Select Committee on Environmental Audit Minutes of Evidence



Memorandum from the Department of the Environment, Transport and the Regions




  1.  The Government welcomes the Environmental Audit Committee's report on water prices and the environment, published on 14 November 2000. The report has made an important contribution to the understanding and further improvement of the process for setting water industry price limits in England and Wales.

  2.  The 1999 Periodic Review has provided for an investment programme in environmental and other improvements unprecedented in its scale and in the outputs it will deliver. It is important to remember that investments in quality improvements are cumulative, in that each investment scheme delivers a permanent improvement on top of all previous improvements. So the investments costed at some £7.4 billion will deliver further gains in the quality of aquatic habitats, rivers and coastal waters over and above the improvements delivered in 1995-2000. As the Committee reports, the then Chairman of the Environment Agency said that "by 2005 we will have reached a position where the significant environmental damage created over the past 200 years will have been repaired". The Government takes pride in the programme of environmental improvements specified for water companies in this Periodic Review.

  3.  The Committee concentrated on the extent to which the process and outcome of the 1999 Periodic Review contributed to environmental protection and sustainable development, a focus which reflected the Committee's own remit. However, the Committee's report fully recognises that the Periodic Review must address multiple objectives and divergent interests. The Government welcomes the Committee's recognition that the determination of price limits is a complex balance that may not be driven by any single over-riding concern.

  4.  The report gives due credit to the fact that this Periodic Review in general worked well, and that it "provides a fair and open system" (paragraph 179) and was a considerable improvement on the process adopted for the previous 1994 Periodic Review. The Government nevertheless agrees with the Committee that further improvements to the process are desirable and achievable before the 2004 Periodic Review begins. The Committee's recommendations for improvements illuminate a number of common themes.

  5.  First, the Committee calls for more direction to be given by Government at the beginning of the Periodic Review. The Committee believes that the Government should take a clear lead in setting the policy "vision" for the review process.

  6.  There is clearly an important balance to be struck here: between the Government being overly prescriptive, and thus tying the hands of the independent regulators; and the Government's proper role of setting the policy framework for the review process. Ofwat has responsibility for setting price limits and, as the Committee report highlights, the Government must respect this role of the independent regulator. But the Government is responsible for the over-arching social, economic and environmental policies that form the context in which the Periodic Review is conducted. So, at the outset, it is appropriate for Ofwat to consult on and determine the mechanics and timetable of the review. But it is for Ministers to give an indication of overall Government policies and priorities, which provide the framework for the Director-General's decisions. The Government accepts that it should set out this "vision" at the earliest appropriate point, taking into account the availability of information on external factors such as EC Directives.

  7.  The document Raising the Quality[8] published in September 1998 largely fulfilled this function in the 1999 Periodic Review. Its scope was not strictly limited to the specification of the quality investment programme, but also touched on issues such as water charging policy, asset maintenance and service to customers. It was followed in January 1999 with guidance on Maintaining Public Water Supplies. [9]The Committee's report and the evidence that they received, for example from Water UK, recognised the improvement in the policy guidance issued by DETR and Welsh Office compared with the 1994 Periodic Review.

  8.  These views will be taken into account when the Government examines the timing and content of its policy guidance for the 2004 Periodic Review.

  9.  Second, the Committee recommends a number of areas in which the parties should co-operate more to develop a shared understanding of facts rather than competing claims. The Government agrees that in advance of the next Periodic Review there is scope for varying degrees of co-operation between different bodies in developing approaches in a number of areas—such as customer surveys, leakage and the strategic approach to long-term asset maintenance. DETR, Ofwat, the Drinking Water Inspectorate (DWI) and the Environment Agency are already working with the water industry on a number of these issues highlighted under individual recommendations below.

  10.  Third, the Committee makes a number of recommendations about distinguishing the roles and responsibilities of the public sector parties. Examples mentioned include Ofwat expressing views on planning matters (paragraph 171) and the early DETR reference to the size of possible price cuts (paragraph 68). The Government accepts that each of the public bodies involved in the process has a distinct role and statutory responsibilities. However the Government also agrees with the Committee that openness and co-operation by all parties is one of the most important features of the review process. As the Committee says (paragraph 3) "open and constructive debate is more constructive and transparent than whisperings behind closed doors" and that it is "reasonable for Ministers to make clear, to the regulator, their political wish to deliver both price cuts and a comprehensive environmental programme" (paragraph 67). The Government firmly agrees that public sector bodies should endeavour to work together in a co-ordinated and effective fashion without undermining the independence of the separate regulatory bodies.

