Market magic in the energy and water sectors: all that glitters is not gold

Sustainability First’s New Energy and Water Public Interest Network (New-Pin) has been exploring how far market-led approaches can deliver our desired long-term public interest outcomes in energy and water.  Sharon Darcy shares some of the thinking from the recent New-Pin workshop on this topic.  Although energy and water are at different ‘moments’ in terms of their experience with markets, many of the lessons from the workshop are generic across the sectors.

Markets can deliver many benefits – they can reveal new information and bring in new skills and partners leading to innovation, efficiency, and more responsive and flexible services.  However, they are not risk free.  Markets by their very nature create winners and losers; whether this is individuals (who may or may not be vulnerable) who are expensive to serve and therefore less likely to be targeted by marketing departments or companies that in a dynamic competitive environment may quickly find themselves with stranded assets.

The New-Pin Network has identified six possible desired long-term public interest outcomes for the energy and water sectors: value for money; quality services; cleanliness; resilience; ‘place;’ and fairness.  Market-led approaches can deliver against most of these outcomes but not necessarily all of them.  And even when they can be beneficial, in these sectors, along with many others, they need clear frameworks and rules if their effectiveness is to maximised.

Working out how to capture the beneficial ‘magic’ of markets whilst also being prepared for the potential pitfalls requires clear thinking and careful communication. Given the fact that markets are unlikely to emerge spontaneously in these sectors, and will require some degree of oversight and planning, it is clearly important that market-led approaches are focused where there is a need, and opportunity, to do things differently.  Being clear about whether there is a case for change (such as new technologies coming on stream), and if there is consensus that there is a problem and what the possible solution is, is a first step.

Focusing market-led approaches where the net benefits are greatest is also important.  Although markets can have beneficial ‘trickle down’ and indeed ‘trickle up’ impacts, and can drive wider behaviour change across the sectors, not all ‘knock-on’ impacts will necessarily be beneficial.  And introducing market-led approaches can be tremendously time-consuming.  There is likely to be an opportunity cost involved.  Paying heed to where the greatest costs in the sectors lie would seem sensible when deciding where to target activity.

All too often, discussions about markets get stuck on questions of competition in the market and giving individual consumers the choice of providers.   There are clearly a far wider range of market-led approaches available in the sectors than the opportunity to switch suppliers.  These include competition for the market (such as auctions) – as well as approaches that enable local co-operation and collaboration.  Choosing the right mix of approaches to deal with each part of the value chain, whilst recognising the environmental and social externalities and systemic risks in the sectors, is important.

Markets struggle to deliver fairness and ‘place.’  It is therefore vital that policy makers and regulators are clear about what they will do about winners and losers in advance of introducing change.  The sectors, after all, provide essential services with very limited substitutes.  Understanding whether they will put protections in place up front, or only once problems emerge, can help manage expectations and enable all stakeholders prepare for change.

In the end, however, part of the magic of markets is that they are dynamic – a journey.  As no one knows what the final destination will be, building consensus on the rules of the road up front, and how to respond to the ‘bumps’ along the way as they emerge, is essential.  Stakeholders need to agree what the red lines and risk tolerances are and what they will do when events happen.

Lastly, in order to maintain public trust in a changing market environment, it is important to engage those that will impacted on how you will monitor behaviour, enforce rules and explain decisions.  Communicating why you are doing things – even if it is a decision not to intervene – is vital for such essential services.  Learning the lessons from market-led approaches and transparently sharing these insights not only helps refine future approaches but crucially also builds public confidence and hence reduces political risk.

A detailed slide deck providing information on the theory and practice of market-led approaches in the sectors, different perspectives on the issue and spider diagrams illustrating how far market approaches can deliver on our long-term public interest outcomes is available here on the Sustainability First web site.


Being fair to ‘sticky’ energy customers – both now and in a ‘smarter’ future

Thursday’s backbench Commons debate on energy prices has prompted politicians and others to consider a number of possible alternatives to the remedies made by the Competition and Markets Authority (CMA), following their investigation last year into electricity and gas prices.  Around 70% of domestic energy customers remain on energy companies’ Standard Variable tariffs (SVTs) and could save up to £200 by switching to a cheaper deal, but nevertheless decline to switch.  In a new Sustainability First paper, I have argued that any potential solution to customer ‘stickiness’ needs to be measured against two key objectives  designed to ensure that any remedy adopted is fair to all customers.  My two ‘tests’ are:  (1) that the arrangements encourage companies to price competitively and to innovate to meet the changing needs of the market, and also (2) that they avoid particularly unfair pricing for any domestic customer or group of customers.

