House of Commons - Public Accounts

Select Committee on Public Accounts Thirteenth Report

2 Consumer debt and the use of pre-payment meters

7. Ofgem has established a Social Action Plan to help protect the interests of consumers who are not well-placed to benefit from competition. Under the Plan, Ofgem works with energy suppliers to deal with problems faced by vulnerable consumers: consumer indebtedness and the use and costs of pre-payment meters.

Debt

8. As at December 2003, 1.2 million gas and electricity consumers (about 5% of all consumers) were repaying a debt to their energy supplier. Over 70% of these consumers had debts of less than £100 and only 5% over £600. It is not clear, however, whether the numbers in debt are increasing or decreasing because of inconsistencies in the way the data have been gathered over time.[5]

9. Consumers with a debt over 28 days old have experienced difficulty switching to another supplier because their existing supplier can block the transfer. This reduces the risk to suppliers that consumers will not pay their debts but it also prevents indebted consumers from accessing lower tariffs. In 2002-03 around 20% of gas consumers and 7% of electricity consumers attempting to switch supplier were blocked in this way (Figure 1).

Figure 1: Attempted transfers of supply blocked because of outstanding debt, 2002-03[6]

10. Ofgem and suppliers have designed a scheme which allows pre-payment consumers with debts under £100 to switch supplier, with the new supplier 'purchasing' the debt at a factor of 90%. Suppliers trialled the scheme between December 2001 to February 2002 and implemented it in full in February 2004. Up to 70% of pre-payment consumers with a debt are now eligible to switch supplier. Ofgem plans to review progress after 12 months.[7]

11. Estimated bills can lead to a build-up of debt. Suppliers' licences require them to read a meter every two years but they do not always do so. This means that, when the supplier does read the meter, the consumer can face an unexpectedly large bill for past underpayments. Figure 2 illustrates how both estimated bills and infrequent meter reading can cause debt, and how recovering debt through a pre-payment meter can worsen a consumer's situation.

Figure 2: An example of the relationship between estimated bills, debt and pre-payment meters

A consumer's meter was not read by her energy supplier for over 3 years, even though she repeatedly requested a reading. When the supplier company finally read the meter it showed more energy used than they had billed for and she incurred a debt of around £1000. As she could not pay this the company insisted that she had a pre-payment meter. But recovery of the arrears through the pre-payment meter cost more than she could afford - over £38 to heat her house over one weekend. After the intervention of her local MP, Ofgem and Energywatch, some of the debt was cancelled and the rate of recovery through the pre-payment meter was reduced.[8]

Pre-payment meters

12. In principle, suppliers can disconnect consumers from the gas and electricity systems for unpaid debt. But Ofgem and energy suppliers try to avoid disconnection and instead suppliers recover debts by fitting a pre-payment meter in their homes.[9] The pre-payment meter is set so that part of every payment is used to recover the old debt, while the remainder pays for current energy use.

13. As a result, the numbers on pre-payment meters have grown. 2 million gas consumers (out of a total of 20 million) and 3.7 million electricity consumers (out of a total of 25 million) use pre-payment meters.[10] In 2003, the numbers on pre-payment meters rose by 7.5%.[11] At the same time, numbers of consumers disconnected has been falling, from around 27,000 to 17,300 over the last 12 months.[12] Energywatch, the representative body for energy consumers, nevertheless considers that disconnection remains a significant problem for vulnerable consumers.[13]

14. Research by electricity suppliers in the summer of 2004 revealed that 90% of consumers were satisfied with pre-payment meters, which confirmed the results of Ofgem's own research in March 2004.[14] Consumers may like pre-payment meters because they are preferable to disconnection and because they provide the consumer with certainty over how much they are spending on energy.[15]

15. Pre-payment meters do however cost more. The C&AG's Report compared the costs of using pre-payment meters with paying quarterly and by direct debit. The Report showed that a consumer who switches gas and electricity payments from pre-payment meter to direct debit could save over £60 a year (Figure 1).

Figure 3: Average annual extra costs for pre-payment meters[16]

		Low user (£)	Medium user (£)
Gas	Premium over standard credit	10.25	21.75
	Premium over direct debit	23.38	41.75
Electricity	Premium over standard credit	8.75	9.25
	Premium over direct debit	17.63	21.13
TOTAL	Premium over standard credit Premium over direct debit	19.00 41.01	30.00 62.88

16. The extra cost arises because it is more expensive for suppliers to install a pre-payment meter, and there are additional costs in operating the information systems that support pre-payment.[17] The higher price for consumers reflects Ofgem's policy that payment methods should reflect the costs involved.[18]

17. Many consumers do not realise that they are paying more for gas and electricity through pre-payment meters, and some believe that they are a cheaper form of payment. MORI research conducted for Ofgem in 1999 found that 33% of consumers did not realise they were paying more, while research undertaken in March 2002 found that around 20% of pre-payment meter users thought that the meter was cheaper.[19] Ofgem acknowledged that the lack of awareness of the higher costs reflected a failure to ensure that suppliers complied with licence condition to inform consumers about the benefits and disadvantages of pre-payment meters.[20]

Prices reflecting costs

18. Ofgem believe that prices should reflect costs, so that markets can operate efficiently. Yet it encourages suppliers to charge prices that reflect costs in some parts of their business and not others. For pre-payment meters, Ofgem encourages suppliers to charge the full cost to consumers. On the other hand, Ofgem does not allow suppliers to vary charges to consumers on the basis of geographical location. Unlike the energy supply market, in which several companies compete to supply consumers, the electricity distribution networks are monopolies, owned by one company in each region. These companies pass on their costs to the competitive supply companies but are not allowed by Ofgem to differentiate in their charges between rural and urban locations. So supply companies cannot in turn differentiate between rural and urban addresses in consumer tariffs. Nor do suppliers charge remote rural consumers more because it costs more to travel to their homes to read their meters.[21]

19. It is possible that suppliers are not charging prices that truly reflect costs. For example, they may recover more than the cost of the pre-payment meter from consumers using them. Suppliers may do this because such consumers are the least likely to switch. Charging pre-payment meter consumers more means that other consumers, such as those on direct debit, can be charged less. Vulnerable consumers would provide a cross subsidy to other consumers and suppliers would be discriminating against them.[22] Ofgem do not know whether this form of price discrimination is taking place.

20. On the other hand, if Ofgem prevented suppliers from recovering the cost of pre-payment meters directly, these extra costs would be spread across all energy consumers. This could raise average prices and put some consumers into fuel poverty, and there could in fact be more losers than winners from such a decision.[23]

21. Ofgem's encouragement of prices reflecting costs in some elements of a supplier's business, such as pre-payment meters, raises complex issues of equity and efficiency. These issues go to the heart of the tension between Ofgem's principal statutory duty to protect consumers through competition and its secondary duties to protect vulnerable consumers.

5 Qq 22, 41; C&AG's Report, para 2.17 Back

6 C&AG's Report, Figure 5 Back

7 ibid, para 2.22 Back

8 Q 40 Back

9 Q 36 Back

10 C&AG's Report, para 2.3 Back

11 Q 1 Back

12 Q 23 Back

13 Ev 13-14 Back

14 Q 35 Back

15 C&AG's Report, para 2.5 Back

16 C&AG's Report, Figure 1 Back