  11.  The Director-General's price determinations and the Periodic Review process extend to both England and Wales. Recommendations in this report therefore have implications for Wales. However policy responsibility for the regulation of the water industry is devolved to the National Assembly for Wales. This Government response therefore does not address issues specifically concerning water and sewage undertakers operating wholly or mainly in Wales.

  12.  The Committee has specifically invited responses to recommendations in this report from DETR, Ofwat and DWI. Ofwat and DWI are making separate responses to the Committee's report and the recommendations affecting them. In view of the Government's overall responsibility for policy on the economic and environmental regulation of water, this is an overarching Government response to all the Committee's recommendations as well as to those directly addressed to DETR.


The timetable and inputs

  Paragraph 39. The Periodic Review is a complex and necessarily iterative process, which needs to be efficiently planned and managed. It is therefore important that the Director establishes a clear forward programme with sufficient consultation. The Committee believes that this was achieved in the 1999 Periodic Review, despite Water UK's concerns, and that all relevant parties were given the opportunity to make the case for an alternative timetable if necessary.

  13.  The Government shares the Committee's view that, in general, the 1999 Periodic Review was well planned and managed. Ahead of the 1999 Periodic Review, Ofwat consulted early on the proposed framework and timetable for the process, and all parties had the opportunity to comment on the proposals. But, as Ofwat makes clear in its own response to the report, both Ofwat and the Government will seek to learn lessons from the conduct of the review and apply them in the future. Ofwat has consulted all stakeholders about the way in which the review was conducted and will work with DETR, the Environment Agency and DWI to develop the timetable for the 2004 Periodic Review.

Assessing customer needs

  Paragraph 50. The Committee agrees that, like any sensible company, water companies should be constantly undertaking the necessary market research to assess their customers' views and needs. However, such work does not obviate the need for a comprehensive and independent survey of public opinion focussed on the particular issues relevant to a given Periodic Review.

  Paragraph 52. The confusing plethora of customer surveys produced throughout the 1999 Periodic Review was not constructive. The Committee recommends that, in future, comprehensive and independent surveys should be commissioned by the DETR. These should seek to establish the public's expectations as water customers and citizens within the five year Periodic Review timescale (including their attitudes to and preferences for environmental improvements). They should also seek views on longer term policies, which impinge on the environment. The structure and content of this research should be discussed within the quadripartite group so that there is common ownership of the survey and its findings.

  14.  The Government agrees that it would be helpful for the regulators and water industry to reach a greater measure of agreement on the public's views of priorities for the next review period. In the last review, conflicting evidence was produced from different customer surveys on the priority attached to the standards of water and sewerage services, the importance of environmental protection and quality improvements and the levels of water charges. In particular, it would be helpful to move nearer to agreement on the weightings and trade-offs that the public attached to these, to enable a better assessment of alternative packages. The DETR's own survey for the 1999 Periodic Review was intended to provide evidence on these issues. The Department will consider again before the next review what improvements could be made in such a survey. Ofwat, the Environment Agency and DWI too will be looking at ways of improving their assessment of customer views to meet their distinct needs.

  15.  The Government does not believe that DETR should take over customer consultation from the independent regulators. But the Government does wish to see better co-ordination for the next Periodic Review. In advance of the beginning of the review, DETR, Ofwat, the Environment Agency and DWI will discuss the content and timetable and later the findings of customer surveys. This will not, of course, mean that further customer consultation may not be required during the course of the review. Each water company is properly entitled to consult its own customers directly and indeed should do so. Local and regional issues call for local consultations, including those undertaken by the regulators' regional customer consultative bodies.

Early Predictions

  Paragraph 68. The early statement by the DETR regarding the possible size of the environment programme was helpful and appropriate. However, the Committee recommends that in future Ministers should respect the role of the independent regulator, Ofwat, to determine price limits and not influence customer and public expectations by publicly announcing its own price expectations.

  Paragraph 69. In turn, the Committee recommends that Ofwat seeks to ensure that its own statements do not "demonise" environmental and quality investment by portraying it as the key upward pressure on prices without equally emphasising the customer and public benefits which it delivers.

  16.  The Government welcomes the Committee's recognition that it is appropriate for Ministers to give guidance on the nature and size of the environmental programme. The Committee also, rightly, draws attention to the need closely to co-ordinate the work of Ofwat, DETR and the quality regulators. The Government is responsible for determining the environmental policy framework within which each Periodic Review is conducted. In setting quality objectives, Ministers must also have regard to the cost implications of the quality investment programmes. Indeed the principles of sustainable development demand a coherent approach to environmental and economic decision-making. In 1998 and 1999 the Department and Ofwat worked closely together, sharing much of the modelling work on costs and prices at national and company level.