The CMA remedies broadly deliver on the first of my two objectives by removing some previous barriers to increased tariff innovation. But the CMA only delivers on the second to the limited extent of providing protection through a price cap to customers on prepayment meters.  For the roughly 50% of households that are able to engage in principle – but for whatever reason choose not to – the main CMA remedy is to provide those customers with more information about energy pricing and switching.  The CMA does not seem to have looked across to thinking from the Financial Conduct Authority, who recently said, in its Future Mission Statement:

‘Public policy makers have traditionally assumed that people will make the ‘right’ choice for their needs if they are given as much information as possible… Our own research has also shown that that too much information can confuse consumers’.

Customers are being encouraged by the Government and regulators to become more engaged not just in their energy bills, but in choosing their retail bank and making financial provision for their retirement, to mention just two.  But is this the right approach?  Each of these activities takes time and effort, and many people will want a ‘good enough’ solution, not necessarily the absolute best.  If people choose not to make the effort, does this mean we leave them to the consequences of their inaction, particularly where essential services are concerned? Or do we seek to avoid anyone being particularly unfairly treated or exploited?  This is why both of my key objectives are important  – both to encourage competitive pricing and to avoid unfairness.

None of the  solutions proposed so far to tackle customer ‘stickiness’ – either by the CMA or others –  fully meet my two objectives.  One that seems to me to come closest, assuming there are no radical changes in current market arrangements, is in two parts.  First, as proposed by Dieter Helm, energy suppliers offering an SVT should make public for scrutiny by customer watchdogs and other commentators the margin they anticipate making on it.  This would seek to deter companies offering cheap deals to engaged customers at the expense of those on the SVT.  Second, the evidence suggests that in reality many customers actually prefer an SVT and, if switching, would opt for their new supplier’s SVT.  But, in contrast to switching to a 12-month fixed price deal, no price protection is afforded in moving to a new SVT.  As we have seen in recent weeks,  price increases by one energy company tend to be followed fairly quickly by the others. It is possible for a customer to get caught out by switching to a company that has not yet put up its price but is about to.  In my paper, I therefore suggest that price comparison sites should also start to include the date on which the SVT was last changed.  Although far from perfect, it may, by  requiring transparent information on the last price increase, at the very least offer the consumer bodies some insight into whether a new price increase might be in the offing – and so might help confidence in the switching process.

There are also lessons for the future.  The Government’s plans for a new ‘smart’ energy world with smart meters and greater customer flexibility assumes that customers will respond to better information and greater price differentiation by changing their energy purchasing and usage patterns in response to time-of-use or other ‘smart’ tariffs.  If the experience of stickiness in today’s domestic energy market is anything to go by, this could be a hard sell with many customers.  More research is needed on the likely response of typical customers, and not just the enthusiastic minority.

The Sustainability First discussion paper – “Engaged, or just good friends? – An exploration of retail electricity and gas pricing and ‘sticky customers’” –  is available on the publications page of our website –

Jon Bird
Associate, Sustainability First



It’s time to talk: why GB household demand-side flexibility needs a high-level standing group

For the past two years Sustainability First has provided support for a major demand-side initiative, designed to encourage industrial and commercial (I&C) customers to understand more about the opportunities that their flexibility could unlock and how to set about it: whether to save money from active peak avoidance, or to earn potential new revenues if they can successfully offer services to the GB balancing or capacity markets. From time to time, business customers might be paid to export generation or to flex their power off-take to respond to the wider needs of the overall power system.

Power Responsive is a collaborative effort led by National Grid for I&C electricity customers to raise awareness, improve understanding and support development of sustainable markets for GB demand-side flexibility. The initiative is delivering a systematic work programme alongside active outreach to business customers, coordinated by a steering group whose main task is to get to grips with the major enablers and blockers for future demand-side market development:

  • What factors will drive forward market development?
  • From a customer viewpoint, what still stands in the way of successful demand-side delivery for GB ?

