House of Commons - Business and Enterprise

Select Committee on Business and Enterprise Written Evidence

Memorandum submitted by National Energy Action (NEA)

1. INTRODUCTION

1.1 NEA is a national charity working to eliminate fuel poverty through a combination of policy development and practical programmes. NEA's primary objective is to address fuel poverty through measures to improve heating and insulation standards in dwellings occupied by vulnerable households. Energy efficiency is the most rational and sustainable approach to delivering long-term affordable warmth solutions to disadvantaged households.

1.2 However poor energy efficiency is only one of three components that predispose to fuel poverty, the others being:

— low household income; and

— unaffordably high domestic energy prices.

1.3 Consequently, NEA welcomes the BERR Select Committee Inquiry into the working of the energy market and the opportunity to submit evidence and comment on how the market is failing vulnerable consumers. Since the Committee's remit clearly does not extend to income-related matters NEA's comments will centre on energy prices within the competitive market.

1.4 Given NEA's key areas of concern, comment will be limited to those aspects of the Committee's inquiry related to market structures and fuel poverty.

2. WHETHER THE CURRENT MARKET STRUCTURE ENCOURAGES EFFECTIVE COMPETITION IN THE RETAIL MARKETS FOR GAS AND ELECTRICITY

2.1 There is one clear flaw in the operation of domestic gas and electricity markets and this relates to the anomalous relationship between the incumbent[281] supplier and in-area customers. Despite the fact that competition within the domestic sector has existed since the late 1990s, almost half of all customers have never switched supplier. This, in itself, would not pose a problem were it not for the tariff structures devised by energy suppliers which exploit the failure to switch from the incumbent.[282] In effect the incumbent supplier treats "legacy" customers as a cash cow. These customers are charged significantly more than would be the case in a properly functioning market. Whilst these differential charges may have galvanised and to some extent still sustain the competitive market it is clearly at the expense of almost half of all consumers many of whom are vulnerable and disadvantaged. The perverse effect of this arrangement is that a perfect manifestation of market forces would require all customers to have switched away from their original supplier.

2.2 However the perfect market has refused to develop. Almost 50% of domestic energy consumers remain with their original supplier despite clear economic disadvantage—a circumstance which incumbent suppliers are happy to exploit. Instead of their offering competitive terms to their in-area customers in order to retain their business they have relied on a combination of lack of knowledge, anxiety about the process and inertia to continue a form of exploitation. In other cases, suppliers have been able to prevent indebted customers from switching supplier thereby locking in to a high cost arrangement those who clearly cannot afford existing charges. Paradoxically, whereas most commercial arrangements provide a positive return for loyalty the energy industry imposes a financial disadvantage on those who do not switch. Ofgem is unacceptably sanguine at this clear distortion of the market.

3. SWITCHING AND MARKET FAILURE

3.1 Ofgem maintains that supplier switching continues to develop but there are signs that we are approaching a point where the potential for switching may have reached saturation point, at which time it seems likely that a permanent minority of non-switchers will remain and that these will predominantly comprise households who are not confident consumers and who face other economic or social disadvantage.

4. CHARACTERISTICS OF NON-SWITCHERS

4.1 The table below illustrates the disparity in switching rates by socio-economic characteristics. It is clear that certain categories of disadvantaged consumers are more likely to compound this disadvantage by remaining with their original supplier.

CUSTOMER SWITCHING RATES TO DECEMBER 2005

	Average	Over 65	Prepayment	Low income	Rural	Disabled	State pension
Gas	47%	37%	37%	39%	46%	50%	37%
Electricity	48%	44%	43%	43%	46%	54%	41%

Source: Social Action Plan, Ofgem, 2006

4.2 More recent data confirm the reluctance or inability of certain customers to switch. Whilst use of prepayment meters is not a precise proxy for disadvantage it is associated with difficulty in managing energy costs.[283] It should be noted that the Government has now undertaken to address the existing fiscal disadvantage faced by prepayment meter users[284] but has done little to remedy their disporportionate exclusion from the market.

INCUMBENT MARKET SHARE BY PAYMENT METHOD 2006

	Gas	Electricity
Direct debit	41%	42%
Standard credit	56%	55%
Prepayment	63%	53%

Source: Domestic Retail Market Report, Ofgem, 2007

5. PROGRESS IN REDUCING FUEL POVERTY AND THE APPROPRIATE POLICY INSTRUMENTS FOR DOING SO

5.1 As discussed earlier, NEA views heating and insulation improvements as the only permanent and sustainable approach to fuel poverty whilst recognising the role of income maximisation and action to control energy prices as other key elements. Defra has primary responsibility for energy efficiency, and income support policy clearly rests with the Department for Work and Pensions but there are a number of areas where the Department for Business, Enterprise and Regulatory Reform has both the powers and responsibility to intervene.

