Select Committee on Constitution Minutes of Evidence

Memorandum by Professor Stephen C Littlechild[2]

  The introduction of privatisation, competition and regulation represented three significant changes in the UK public utility sector. Surprisingly, perhaps, regulation proved as controversial as the other two changes, and continues to attract interest with a view to assessing the need for further changes. I argue in this paper that in general the introduction and operation of regulation has been successful in the UK; that more recent developments in policy have not necessarily been conducive to improving or maintaining this record; and that it would be preferable to avoid undue intervention or further changes in the regulatory framework. Most of the illustrations reflect my experience in regulating the electricity industry, but the arguments are intended to apply more generally.


The initial arrangements for utility regulation were developed in the context of the various privatisations, and were refined somewhat from one privatisation to another. Given the siginificant change in policy, these arrangements needed to be carefully considered, so as to protect the interests of customers while still appealing to investors.

  On the whole these arrangements have functioned well. There were initial difficulties, attributable in significant part to the post-Vesting industry structures and to the opening price controls set by Government. However, a succession of National Audit Office (NAO) reports has shown the reductions in prices, increases in investment and improvements in quality of service that have been achieved over the last decade or so. There have also been greater increases in competition in energy and to some extent in telecommunications than could have been expected beforehand.

  In terms of process, regulators have consulted widely with all interested parties, and given increasingly detailed explanations of their decisions. The possibilities of appeal to the Competition Commission (formerly the Monopolies and Mergers Commission) and of judicial review have been used effectively and not excessively. Parliamentary Select Committees and the National Audit Office have effectively held regulators accountable for their actions. There has been no shortage of informed critical attention by the media and the financial community. Although the transition from nationalisation to competitive markets, with regulation of the monopoly networks, has not always been smooth, the regulatory framework seems to have balanced predictability and flexibility. Investors have continued to supply the necessary funds.

  In my experience, the UK example is increasingly respected overseas. In particular, the success of "independent regulation" is admired with some envy, particulary in developing countries that do not have such developed alternatives or complements to regulation by government itself.

  Over time, the practices of the utility regulators have evolved, and the regulatory framework has changed in various ways. Some of these changes reflect revised statutes, others changes in government policy, yet others changes by Parliamentary and other bodies. Not all of these changes have necessarily been conducive to more effective regulation, but the framework has so far proved robust.


  The Utilities Act 2000 followed an extensive government review of utility regulation. This concluded that the regulatory framework was broadly satisfactory but that certain changes needed to be made. In the course of its passage through Parliament the originally envisaged changes were modified somewhat. I comment here on three aspects.

(a)   Boards versus individual regulators

  The Utilities Act merged the regulation of gas and electricity, though I do not comment on this here. The Act also replaced an individual regulator for each by an Authority consisting of several members, some executive and some non-executive. It is perhaps too soon to evaluate the effect of this particular change, but some remarks about Boards generally versus individual regulators may be helpful.

  A Board may be useful in deflecting attention from the personality of an individual regulator, and in reducing pressure on him or her, though it would be surprising if personalities were no longer a subject of comment. It is not clear that a Board will increase predictability and consistency of regulatory actions: these will now depend on the views of several people rather than one, the weight of opinion may vary from one issue to another, and membership of the Board will in practice change more frequently than the identify of a single regulator. It seems likely that policy will be more reactive and less pro-active, and probably less innovative, insofar as several people will need to be convinced of the need for change. A Board is likely to slow down decision-making, insofar as several people (many not full-time) will need to understand and be convinced of the acceptability of a proposed policy or action, and requests for clarification or further justification may delay decisions somewhat. If non-executive members of a Board have short-term contracts, being appointed or reappointed every one or two years, this could both undermine consistency and compromise the independent regulation that five-year appointments of individual regulators were intended to secure.

(b)   Reordered duties of the regulator

  The Utilities Act change the duties of the regulator. Originally, the primary duties in electricity were to promote competition, to secure that reasonable demands were met, and to secure that licensees could finance their licensed activities. Subject to these, there was a duty (among others) to protect the interests of customers. Now, the principal objective of the Authority is to protect the interests of consumers, where appropriate by promoting effective competition. Subject to this there are duties (among others) with respect to meeting reasonable demands and financing activities.

  Two aspects of this change seem relevant here. First, the duty to promote competition is downgraded: it is no longer absolute, competition now has to be justified as being "appropriate" and "effective". This could limit the development of competition and introduce a greater element of uncertainty and subjectivity into regulatory policy.

  Second, the role of the regulator as an adjudicator of the interests of customers and investors seems now to be more compromised by making the promotion of the interests of consumers the primary duty. To a greater extent than before, the regulator is required to be both prosecutor and judge. It also seems difficult to reconcile this change in role with the simultaneous creation of an independent consumer body (Energywatch) whose duty is also to promote the interests of consumers.