The group is high-level but also has the experience to flag up potential problems and to anticipate developments, focusing on matters that risk stalling wider development of GB flexibility markets before these get the chance to grow, including potential issues of trust and reputation. The group draws from a mix of market actors – retailers, aggregators, brokers, networks, the system operator – together with I&C customer representatives, including distributed generators and storage operators, and Ofgem and BEIS. The group’s job is to take a strategic look out to 2025 at what demand-side success might look like – both for the market and for industry customers. The group does not shy away from difficult or complex topics. There is a strong focus on landing outcomes and on delivery.

One important output has been the Power Responsive annual report for 2016, just published, written for the group by Sustainability First. The report offers a good overview of the current patchwork that makes up the GB demand-side flexibility markets and a useful snap-shot of the current views of both market actors and I&C customers. There is also a good ‘state-of-the-market’ infographic.

But perhaps most important, the simple fact that a group was charged with looking right across the demand-side markets for I&C customers meant that it was possible to start a productive conversation about metrics needed for these markets:

  • How to judge success?
  • How to base-line the state of demand-side markets today?
  • How to begin to assess market progress year-on-year?
  • What data is already collected? Is it comparable?
  • What analysis is already produced and published?
  • Where are the gaps in data, analysis and knowledge for future years?
  • What is the best way to tackle this going forward?
  • And, importantly, who to lead and how best to coordinate?

And so, a main conclusion must be that it can be ‘good to talk’. A constructive start has been made for the I&C customer side. But strangely, and despite rapid developments on smart meters and the burgeoning home control market, there are no current plans for an equivalent cross-industry and consumer forum for small customer and household flexibility. Why not?

Sustainability First is convinced that it is time to join the dots at a high level for the household sector too. In our response to the recent BEIS smart energy call for evidence, we pointed out that there is an unmet and current need for a high-level standing group able to look at household flexibility and the GB household demand-side in the round. Current work on household and small-customer flexibility has an inevitable focus on detailed ‘process’, organised in separate work-streams. Of course this is necessary and important (half-hourly settlement, smart meter roll-out etc). But, there is a significant gap in looking across the board – including at wider outcomes, whether intended or unintended. The aim would be to ensure coherence and consistency of approach, early warning on unexpected outcomes, to improve consensus, and to achieve a degree of common understanding across the many different actors, interests and complexities.

This is not to suggest that development of a flexible household demand-side should not be market-led. Rather, that the complexity and scope for sub-optimal and / or unexpected outcomes is significant. The potential for reputational problems are major – even from just a handful of ill-judged or mis-sold products or schemes.

 Any such group would need strong BEIS and Ofgem involvement. Because its main focus would be households, including energy customers in vulnerable circumstances, it would need appropriate consumer representation, and this may need resourcing in some way.

Sustainability First’s initial ‘menu’ of topics – based on our current and former research – and where high-level thinking is needed over a sustained period includes the following:

  • Future tariffs: implications of half-hourly settlement and cost-reflection, principles of ‘fairness’,  retailer responses including cherry-picking, choice, approaches to price comparisons.
  • Customer safeguards and protections: unexpected bills, ‘lock-in’ to kit or other sales (e.g. connected home), multi-utility models, pre-pay, debt calibration, third-party actor roles – aggregators, brokers.
  • Community & local flexibility schemes: group approaches to supply, supply licence requirements.
  • Smart appliances: requirements (if any), standardisation, avoiding proprietary set-up.
  • Privacy: customer consents on use of their data.
  • Cyber security: smart meters, smart appliances etc – minimising customer and system risk?
  • Export metering: future metering requirements for PV, storage
  • Trials: probing knowledge gaps, institutional and regulatory barriers, customer outcomes
  • Customers in vulnerable circumstances: whether and how demand-side flexibility might serve such customers well.

Sustainability First’s long-standing experience on household ‘smart’ energy tells us that such a group would add up to more than a sum of its parts. It would help focus hard on the major barriers and could resolve problems in a collaborative way to ensure a better implementation / transition to household demand-side flexibility.

The pace of change for household energy customers is set to quicken. As household flexibility markets start to evolve and to grow, it is in everybody’s interests that customer outcomes are beneficial and positive. We look forward to the BEIS / Ofgem Smart Systems Plan due this spring. We hope that it will include a clear recognition that it is now ‘time to talk’.

Judith Ward
Director, Sustainability First

Civic pride, the public interest and paying the bills: what does fairness look like for our water supplies?

