Examination of Witnesses (Questions 180-199)
CHEMICAL INDUSTRIES
ASSOCIATION
25 JANUARY 2005
Q180 Chairman: That is helpful. Tell
me—the old adage of silent pain evokes no response—when
did you start drawing the attention of the Government to these
issues? I know that a number of us as constituency members have
been approached by similar sorts of players to yourself, but,
Ms Hackitt, when did you draw to it the attention of government
or raise it as an issue?
Ms Hackitt: The simple answer
to that is that it is not a new problem. This is a problem that
we have been trying to draw government attention to for at least
three years now, since 2001, because we recognise that this is
a recurring problem in the time of year that we are now focusing
on, the third/fourth quarter of the year. In this particular cycle
our attention has been brought back to it and we have raised the
subject with Government again, and I guess that goes back six
months at least, when we first started on the latest cycle of
representation to government.
Q181 Chairman: We could argue maybe that
you are all adults, you are in business, you have got a deal with
variables; why should energy be any more difficult or variable
to handle than anything else?
Ms Hackitt: I would, first of
all, absolutely agree with you. I think we are an industry that
I hope most people would recognise is populated by adults. We
do not make a fuss about things for the sake of it. Indeed, any
changes in energy prices that could simply be explained away as
variations that match that which was going on on the Continent—because
that is what matters to us at the end of the day—absolute
price variation is not an issue as long as the variation is consistent
between all competitor companies and competitor sites. The time
when we bring it to people's attention is when it seems to us,
and we can demonstrate through evidence, that there are differences
in what appears to be happening in the UK market to what we see
happening particularly in the rest of Europe.
Mr Crotty: Just to add to that,
we make our chlorine in the UK but we also purchase a lot of gas
on the Continent, because we also make chlorine through sister
companies in Italy and Germany and we use that chlorine to make
PVC primarily. That is our major use for chlorine on the Continent.
We have seen a significant step-change in the relative pricing
of UK gas to Continental gas. Traditionally the UK had some inside
track on its industrial gas price certainly to Germany; Italy
was always an expensive place to buy gas. What we have seen in
the last 12 months is a complete reversal of that situation, with
German and Italian prices increasing a little, but not very much
really related to oil products, but UK prices increasing substantially.
We are now about 30% above the price that we can buy our gas for
in Germany or Italy.
Mr Calder: Could I add something
to that? If you look at the figures for gas purchasing of European
sites, we have gone from one of the lowest to the highest cost
of gas in European sites. We are a Swiss-based company and we
have plants in Germany, France and Italy. I think one of the other
issues for us, which is slightly different to the more energy-intensive
users, is that normally in the past we had a level of confidence
in the market that we would go for annual contracts for gas because
it was not such a significant element of our cost, but now, because
we have no confidence in what is happening with the gas market,
we are now having to buy gas in a spot market, which is something
which is new to us, which is something that takes a lot of resource
for us, and it is not resource that we are able to use to improve
our operations in other areas.
Q182 Sir Robert Smith: Mr Crotty, the
comparison is quite useful, because you are the same business
in different markets. When you say there is a 30% difference now,
is that between the actual spot price now and the price you pay
in the other market or is it between what you are tied into by
a forward contract?
Mr Crotty: That was what we could
have done on forward contracts. The spot price today is significantly
lower than the forward prices we would have had to tie into last
autumn, which we did not tie into.
Q183 Sir Robert Smith: It is the forward
price—
Mr Crotty: The forward price is
the issue.
Q184 Sir Robert Smith: —that is
the big concerning issue?
Mr Crotty: Correct.
Q185 Sir Robert Smith: You do support
a liberalised market, but some have said that the consequence
of a liberalised market is that you then get price signals to
generate investment and the price spike is one of the signals
that are saying we need a bigger interconnector and that is why
investment is now being made in a bigger interconnector. Do you
accept that as part of the response?
Mr Crotty: We certainly accept
that we need better supply into the UK and that certainly the
UK is moving from a position of export to a position of balance,
but what we are struggling to understand is why that should account
for the price differentials we are seeing when the UK should still
be, relative certainly to France, to Italy, very definitely to
Italy, and also to Germany, a much lower priced gas market because
we have got the UKCS Continental Shelf gas supply.