(c)   Duties to consult

  The Utilities Act placed more explicit duties on the regulator to consult with others including other regulators, and to explain actions taken. This may have been in response to early concerns about regulatory practices. However, regulatory practice had already evolved significantly in the light of experience—for example, in terms of the number and stages of consultation during a price control review, and in terms of the detailed calculation and explanation of proposed controls. It is thus doubtful whether the additional obligations had a significant effect in practice, though they may have reinforced the need to document compliance therewith.

  I do not sense any demand for more consultation than is already carried out. Indeed, interested parties have expressed some concern about the frequency and extent of consultation papers, because of the workload that they imply. As for residential and other small customers, regulators took steps some years ago to afford facilities for public debate, and to provide the opportunity to ask questions leading up to price control reviews. This was a worthwhile innovation, but the response was not overwhelming. Other countries have reported similar experience. [3]


  Government has adopted a more active policy towards the utility sector than was the case after privatisation. The previous Government took the view that Goverment ownership and intervention in the running of the utility industries had contributed to the relative lack of efficiency and customer responsiveness. A key aim of privatisation was to introduce competition where possible, and it was the job of the regulator both to promote such competition and to take appropriate action where competition was unlikely to be sufficiently effective. Government took the view that customers would be best protected, responsibilities would be most clearly defined, and regulators most clearly accountable, if Government minimised the extent of political intervention in the utility sector. It was not unusual for Ministers to reply to enquiries and Parliamentary questions with the phrase "that is a matter for the Director General".

  Present policy is to take a more active role. To illustrate from the energy sector, there have been the following:

    —  Modification of the regulatory framework via the Utilities Act, as already noted.

    —  Explicit obligations on the regulator to take account of Government Policy guidance on social and environment issues.

    —  Government decisions to carry out investigations jointly with the regulator (eg opening of the competitive market in 1998, New Electricity Trading Arrangements or NETA).

    —  Government investigations that were previously carried out by the Director (eg into the level and nature of retail competition, into the restoration of supply after the storms of late 2002).

    —  Modifications of the wholesale trading framework by statute rather than within the existing regulatory framework (for NETA in England and Wales and prospectively for BETTA, its extension to GB).

    —  Provision within this new statutory framework for Government rather than the regulator to specify the details of trading arrangements.

    —  Intention to develop a more explicit fuel policy, including a view on diversity and security of fuel supplies.

  Previously, the Secretary of State and the regulator had the same duties but different functions. Several factors ensured a workable consistency of policy, including a mutual awareness of the policy considerations impacting on each other's office, and the ability of the Secretary of State to veto a licence modification proposed by the regulator. This veto could have been onerous and would tend to work against the interests of the customers of the utility services. However, I suspect that it was seldom used or threatened. For the most part the spheres of action of the government and regulator were generally quite distinct.

  Now, in contrast, there seems in practice to be considerable overlapping of government and regulatory actions. This may have implications for the working relationship between Government and regulator, for the allocation and evaluation of responsibilities between the two entities, for the accountability of both entities, and for regulatory independence.


  Regulators are periodically required to appear before various Parliamentary Select Committees and are subject to investigations by the National Audit Office. These are significant components in the process of holding regulators accountable for performance of their statutory duties. In my experience regulators take these investigations very seriously, in terms of the time and resources devoted to answering written requests for information, preparing for appearances and answering oral questions, supplying additional material and justifications where required, and responding to the formal reports at the end of investigations. Regulators also take very seriously the deliberations of these bodies when considering their future policy. This applies both in terms of the specific recommendations in any report, and more generally in terms of the regulator ensuring his or her ability to justify actions taken in the event of a subsequent inquiry.

  It has sometimes been suggested that a standing Parliamentary committee be created for the utilities. This would subject the utility regulators to regular reviews, and over time would acquire increased specialist knowledge of the utility industries and regulatory policy. As I recall, regulators had no objection to this, if Parliament considered this the most effective way to discharge its remit. However, my understanding is that it was widely felt that Select Committees were most effective, and most responsive to the interests of their members, if they retained the flexibility to investigate whatever issues were of most concern at the time, wherever this might be, rather than constrain themselves to one area that might or might not require regular investigation.

  There is merit in this more flexible approach, for several reasons. First, as noted, investigation by a Parliamentary Committee is burdensome in terms of regulatory time and resources, and not lightly to be imposed in the absence of good reason. Second, the investigating Committee might not find much new to say, and/or could be drawn beyond its area of main expertise. Third, repeated review could blur accountability as between the regulator and Committee, with the Committee's judgment increasingly being substituted for that of the regulator.