On hot, sultry summer evenings tourists unsurprisingly flock around the Trevi Fountain in Rome.  There is no better place to enjoy the beauty of the city, an Italian ice cream and dream.  Whilst throwing coins into the Fountain, what few may realise is that the water they are looking at is being transported through an ancient Roman aqueduct. Infrastructure that the far-sighted Romans recognised could help provide one of the foundations for the prosperity of the city  – and indeed empire – for generations to come.

From fine art and the flowing waters in Rome, take an about turn and move on literally to what was London’s dirtiest hour: the Great Stink of 1858.  Sewage on the banks of the Thames had accumulated to such an extent that cholera outbreaks were rife and thousands were dying.  Step forward one of the greatest of the Victorians, Joseph Bazalgette.

Joseph, London’s Metropolitan Board of Work’s Chief Engineer, realised something needed to be done – and at scale.  He designed London’s sewer network, in the process reducing the risk of future cholera outbreaks and cleaning the water in the Thames.  His vision was such that he ensured that the diameter of the sewer pipes being built was considerably wider than what was needed at the time.  This enabled the network to accommodate the extra demands of the growing city and keep the river clean – without the need for digging up roads and knocking down buildings to build more pipes.

As these examples illustrate, the benefits of any new water related investment extend beyond the individuals that use it to wider society and can often be enjoyed both today and way into the future.  Having a long-term vision for such as essential service that can deliver multiple benefits, along with civic pride, would therefore seem important.

But here’s the rub. The future is uncertain.  No one knows exactly how much water will be needed in the years to come, where it will be needed and whether new technologies will emerge that will change the way it is delivered and used.  In addition, the coming generations that may benefit from such far-sighted investments and infrastructure aren’t around to speak up.

At the same time, those who currently use the services, and are likely to be expected to pay for future investments, may already be having problems in terms of paying today’s bills.  A sobering one in eight households across England and Wales currently struggle to be able to afford to pay for their water.  For many, the current system looks far from fair.

This presents policy makers and regulators with an age old challenge – how to balance the interests of current and future generations.   Clearly much can be said about not investing in new pipes and other infrastructure ‘ahead of need’. No one wants to see white elephants and stranded investments that aren’t really needed, particularly when many of today’s consumers already find it hard to make ends meet.  However, it is also important to recognise that putting off decisions around new investments may potentially make them more expensive in the future, reduce opportunities for growth or foreclose future options, particularly if space subsequently becomes more restricted.

These are big issues of public policy that all consumers and citizens should have a say in.  In an investor-owned water system as in England, it is even more important that the public interest is heard when significant decisions are made if they are to be seen as providing ‘just’ water for both today and tomorrow.

In recent years there have been significant and welcome developments in GB in terms of consumer engagement in the water sector.  Local people are now being given a voice in many of the decisions that relate to their water services through formal ‘consumer challenge groups’.  How the collective interests of citizens and communities are able to shape how services and investments need to evolve is likely to be the next stage in this journey.

As our future climate becomes more unpredictable and we increasingly face the risk of too little or too much water, uncertainty may well become more acute.  What we do know, however, is that when droughts and floods hit, communities are in the front line and need to pull together.   Having a shared and developed view of how far and fast we need to invest for a resilient future would seem wise.

All this will necessitate a ‘deep dive’ into the issue of fairness:  what is fair for individuals, communities, our shared society and the future?  People often have clear views about what is unfair – such as risks and benefits not being shared – but less so as to what fairness itself is.

A public dialogue over the issue of public interest and what a ‘just’ water system looks like is a good place to start. It would seem unwise to wait for what could be the UK’s Twenty First Century equivalent of the ‘Great Stink’ before we are galvanized into action.  If we do, Bazalgette and the architects of the Roman aqueducts may rightly question whether we have learnt all we can from their pioneering legacies.

This post from Sharon Darcy has been written as a contribution to the JustWater programme that is raising awareness and activism about water in the run up to the UN World Water Day in March.  Sustainability First’s New Energy and Water Public Interest Network (New-Pin) is exploring these issues.   At a workshop later this month New-Pin will be asking how far market approaches can deliver desired long-term public interest outcomes such as fairness in energy and water supplies. 

