the less two years closer to the issue arising.
This emphasises the importance of having a capacity mechanism in place. It is important that the incentives are right not only for companies to invest in low-carbon generation, but for delivering security of supply. That is what the capacity mechanism is designed to achieve. I am hopeful that putting in place auctions in 2014, even though that is for delivery in 2018, will provide sufficient clarity for the market to invest in long-lived assets. Clearly, if someone is making a decision now to build a power station, they will benefit from the capacity mechanism for a long time.
Q 138 Albert Owen: You mentioned that your retail market review complements what the Government are bringing forward. Why did it take you so long to do it? When we questioned them on this in the Select Committee, the Government basically said that you were taking so long that the Prime Minister had to make that statement. Can you comment on that, please?
Andrew Wright: First, it is worth saying that we are a statutory regulator. We have to consult properly and fully. We have to collate the evidence on which to base our decisions. If we get it wrong and we are challenged by the companies, that evidence will be scrutinised at the Competition Commission, so we have to go through the due process.
There was a delay. The delay was around three or four months—we expected initially to deliver our proposals before the summer—and the reason for that was that the consultation responses suggested that we needed to change some aspects of our policy. As a result of that process, we ended up with a better set of proposals, which were more proportionate, and that process was worth doing.
Andrew Wright: We have concerns about the pressure on energy prices in general and the effect on consumers. I understand the issues in relation to energy-intensive industries. I understand that the Government are well on top of that and have some proposals in train. It is something that we are clearly concerned about, but it seems to be something the Government are addressing.
The Chair: I am afraid that that brings us to the end of our time. Hugh Bayley will chair the Committee this afternoon—he is a much tougher man than me, so be careful. I thank the witness and all the Members.