5.2 The 2003 Energy White Paper[285] published by BERR's predecessor, the Department for Trade and Industry, positioned the need to: "ensure that every home is adequately and affordably heated" as one of the four key goals of energy policy.

5.3 The subsequent 2007 White Paper[286] revealed just how far the Government was from achieving this objective. The graph also illustrates the gulf between the Government's commitments to eradicate fuel poverty for vulnerable households by 2010 and for all households by 2016 and the likelihood of these objectives being realised.

Figure 2.1.1

HISTORIC AND PROJECTED NUMBERS OF HOUSEHOLDS IN FUEL POVERTY IN ENGLAND, 1996-2016

6. THE CURRENT INCIDENCE OF FUEL POVERTY

6.1 NEA has calculated the actual effect of energy price movements since 2004 to spring 2008. By March 2008 all six major energy suppliers had announced significant increases in both gas and electricity prices. The impact is illustrated in the graph below and indicates that the prevailing situation is worse than in even the high price scenario posited in the Energy White Paper.

7. ACTION ON ENERGY PRICES

7.1 The 2008 Budget Statement promised some measures to mitigate the impact of unmanageable energy prices on disadvantaged households and this is welcome. The Chancellor's key proposals centred on the need to address the existing pricing differentials associated with prepayment meters and the need for energy suppliers to provide additional assistance to certain categories of consumer through more effective and better resourced social tariffs.

7.2 This in itself raises some issues around the extent to which Government social policy objectives can be devolved to commercial organisations. The Government simultaneously celebrates market solutions to a range of social problems whilst recognising that social welfare considerations are not uppermost in the priorities of companies whose primary loyalty is to their shareholders.

7.3 NEA concludes that Government cannot delegate responsibility for delivering fuel poverty solutions to any other agency least of all energy suppliers. Nor can it rely completely on Ofgem, a regulatory body which sees its main role as the promotion of competitive markets, even where these markets have self-evidently failed a considerable number of vulnerable and marginalised customers.

7.4 The Government does have powers to act on other areas of fuel poverty policy but demonstrates a reluctance to support households in, for example, extension of Winter Fuel Payments to those non-pensioner households in the greatest need. It should also be noted that the Government has cut funding for its main fuel poverty programme, Warm Front, leading inevitably to tens of thousands of households being denied heating and insulation improvements.

8. PREPAYMENT METERS

8.1 After many years of ignoring the strong case for intervention to address the growing disparity between charges made to more affluent direct debit customers and those made to disadvantaged prepayment meter users, the Government has resolved to act. The case for action is compelling. The differentials between prepayment and other payment methods have increased to an unacceptable level. Whereas suppliers, with the endorsement of Ofgem, have cited cost-reflective pricing as the justification for any differential it is clear that additional costs associated with maintaining the prepayment infrastructure are not responsible for growing disparities in charging practice.

ADDITIONAL CHARGES TO PREPAYMENT USERS COMPARED TO ONLINE DIRECT DEBIT

	Average differential	Additional cost to service individual prepayment customer	Number of prepayment customers (millions)	Total additional cost incurred by prepayment customers (£ millions)	Total additional cost to service prepayment customer base (£ millions)	Excess charges levied by energy suppliers (£ millions)
Gas	£146	£52	2.3 million	£340	£120	£220
Electricity	£85	£35	3.6 million	£304	£123	£181
Total				£644	£243	£401

Source: energywatch, March 2008

8.2 The differential between online direct debit and prepayment may to some extent reflect the benefits to the supplier of an administratively efficient system but the rationale for the gulf between prepayment and other payment methods is also significant with prepayment customers paying on average 13% more than for conventional direct debit arrangements and as much as £270 more than the lowest standard credit charges.

9. ADDRESSING THE PREPAYMENT SURCHARGE

9.1 NEA's main concern relating to prepayment meter surcharges reflects the view that many disadvantaged households are compelled to use this payment method. However it is also recognised that the majority of fuel-poor households do not pay by this method and that these households would face additional costs were charges to be equalised. Ofgem calculates that equalisation of prepayment tariffs with direct debit or standard credit would cost the average household £14 or £6 per year respectively.