A world of multiple-choice


A view by Sharon Darcy, Sustainability First Associate

When I was working in China in the 1980s I was lucky enough to be able to afford to buy a bicycle; the main way to get around at the time.  At the small town’s only bike shop, I looked at the array of gleaming machines.   All identical.  Still enthused by the idea of my own transport, I thought this was a minor inconvenience and tried one for size.  Just right.  It was only then that I realised the nervousness of the on-looking staff.  Neither that bike – nor any of the others in the shop – actually worked.  The choice was in effect zero.

Since that time, I’ve realised just how important choice is.   Most of us don’t like it when we have no choice.  Being able to choose between different services and providers can help create thriving markets, drive innovation and ensure that what we buy meets our needs.

In recent years there has been an increasing shift in public policy to get people to take more personal responsibility and to make more choices for themselves.  Just as we have long shopped around for groceries, so too can we choose between energy, insurance and communications providers.  The boundaries of choice are now being pushed further to include services such as pensions.   And to help reduce the impacts of an aging population on a stretched public purse, there may well be increasing pressure on us to make choices in areas such as social care.

All this choice sounds well in theory, but what does a world of ‘multiple-choice’ mean in practice? We all know that not all choices are the same.  And we clearly all start from different points in terms of the choices we make.  There are lots of areas where we don’t always have a choice.  The table below provides a high-level categorisation of six different types of choice.


  Type of choice When choice is made Examples of areas in which choice is made
1 Consumer choices At time of individual transaction ·         Consumer goods
2 Essential or ‘foundational’ service choices As services are normally used continuously, choices can be ‘rolling’
  • Energy
  • Communications
  • Insurance
  • Banking
3 Life-stage choices At key life stages
  • Education
  • Housing: renting / buying & mortgages
  • Retirement planning
  • Social care
4 Distress choices In response to problems
  • Key equipment eg boilers
  • Health services: physical & mental
  • External shocks: accidents; crime; terrorism; flooding etc
5 Personal choices Over time and cumulatively
  • Well-being: physical; mental & spiritual
  • Community
6 Ethical and moral choices Over time, cumulatively. Can be instinctive
  • Treating others fairly and with respect


Decision makers in government, regulators and companies spend much time looking at the costs and benefits of choice in their particular areas and at how some groups of people may find it more difficult to make choices.  There is also a growing acceptance that the insights from behavioural economics can be used to maximise the effectiveness of choice.  However, there has been less attention paid to understanding the cumulative impact of choice and how different types of choices interact.

Taking a holistic view of the choices we are increasingly being asked to make raises a fundamental question:  are there any limits to the number and combination of choices that we are willing and able to make?

Are there limits to our capacity to make choices?

  • Given that there is a limited number of hours in the day for people to exercise choice, are we likely to suffer from choice ‘over-load’?
  • How do we ensure choice works as a society for the increasing numbers of people who are ‘time poor’, such as the one in five who usually work over 45 hours a week or those that have to juggle multiple jobs?
  • If policy makers introduce ever-more measures that put pressure on people to make choices about essential services, will this have a knock-on impact on choices in other areas of their lives?

Are there any limits to our capability to make choices?

  • Does ‘shopping around’ drive short-term thinking and make us less able to focus on, and judge, our total overall and long-term interests?
  • What impact does the growing uncertainty and frequent lack of permanence of modern life – such as temporary work contracts and the rise in private rental accommodation – have on the ability of increasing numbers of people to make effective choices?
  • Given the increasing availability of information, is it getting easier or more difficult to make the ‘right’ choices? If big data leads to services becoming increasingly tailored to meet our own individual interests, what impact will this have on our collective interests?

All this is not to undermine the value of choice but rather to recognise that it is not a silver bullet for society’s problems.  Exploring what the collective and societal impact of choice is would seem to be important.  Three ideas may be helpful in thinking about what weight to give to choice in future public policy thinking:

  1. Given the high degree of consumer inertia and reluctance to exercise choice or switch providers in many markets, rather than seeing this as an obstacle that consumers need to ‘wake up’ from, see if this can be turned into a positive. The automatic enrolment programme in DC pensions is a good example of this.  Building long-term and trusted relationships where loyalty is rewarded should be good for business.
  2. Transparently and collaboratively explore the advantages of community and collective choices rather than individual choices. These can play to the collective strengths of the group and can spread and share downside risks.
  3. Platforms, brokers and automation may help us make choices in an increasingly complex world. However, these are often driven by similarly complex algorithms.  Understanding how such services are checked for accuracy, and being transparent about who does the checking and how costs and benefits are shared, is likely to become increasingly important.

