Potential consequences and outcomes of market reform
Having finally completed the Ofgem/BEIS summer page turner of, ‘Flexible and responsive energy retail markets’ there are many good things in here, and my thoughts turn to where it could ultimately take the energy market, and the potential outcomes.
After 20+ years of full market deregulation the impact of the seismic shift in generation sources is now being felt across the whole sector, and this is the start of the ripple into the rules governing the end user market. Different stakeholders will clearly have different opinions based on their technology of choice, the below are an attempt to be technology agnostic and focus on the big picture.
Ultimately a choice over flexibility free market or regulation will have to be made.
The central vision is for a low carbon, low cost, innovative market. This is a noble aim, but there is a natural tension between them, and choices are likely to be needed at some point down the road. As the investors putting huge sums of money into new forms of flexibility will rightly expect a return on that at some point, it stands to reason that the focus of investors is not lower customer bills; unless the technology is significantly cheaper than grid-scale technology seen in the past.
This leads to a decision point at some time in the future, to either regulate the cost of flexibility or allow customer bills to increase. In a world where there are multiple providers to a single end customer, enforcing price caps or similar interventions will be much harder than it is today.
Energy consumers are likely to face higher risks and have more complex products.
Technology generally makes our lives easier. In energy this may be the case, but the ease and flexibility are likely to come at the cost of higher risk for customers. It seems accepted that customers will become the hub of the market, as opposed to suppliers to date. This has the benefit of allowing many providers to sell directly to customers; but means customers will need to do the calculations of it to see if they are better off or not.
To deliver the benefits expected, price volatility is needed to send signals to act. For traders with a risk appetite and sufficient knowledge volatility can be great and lead to opportunities to increase profits. However, as any honest trader will attest, they don’t always get it right, or some unforeseen event may lead to a different outcome than expected. For corporate entities knowingly putting shareholder funds at risk its part of the process, but for domestic customers, do they have a stop loss or the real ability to understand the risks?
Is this ultimately in customers’ interests? It’s hard to know if the benefit outweighs the risk for smaller customers where total costs of supply are around £50/month for electricity, and opportunity for savings a fraction of that; and will be even harder to prove. The nature of these risks is that there will be benefits in some circumstances, and costs in others; and its only after the event that the outcome can be known.
So far, the potential financial benefits of smart grids are pretty much an act of faith rather than something that is built on irrefutable analysis. If customers become the centre of the market, and become exposed to very complex dynamic time of use tariffs, the risks they hold grow, and the level of expertise needed to understand if something is beneficial or not increase. Are end users the parties best placed to be exposed to this in real time?
Selling to customers will involve more complexity.
Today’s products are generally simple, with a cost per day partnered with a cost per unit consumed. The direction of travel placing customers in the middle of the market with the potential for a different price point for each half hour period opens a huge range of potential risks in terms of both the customer contract, and the approach used to selling benefits.
When anybody takes out a loan or mortgage they have to speak to a suitably qualified person, particularly if they are being offered advice on the best product for them. Energy supply is in many ways a form of loan, with the supplier offering to deliver something in exchange for payment – and in today’s market routing part of the income to a multitude of third parties.
In a world where there are multiple products being sold for differing purposes at different price points for different durations, who will be qualified to offer advice on whether a product is appropriate or not? With complexity comes increased possibility of misunderstanding or misleading in some cases, this will need to be managed to protect customers.
Demand reduction is hard to prove.
A question in supply that has been with us since deregulation has been how to prove what would have happened without intervention, and this is still the case with these changes. Even after full half hourly settlement, each property is likely to have a single meter point. This makes disaggregating demand and effectively determining what bit of demand/ generation is allocated to which party complex. Proving either what demand would otherwise have been or what the contribution of an individual item was without item by item settlement quality metering could lead to expensive arguments, and who will ultimately take the exposure?
This probably makes smart meters and half hourly settlement the start of the process rather than the end.
How then, are multiple price structures for multiple gadgets going to be settled at an industry level, and who takes the cost/benefit when the actual consumption is different? Will companies we currently think of as a suppliers be obliged to offer full service top up and spill contracts? These structures aren’t new and were around under the old pool settlement system in the I&C market, but the pricing was generally penal to compensate for the risk of providing it.
What can be done if customers don’t pay?
What happens if customers don’t pay? If there is a debt associated with one of the contracts can it be switched off, and if so what happens if the customer carries on consuming in the same way – who becomes liable for the cost, and can a customer ever be disconnected unless all the parties with a contract agree? To add to that, how does PAYG / pre-pay work where multiple companies have access to a single meter for different products/times of day?
Undoubtedly new sources of flexibility and customer contract offer huge opportunities to help decarbonisation and deliver benefits; but this is not without risks. Taking a rounded view of the risks and opportunities is needed to actually deliver what is needed without just assuming there is only upside – this is true for both customers and those providing new flexibility tools.
Whatever happens, the energy market is not going to reach a point of stability any time soon!