9.2 Clearly, NEA does not wish to see any fuel-poor household further disadvantaged; nor does the charity wish to see perpetuation of unjust and inequitable charges to any prepayment customers. Consequently, NEA proposes that prepayment charges be capped at the level charged to standard credit customers; this degree of cross-subsidy would constitute a reasonable compromise. NEA further proposes that Ofgem carries out research to verify not only the additional cost of supply but also the benefits accruing to suppliers as a result of prepayment:

— Receipt of payment in advance for energy costs rather than in arrears.

— Minimal meter reading and billing procedures.

— No expensive debt recovery procedures associated with this payment method.

10. SOCIAL TARIFFS

10.1 In fact, NEA sees social tariffs as making a much greater contribution to fuel poverty alleviation than any reduction in the prepayment surcharge. A well targeted social tariff can ensure that those in genuine need are the beneficiaries. The key issue is the degree of discretion allowed to suppliers in designing such a tariff against a strongly prescriptive mandate from Government setting out eligibility criteria and the overall and individual benefit that must result from such a tariff. NEA has set out its view of the essential criteria for a social tariff (See Appendix).

10.2 The Gas Act 1986 and the Electricity Act 1999 provide the Secretary of State with powers to intervene in the market where—[he] considers that members of any group (a "disadvantaged group") of customers of authorised suppliers are treated less favourably than other customers of theirs as respects charges for electricity [or gas], he may make an order containing a scheme for the adjustment of charges for electricity [or gas] with a view to eliminating or reducing the less favourable treatment.

10.3 NEA understands that these provisions could be used to minimise cases of disadvantage such as the prepayment surcharge. However it is further understood that the legislation cannot be used to require preferential treatment of certain categories of consumer ie whilst the legislation can be used to reduce or eliminate disadvantage it does not authorise the Secretary of State to require action to provide preferential treatment. Consequently, an alternative method is required to devise a system of discounted or subsidised charges that can be made available to the most disadvantaged energy consumers.

10.4 The Chancellor alluded to this issue in his Budget Statement: "The Government believes further action is now needed to help vulnerable groups deal with rising energy prices. The Government welcomes the steps the energy companies have already taken to help vulnerable households cope with higher prices. There is common agreement on the need to do more. Energy companies currently spendaround £50 million a year on social tariffs; the Government would like to see that figure rising over the period ahead to at least £150 million a year. Acting with the companies and Ofgem, the Government will draw up a plan for voluntary and statutory action to achieve that. To underpin this as necessary, the Government will legislate to require companies to make a fair contribution".

10.5 The Government's intimation of willingness to legislate makes it all the more strange that the opportunity to do this in the current Energy Bill was rejected. However the Government is presumably confident that an equivalent legislative mechanism exists and is prepared to use it. NEA believes that an effective social tariff is essential to protect the well-being of millions of vulnerable households and welcomes the Government's endorsement of this view provided that the end result is significant, consistent and effective.

APPENDIX

SOCIAL TARIFFS

A1. INTRODUCTION

A1.1 There is no consensus as to what constitutes a social tariff, but for the purposes of this paper it is taken to mean any special payment arrangement, over and above those specified by suppliers' Licence Conditions, devised with a view to benefiting disadvantaged energy consumers. The Government's commitment to eradicate fuel poverty by 2016 has focused the minds of suppliers, and the energy regulator Ofgem, on how innovative tariffs can contribute to this wider policy objective. Consequently there have been a number of tariff initiatives developed by companies to address specific elements of fuel poverty. Further information on company initiatives can be found on the Social Action Plan section of the Ofgem website.

A1.2 This paper sets out NEA's view of the essential elements of a social tariff for domestic energy consumers.

A2. ELIGIBILITY CRITERIA

A2.1 As indicated above, beneficiaries of a social tariff should be those most disadvantaged financially and who can also be categorised as vulnerable. Whilst individual energy suppliers are free to develop their own criteria, and already do so in some of their Corporate Social Responsibility offerings, NEA offers as a potential example those households who qualify for the Department for Work and Pensions' Cold Weather Payment scheme.[287] Eligible households comprise:

— A household in receipt of Pension Credit.

— A household in receipt of Income Support or Income-based Jobseeker's Allowance and where the benefit includes one of the following:

— Disability Premium;

— Severe Disability Premium;

— Disabled Child Premium; or

— Higher Pensioner Premium.

— A household in receipt of Income Support or Income-based Jobseeker's Allowance and with responsibility for a child under five years old.

— A household in receipt of Child Tax Credit which includes a disability or severe disability element.