  Some of the negative as well as positive aspects of this more regular monitoring arrangement are or might be reflected in the evolving relationship between regulators and the National Audit Office. On the one hand, the NAO reports into the utilities have hitherto been informed, careful and responsible. They have presented a balanced albeit limited picture of the achievements of the utility industries and their regulators. They have presented a useful counterbalance to other reports that may reflect politically charged issues. On the other hand these investigations have undoubtedly been burdensome on the regulators. As the number and regularity of the NAO reports have increased, they have gone beyond an "audit" of what has happend, to (eg) an analysis of what kinds of price controls might be most appropriate in future. It is not clear that this is where the NAO's strength lies, or that it pushes forward regulatory thinking. There is also the danger that if investigation became too frequent and routine it could lead to regulatory offices informally checking policy with NAO officials in the course of implementation in order to prevent criticism in a future report. This could blur accountability.


  Regulatory budgets have increased over time. In the energy sector, this seems to reflect a variety of factors, including transitory issues like the creation of Ofgem and the installation of the New Electricity Trading Arrangements; pressure to carry out price controls with increasing thoroughness; an increasingly active government: and the costs of promoting and monitoring competition.

  Replacing detailed regulation by effective competition would tend to give more weight to the needs or concerns of the public as reflected in their views as utility customers, relative to the views of the regulator. Accordingly, there has been discussion of whether regulators should or could cut back their activities as competition develops. To a greater or lesser extent, regulators have tended to reply that competition is not yet sufficiently developed to do so. In my view, regulators might be more pro-active both in promoting such competition and in withdrawing from detailed regulation of increasingly competitive markets. (To its credit Ofgem has now promoted sufficient competition to remove all retail price controls on gas and electricity.)

  If changes is legislation were envisaged, it would be possible to consider transferring responsibility for newly competitive markets from the sector regulators to the Office of Fair Trading. This could be conducive to a more pro-competitive and less interventionist approach. On the other hand, there is merit in avoiding further disruption to the regulatory framework. As it happens, the ways in which competition could be promoted, and detailed regulatory involvement reduced, are to a great extent within the present ability of the sector regulators to carry through without the need for additional regulation.

  A final issue is the extent to which the needs or concerns of the public guide the work of regulators in setting price controls for access to the network monopolies. While regulators have done a conscientious and effective job of setting price controls, two limitations of the process might be noted. First, the regulator has to judge, amongst other things, what level of investment in quality and security of supply customers would prefer, given the implication for price. In electricity, consumer committees gave some valuable assistance in this matter (which is no longer available since the restructuring of the regulatory framework), and regulators consult widely with all interested parties. Nevertheless, the ultimate decision on what to propose is that of the regulator. Second, the need to explain and implement a uniform framework for many companies within an industry tends to reduce the scope for relating each control to the circumstances, needs and preferences of each set of customers. It also tends to reduce innovation.

  It seems to me that there would be scope for regulators to "devolve" certain aspects of the network price control reviews to discussions between companies and customer representatives in their areas. How these representatives should be selected, or select themselves, is an interesting question that lies beyond the present paper. These representatives would need access to adequate information and advice, which could be arranged. If the companies and customers reached agreement, the regulator could approve the proposed controls, provided he or she were satisfied that the controls were consistent with the statutory duties and other relevant considerations. If the parties did not reach agreement the regulator would need to stand ready to propose a control in the normal way, although it is entirely possible that this fallback would not be necessary. Controls set in this way would tend to reflect more directly the needs or concerns of the customers of the utilities, and allow more scope for innovation and learning over time. Some North American utility commissions have apparently adopted a similar practice, and I am presently studying experience there.


  On the whole, UK utility regulation has worked well. It is not clear that recent changes have been necessary or always for the better, but the framework has so far proved robust. My main concerns are the increasing extent of displacement and "second-guessing" of regulatory decisions. An increasingly active role for government in the utility sectors, and excessive and repeated investigation of the regulators by Parliamentary and related bodies, could impact adversely on the performance and accountability of the regulators. I would therefore urge this Select Committee to "let the regulators get on with their jobs".

Professor Stephen Littlechild

7 February 2003

2   Formerly Professor of Commerce, University of Birmingham, 1975-89, and Director General of Electricity Supply 1989-98. Presently Honorary Professor at University of Birmingham Business School, Principal Research Fellow at Judge Institute of Management Studies, University of Cambridge, and consultant on privatisation, competition and regulation. Back

3   Eg "A total of only four members of the public appeared to testify at service hearings held in this docket in Hollywood, Tampa, Orlando, Jacksonville, and Panama City." In re Petition for rate increase by Peoples Gas System, Florida Public Service Commission, Docket 020384-GU, Order PSC-03-0038-FOF-GU issued 6 January 2003. Back

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