Q186 Sir Robert Smith: There did not
seem to be people willing in September to come forward and take
any sensible risk with the winter market. You were only being
offered prices at the extreme anticipation of what we are accessing
in the winter?
Mr Crotty: That is correct, yes,
and it is worth saying one of the issues that that creates for
us, and I think David has mentioned for him as well, is that unlike,
let us say, the electricity producers who can pass through a gas
increase, we cannot. Our prices are fixed generally on long-term
contracts. We have a range of contract prices for our finished
products, ranging from a year ahead to a month ahead, and we like
to try and match that with our raw material purchases (so we are
sharing that risk) and we could not do that this year.
Q187 Sir Robert Smith: One of the things
we were exploring this morning too was that obviously we have
had these two different markets—the UK market and the mainland
Europe market—and the conventional reading is that in the
past in the UK we have benefited from our liberal market by getting
more efficient prices and the mainland market has suffered therefore
relative to us. Now we are at the other part of the cycle, where
we are suffering because ours is more responsive to concerns about
risk and the mainland market is more stable. Would your members
prefer perhaps to go to the stable mainland market rather than
having the liberalised market all over?
Ms Hackitt: I think in the long-term
what we would hope to see is European markets becoming as liberal
as the UK. That would be the situation we would hope to see in
the long-term, and that, I think, in part, underpins some of our
concerns about this, because if we are to get true liberalisation
across Europe, which is what we would like to see, then setting
a good working model in the UK seems to us to be pretty fundamental
if we are going to get the rest of Europe to follow us.
Q188 Sir Robert Smith: If the whole of
Europe is on the same playing field, albeit one that is a bit
bumpy, is Europe a big enough market that your investors would
not say, "What are we doing producing this in Europe? We
should be producing it outside Europe"?
Ms Hackitt: I think it is fair
to say that that would vary from member company to member company.
It would depend which part of the chemical business they were
in. For some global competition is equally important, but certainly
I think for all of them the first place that they look to ensure
competitiveness is across the rest of Europe and then, for some,
the broader picture is also relevant.
Q189 Mr Berry: Your memorandum suggests
that there is a significant difference between liberal and non-regulated
markets and competitive markets. In paragraph 12 you describe
in great detail the problems that industrial consumers have with
contract negotiations, and you said member companies report, they
get very few quotations, very short decision deadlines are imposed
and you go on to refer to a situation where firms are unable to
secure more than one offer at any one time; not a characteristic
of a competitive market some might think. Why, in your view, does
that situation occur?
Ms Hackitt: I think those are
the sorts of questions that we are seeking answers to. What I
can tell you is—
Q190 Mr Berry: You do not know!
Ms Hackitt: —that Mr Calder
has already cited that example. We based our memorandum on evidence
that we received from our member companies. CIBA is not the only
one of our member companies to have reported at the sharp end,
for them that was the effect that they were observing. All of
the companies we know of who have taken action have done similar
to CIBA, which is to step away from the contract market, if they
have had the ability to do that, and avoid a price increase.
Mr Crotty: I think, addressing
the question you raise, the fundamental we found is that we have
asked our gas suppliers why they appear to be so unwilling to
offer us sensible forward contracts, and the message we have had
back from them is that there is a growing degree of risk aversion
to making the forward commitments. You make a forward commitment
to supply. What happens if you have a supply problem by the time
you get there? The easiest way to avoid that is not to make a
forward commitment and supply on a spot basis. So there is undoubtedly
an unwillingness, or the message we have had from the gas suppliers
is that they have been unwilling, to make those forward commitments.
Q191 Chairman: Have you had much evidence
of interruption of supply?
Ms Hackitt: Mr Calder is in a
better position to answer.
Mr Calder: We have an interruptible
contract for gas supply. We have not been interrupted since 2000.
Q192 Chairman: I was not meaning interruptible.
I think what Mr Crotty was talking about was the possibility that
the supplier could not guarantee that the gas could be extracted
from the North Sea and pumped to the shore. It was not the sense
of over demand and there being two tiers of customer, the one
who pays the full whack and the one who goes for the slightly
cheaper option and the one you are talking about.