Multiple-choice questions in exams don’t always give students the chance to show the subtleties and nuances of their thinking. Introducing choice in complex areas of real life decision-making is likely to have the same challenge.  It’s something we need to discuss openly and not be unduly ‘ideological’ about.



Public engagement in energy and water – more than window dressing

Most people would agree that public engagement in the energy and water sectors is generally a ‘good thing.’  However, like motherhood and apple pie, there can often be quite different ideas of what ‘good’ looks like.  Sharon Darcy summarises the latest New-Pin discussion paper on Consumer, citizen and stakeholder engagement and capacity building which explores whether the long-term public interest is being sufficiently represented through current approaches to engagement in the sectors.

Engagement in energy and water has been primarily driven by the drive to address market failures and develop more customer-centric services. There has also been a desire to give consumers a greater voice in how decisions are made, helping to improve the quality and comprehensiveness of decision-making, reduce regulator involvement, and increase the legitimacy of the process (potentially to the extent of having consumer or stakeholder representatives on boards).

There has been a growing interest in how engagement can also lead to culture change in companies.  Helping them in the move from being commodity to service providers that actively engage and collaborate with their customers is important in an era where in both sectors expectations on the demand side are increasing.

There is no single best approach to engaging consumer and citizen representatives in long-term decision-making.  However, greater clarity is needed about who owns the decision to engage, what the purpose of the exercise is and what the ‘red-lines’ of decision-making are.  Without clear objectives, it can be difficult for the public to understand why they should take part and for decision makers to measure the impact of the activity.

Company-led engagement undoubtedly brings many benefits.  Companies are best placed to feed the rich insight from engagement into their business plans.  Having a ‘golden thread’ that links engagement activity at the operational and strategic levels is vital.  However, given the significant social and environmental externalities in both energy and water – and the associated distributional and systemic impacts – a wider perspective which includes government- and regulatory-led engagement may also be needed for long-term issues.

There are some important gaps in how the public can engage on long-term issues.  Engagement needs to be appropriately ‘framed.’  Individual companies may not always be best placed to do this, particularly if the sector is going through a transition such as the move to low carbon.  Engagement also needs to cover what matters to stakeholders including ‘big-ticket’ issues: rates of return / cost of capital and strategic investments in the development of our energy and water systems.

A coherent view of engagement is needed to look across the disaggregated value chain in energy; and at the wider environmental context in water, where five-year price review plans need to dovetail in with longer-term Water Resource Management Plans.  To take account of the needs of future users, it will help to look at how behaviours and interests are evolving, particularly around local, community and regional interests – and how digital communications are leading to changed expectations in how we engage as citizens.

Consensus at all times is not achievable: there can be differing interests both within and between generations. Engaging consumer and citizen representatives on the ethical values applied in arriving at judgements about what is ‘fair – both between and within generations – and articulating these will be helpful on contentious issues.

Companies, regulators and policy-makers each need to set out their vision and expectation for stakeholder engagement on long-term issues.   Judging and assessing the impact of engagement can also be improved.  Challenge logs, a ‘you said: we did’ approach and independent accreditation of the process can all help.  Engagement will rarely negate the need for regulation. However, it can inform the need for regulation to re-assess and to re-focus.

Public interest advocates need resources. Without dedicated funding, and checks and balances in governance arrangements around this, engagement on long-run issues could be set up to fail or be unduly influenced by vested interests.

New-Pin has produced two engagement tools.  Firstly, a ‘Decision-making Framework’ to help all actors work out the best approach for them on engagement on long-term issues. This builds on the UK Regulators Network principles for effective engagement and includes: clear objectives; inclusivity; tailoring to the circumstances; transparency; and a developing, iterative approach. Secondly, to help build capability amongst consumer and citizen groups, we commissioned BritainThinks and London Economics to produce a Research approaches overview’ paper to guide public interest advocates in their discussions with both water and energy companies on the pros and cons of different research techniques.

We hope that these tools help ensure that engagement moves away from being a compliance activity or ‘just window dressing’ to being fully valued – and appropriately resourced – on all sides.