  17.  The Department's press release in March 1999 therefore sought to present a balanced picture of Minster's decisions on the quality programme. It was an important part of that picture to indicate broadly the changes in water bills that might be associated with the delivery of the specified investment programme. Ofwat's Prospects for Prices[10] (October 1998) had already set the climate of public and customer expectations for price cuts before the indicative average ten per cent reduction was mentioned in March 1999. Nor was there any question of Ministers attempting to pre-empt or undermine Ofwat's ultimate responsibility for setting price limits. The Government notes the Committee's concern on the appropriateness of this announcement and will consider how best to announce its expectations for the next Periodic Review.

Costing of the Environment Programme

  Paragraph 90. The Environment Agency must develop and strengthen its capacity to assess and demonstrate the benefits of the schemes which it proposes for inclusion in future National Environment Programmes and also engage in a more critical examination of their unit costs.

  18.  The Government agrees that the ability to carry out economic appraisal of costs and benefits of individual schemes, as well as groups of schemes, will be an increasingly important function for the Environment Agency. The Agency already has work in hand in conjunction with DETR and Ofwat, to develop further its existing appraisal techniques. A revised approach should be in place in good time for the next Periodic Review.

The Role of the DETR

  Paragraph 94. The Committee is mindful of Ofwat's lead role in running the Periodic Review process. However it is important that all parties keep the overall policy objectives in sight throughout the process. It is the Government which provides the policy framework within which the Review operates and the Committee would like to see the DETR take the lead in bringing the overall policy "vision" to the fore more vigorously within the quadripartite process. Committee recommends that, in future reviews, the DETR presents a short, overall statement of existing policy to the quadripartite members at the outset. As well as key environmental protection goals this should encompass relevant social and economic policy objectives.

  19.  The Government shares the Committee's view that Ministers are responsible for setting both the legal and policy framework in which each Periodic Review is conducted. This policy framework, covering environmental, economic and social objectives, was set out in September 1998 in Raising the Quality. For the next Periodic Review, the Government intends to issue a statement of its overall objectives and priorities as soon as there is sufficient clarity over the obligations arising from EC Directives and other factors. Ofwat will also consider in detail with DETR how the timetable of the review can best accommodate guidance by Ministers, and at what key stages this would be most helpful to the process.

  20.  The Government accepts the Committee's recommendation that DETR's policy statement should cover environmental, social and economic objectives. Consistent with the Utilities Act 2000, the Committee will note that the draft Water Bill, published in November 2000, makes specific provision for Ministers to give guidance on social and economic policies to Ofwat, building on the existing powers to take decisions on environmental matters.


  Paragraph 100. The Committee recommends that Ofwat makes the full financial model as used for the Periodic Review, including equations, publicly available.

  Paragraph 101. The Committee would welcome clarification of the role of the new policy committee, its role and relationship with the Director, and its implications for Ofwat's access to independent business advice.

  Paragraph 102. Although Ofwat has made efforts to address its transparency since the last review, as acknowledged by the water industry and the Environment Agency, the Committee believes that the regulator has not yet struck the right balance between commercial confidentiality and operational transparency.

Data provision

  Paragraph 109. The Committee welcomes Ofwat's continuing work to ensure that the data it requires from companies is proportionate to the regulator's needs. In view of the potential burden (in both time and money) that such data requirements present, the Committee recommends that, as a matter of regulatory best practice, Ofwat accounts for the data, which it demands. Companies should be left in no doubt what data and analysis is required from them and why.

The system of Reporters

  Paragraph 115. The Committee recommends that Reporters should be engaged and paid directly by Ofwat rather than the water companies and that Ofwat regularly monitors its arrangements with its Reporters to ensure that:

    —  there is effective scrutiny and audit of the estimated costs of schemes

    —  water companies identify least cost solutions to meet environmental standards which take into account the whole life costs (capital and operating) and the environmental as well as economic costs of a scheme or programme of schemes.

  21.  These recommendations, addressed to Ofwat, concern the detailed conduct of the review, and the Director General is responding to them in his response. However, there are certain general principles that the Government agrees should inform the review process.

  22.  Transparency is one of these principles. The Committee rightly recognises the great progress already made on the part of Government and the regulators towards increased openness compared with the 1994 Periodic Review, and calls for further steps to open up the process to be considered. It will of course always be necessary to withhold some detailed financial information about individual companies from general publication because of commercial sensitivity. There is also a strong case for publishing information at set stages, enabling it to be properly considered and validated. Subject to these considerations, in line with overall freedom of information policy, the Government believes that there should be a general presumption in favour of making information available. Both the companies and other interested parties should have access to sufficient detailed information to be in a position to understand the regulators' decisions. The response from Ofwat addresses what more they are doing to address transparency and the involvement of stakeholders.