Mr Crotty: The answer to your
question is, no, we have not had any problems.
Q193 Chairman: So they are reluctant
to provide supply on the basis of a problem which does not exist?
Mr Crotty: That is how it would
appear to us.
Q194 Sir Robert Smith: Two things. One
is that I should have declared earlier, in the Register of Members'
Interests I have a shareholding in Shell Transport and Trading
which is another integrated company. Also I am a Member of the
All Party Off-shore Oil and Gas Group and as part of that group
went to the Offshore Northern Seas Conference last autumn, sponsored
by UKOOA and Statoil and Chevron Texaco. What I wanted to ask
you on this interruptible question is not so much physically you
would not get the gas, but the person selling you the gas, if
they hit a production problem, would have to go and buy the gas
at some extortionate price in order to honour the contract. It
is not that it would not turn up; it is just that they would be
frightened that they would not make the profit they thought they
were going to make?
Mr Crotty: That is where the risk
aversion, I think, stems from.
Q195 Mr Berry: I have no shareholdings
to declare! You referred in answer to my earlier question about
having discussions with potential suppliers and the answer they
gave was suggested—risk aversion, and so on. How many potential
gas suppliers did you quiz?
Mr Crotty: I could not be accurate
because I do not do it directly myself, but it is a small number,
two or three.
Q196 Mr Berry: Is it two or three because
there are only two or three in the market worth bothering about?
Mr Crotty: Yes.
Mr Calder: Probably four or five
of us.
Mr Crotty: On our scale of purchase
there are very few suppliers.
Ms Hackitt: This is a feature
of the energy-intensive industry that the capability to supply
is limited to many fewer players than would otherwise appear to
be in the gas supply business.
Q197 Mr Berry: I can see that even entrepreneurs
might be risk averse from time to time, but that risk aversion
should result in a disinterest to make a bid, as it were. If you
are risk averse you stick it in the price. The idea that you have
a situation where industrial consumers might have one offer at
any one time seems me to suggest rather more than simply a phenomena
of risk aversion. Does it not to you?
Ms Hackitt: It has certainly concerned
us, which is why, I guess, we have raised this issue and pressed
so hard to say, "Please can we have greater transparency
of information so that we can understand quite what is going on
here?", which is our main concern.
Mr Crotty: It is not a circumstance
that we find in the other markets that we operate in, where we
are purchasing large quantities of, in our case, products like
ethylene or methanol.
Q198 Mr Berry: In the absence of transparency,
are you in a position to say what you think can be done to improve
the situation or do you want the transparency first and maybe
a solution suggests itself?
Ms Hackitt: I think that is most
certainly the order of priority for us, and that has certainly
been the main tenet of our discussions with DTI in particular,
that we are looking for greater transparency of information in
the market, because I think not only will that enable better understanding,
but it will restore confidence. The lack of free information flow
does not help market confidence either.
Mr Crotty: I think that is right.
The information issue is a major one. The limitations on the Interconnector
is an issue, without any question, because there is not free flow
of gas, and if we are operating in a proper European market there
needs to be free flow of gas. We should be able to go and buy
our gas in Germany if it is cheaper and it suits us to do that.
We cannot do that today, because we do not have the ability to
route that gas back to the UK in an economic way.
Q199 Sir Robert Smith: You have had a
chance to judge the proposals for what is going to be published
under the deal Ofgem and the DTI and the producers put together.
Obviously some of the figures are already starting to be given,
but the last two sets of figures have still yet to go into the
public domain. Is that going to be enough to provide you with
transparency?
Ms Hackitt: I think the short
answer is, not really. We have seen much better models of what
that transparency would look like. We would want to record that
we fully support the proposals that you have seen from energywatch.
We think that makes far more sense to us in terms of meeting our
requirements, and I think also we can look to the model of the
transparency of the system in the US as another good example of
what a true transparent system would look like.
Mr Calder: I think also there
was a question about a cost benefit analysis of this information,
but I understand that energywatch have provided a cost benefit
analysis to support that as well.
| 