Smart and fair domestic electricity pricing

In an article first published in New Power (Issue 90, August 2016), Jon Bird, Sustainability First Associate, looks at the result of time-of-use charging trials in energy and water and finds there are winners and losers in making the transition.  It may be impossible to make it fair for everyone, but we must tackle the extremes.

Elective and mandatory half-hourly settlement (HHS) for domestic electricity customers, locational pricing for transmission losses, distributed generation embedded benefits, the future of distribution use of system charges – these are all currently being discussed as we head to a world of smart meters and smart electricity pricing for domestic customers.

What they all have in common is the aim of making different elements of the final electricity price more reflective of the actual input costs that go to generate and deliver the electricity to a particular customer.  Economic theory tells us that cost-reflective pricing provides the most efficient system as a whole, as well as the best incentives on retail customers to change their behaviour to keep their own costs as low as possible.  But does this work in practice and is it fair to all customers?  This is the subject of a recent paper by Sustainability First Associate, Jon Bird[1], and topic for a Sustainability First roundtable held on 13 July 2016.

Whilst these initiatives will increase cost-reflectivity for suppliers, their impact is diluted by the increasing proportion of the bill that goes to cover the social and green levy costs.  End-prices might also need to become more location-specific if they were to reflect the actual costs of dealing with a more decentralised electricity system.  Moreover, they are all costs faced by an electricity supplier – and not directly by the electricity customer. How the supplier turns these into a final retail tariff for the customer will be up to it and will depend on its own marketing priorities.  One major retailer is offering a new FreeTime tariff – with free electricity on Saturdays or Sundays. This is not strictly cost-reflective, but nevertheless aims to reduce weekday peaktime load.

Several recent trials of a time-of-use (ToU) tariff in the UK and Ireland have shown, on average, a positive response in terms of a reduction in peaktime use of electricity.  But more work is needed to see if bill reductions from peak-shifting can be replicated amongst all electricity users (not just trial customers) – particularly given the CMA’s concerns that many customers currently do not react to a much larger bill saving they could achieve by switching tariff.

Any change in approaches to pricing creates winners and losers.  This has occurred in the water industry, when water metering and charging by volume was introduced in water-stressed parts of the country.  Using data from the ToU trials shows that, whilst on average for each demographic group, the potential impact of introducing ToU tariffs (leaving aside any possible behaviour change) is small, there can be wide variability within demographic groups.  This needs exploring in more detail and indeed Ofgem has recently commissioned some work to explore just this.

One way to seek to avoid significant losers among retail customers is to make any change voluntary.  This is behind Ofgem’s push for elective HHS.  In this situation, a customer and their supplier could agree to move to HHS with a corresponding change in retail tariff.  But this would only be attractive to those customers likely to gain financially.  This would encourage suppliers to search out those customers at the expense of the remainder who would, assuming no change in the overall cost of supply, end up paying more.

A similar problem arises if the costs faced by a supplier become more cost-reflective, but customers can choose to remain on a standard p/kWh flat tariff.  In this case, customers who use more electricity than average during peak times would lose money by changing tariff.  So they would wish to stay on their flat tariff.  Some of these may be customers in fuel poverty who have little ability to shift consumption behaviour. But others may have high discretionary peak-time use, such as electric vehicle charging. These customers could be persuaded to move to off-peak times – or could opt to pay more for their peak-time use.

There is no easy answer that is fair for every customer. Policy makers need to be aware of the possible consequences for customers in advance of any change to half-hourly settlement – and find ways to deal with them.  The general view in our Sustainability First workshop was that it will be important to keep down the overall cost of power supply and therefore to continue towards greater cost-reflectivity in supplier charges – and also, to some degree, for customers. However, any problems and unintended consequences for customers will need to be addressed. In the end, it may be that we cannot come up with an approach which is fair – and seen as fair – for everyone. But we should at least be able to tackle areas of extreme unfairness – such as customers who are in fuel poverty with inflexible peak-use, or, at the other extreme, those customers with large peak-time use which may be largely discretionary.

There will need to be an informed stakeholder discussion on these fairness issues as we move towards half-hourly settlement, to enable a common understanding of the issues and explore  whether an element of consensus can be built around the way forward.

[1] “Smarter, fairer? – Cost-reflectivity and socialisation of costs in domestic electricity prices”