  23.  Transparency should not be expected of Ofwat alone; it should apply equally to the practices of companies. They should make information readily available, not only to Ofwat and to other regulators, but also to their customers and the public, who have a legitimate interest in scrutinising the respective public positions of companies and regulators. Legitimate commercial confidentiality should apply only to genuinely sensitive information. All-round transparency can only strengthen the robustness of the Periodic Review process.

  24.  Ofwat's response also explains the role of the new policy committee. This innovation is a welcome anticipation of a provision proposed by the Government in the draft Water Bill to strengthen the independent advice to the Director General.

  25.  Robust scrutiny by Ofwat of companies' estimates of scheme costs is a vital part of the Periodic Review process. As Ofwat explains in its response, it regards the system of reporters as a valuable check on and link with companies. It has not been demonstrated that the effectiveness of reporters is affected by their employment by companies. However, Ofwat will review the issues to ensure that the current procedures strike the right balance and will continue to develop the value of the reporters system.

Involving wider stakeholders

  Paragraph 104. Ofwat must make further efforts to involve the full range of stakeholders beyond the quadripartite forum during the Periodic Review process in a more effective way. The Committee recommends that, in considering the merits of various means to achieve this, Ofwat gives effect to best practice in this area such as the Environment Council's stakeholder dialogue methods.

  26.  The Government agrees that it is important for all stakeholders to be involved in the Periodic Review process. The quadripartite forum was there for communication and co-ordination of the intensive efforts of the parties most directly and continuously concerned in the process. Other stakeholders have interests and contributions that may be just as vital and valid but may not need to be continuously involved. It is important that such stakeholders, who include environmental and consumer groups, are kept properly informed of the mechanism and progress of the review, and that they understand the key stages and appropriate means by which their views can most effectively be brought to bear. It is for Government and the regulators to provide the maximum opportunities and clarity to assist such contributions. In the light of the Committee's recommendations Ofwat is reviewing how best to involve stakeholders in the next Periodic Review process. In particular Ofwat has followed the Committee's recommendation by joining the Environment Council and will explore its proposals with the Council.

  27.  Although Ofwat has the lead role in the conduct of the Periodic Review, and its direct consultations and meetings are key opportunities for input, there are also other routes by which groups can involve themselves. In particular, environmental groups should have a clear opportunity to express their views on programmes and priorities at an early stage to the Environment Agency, so that they may be taken into account in the Agency's advice to Ministers and Minister's guidance to Ofwat. The proposal in the draft Water Bill for a Consumer Council for Water will provide a new independent voice in the Periodic Review process. Both Ofwat and DETR will continue to examine the scope for further improvements in consultation procedures, including lessons to be drawn from best practice elsewhere with a view to developing a public plan for involving stakeholders. These discussions will be linked with the co-operative consideration of customer surveys (see above, under the recommendation in paragraph 52) as means of consulting in the widest possible way, especially on the development of the objectives to be met.


  Paragraph 121. The Committee welcomes the Environment Agency's proposal to publish an annual report on the progress of the water companies in implementing the National Environment Programme. The Committee recommends that the Agency also takes steps to monitor and report upon the environmental benefits derived from water company investment.

  Paragraph 122. The Committee recommends that a stakeholder forum is held annually to facilitate the presentation and discussion of progress on the delivery of the environmental and quality programme.

  28.  The Government agrees that the environmental benefits derived from water company investment should be comprehensively assessed. This is necessary not only to establish whether the investment has delivered the environmental benefits promised, but also to inform evaluation of future investment proposals. In some cases—such s ameliorating low-flow in rivers—environmental benefits will be seen soon after the investment is made. In other cases there is likely to be a longer time delay. For example, if phosphorous inputs to a eutrophic watercourse from sewage treatment works are tackled, there may still be enough phosphorous attached to the sediment to perpetuate the signs of eutrophication for several years to come. The Government nevertheless believes that the Environment Agency's annual report on progress in implementing the National Environment Programme could helpfully include an assessment of the environmental benefits delivered. It will ask the Agency to undertake this, on an increasingly quantified basis over time. The government, the Environment Agency and Ofwat are not convinced that an annual stakeholder forum would improve progress. However the Government is committed to increasing public participation in investment decisions for the next Periodic Review.

8   Raising the Quality. Guidance to the Director General of Water Services on the Environmental and Quality Objectives to be achieved by the Water Industry in England and Wales 2000-2005. DETR and Welsh Office, September 1998. Back

9   Maintaining Public Water Supplies. Ministerial guidance to the Director General of Water Services and to the Environment Agency on issues arising in the preparation of Water Resources Plans by the water companies of England and Wales. DETR and Welsh Office, January 1999. Back

10   Prospects for Prices. A consultation paper on strategic issues affecting future water bills. Office of Water Services, October 1998. Back

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