A2.2 All of these households are on a minimal income and share a further degree of vulnerability through age (elderly or very young) or disability.

A3. THE POTENTIAL CUSTOMER BASE

A3.1 Some 2.8 million households are currently in receipt of some form of Pension Credit and a further 1.5 million non-pensioner households qualify for the Cold Weather Payment. Consequently, around 18% of all households in Great Britain would be eligible for a specially developed social tariff. It should be noted that the Department for Work and Pensions can readily identify all of the households who would qualify for this form of social tariff.

A4. THE STRUCTURE OF THE TARIFF

A4.1 Since the purpose of the tariff would be to protect low-income households and to provide them with affordable warmth, one option would be to adopt the fuel poverty formula (a maximum spend of 10% of household income on fuel costs) in determining how much in cash terms a household could afford to spend in meeting energy bills. The theoretical household income would be assumed to be the lowest amount that that household type could receive in Pension Credit, Income Support or Income-based Jobseeker's Allowance and cap energy costs at 10% of this figure. The virtue of this approach is that, by definition, it removes a household from fuel poverty; the negative aspect is that it completely separates energy consumption from cost and would be extremely unlikely to be well received by energy suppliers. For this reason it is not proposed that a fixed charge scheme of this type be adopted.

A5. ESSENTIAL CRITERIA FOR A SOCIAL TARIFF

A5.1 The fundamental principle of a social tariff is that it should offer terms and conditions equivalent to, or better than, the best existing offer available from an energy supplier in terms of total charges for the number of units of energy consumed. It is also essential that there be consistent charging by suppliers regardless of the payment method used or the geographical location of the customer.

A6. ENERGY EFFICIENCY

A6.1 All households qualifying for the social tariff should be offered a comprehensive energy audit, a full package of energy efficiency measures and energy advice. Practical measures would be funded through a combination of Warm Front and Carbon Emissions Reduction Target Priority Group budgets[288] and should seek to improve the energy efficiency standard of the property to a minimum of SAP 65.Eligible households should also be offered advice on benefit entitlement and support and guidance in making any subsequent claim.

A6.2 Since Warm Front is specific to private sector housing and the Carbon Emissions Reduction Target Commitment has no formal fuel poverty objective there is a strong case for an improved hybrid programme that merges the affordable warmth objectives of Warm Front and the considerable funding resources available to the Carbon Emissions Reduction Target in a single, national programme to deliver optimal benefits to the maximum number of households.

A7. MARKETS AND SOCIAL TARIFFS

A7.1 Whilst NEA has reservations about the role of commercial organisations in delivering social objectives that are properly the responsibility of Government, it seems inevitable that the market will be asked to deliver a solution in respect of social tariffs. NEA considers this to be somewhat dogmatic and confusing since the market is clearly subject to a degree of external control through direct regulatory intervention and rather less direct involvement through Government. Vulnerable low-income households are least likely to participate in the competitive market and NEA would see considerable merit, at least at the present time, in effectively removing certain categories of household from the vagaries of competitive markets. However the degree of prescription required for a universal social tariff is not an option at this time and, in this instance, a modified market is certainly preferable to a free market.

A8. THE GOVERNMENT ROLE

A8.1 Seemingly the Government sees a comparatively biddable market (a clear oxymoron) as a means to promote its own fuel poverty objectives whilst stopping short of formal intervention through mechanisms such as the benefits system. It is instructive to note the example of the Republic of Ireland and that country's operation of a Household Benefits Package which last year increased the number of free gas and electricity units provided to low-income elderly households, all persons aged over 70, carers and people with disabilities to 2,400 kWh and 2,226 kWh respectively.

A8.2 NEA's argument that fuel poverty is too important to be left to commercial enterprises received some support with publication of The Stern Review: The Economics of Climate Change. The Stern Review considers briefly the implications of domestic energy costs in the context of carbon abatement and appears to conclude that subsidies are not the way forward: "But it is inappropriate to deal with poverty by distorting the price of energy. Addressing income distribution issues directly is more effective. There are a number of ways to achieve this. One is by indexing social transfers to a price index, taking account of different consumption patterns of poorer groups in the relevant price index for those groups. Other more direct means include making special transfers to those with special energy needs such as the elderly, and the use of `lifeline' tariffs, whereby people using a minimal amount of power pay a sharply reduced rate for a fixed number of units". NEA would understand this as an endorsement of our view that whether social or environmental objectives are the issue Government should develop and implement the policy.

A9. OTHER ISSUES

A9.1 A number of additional issues will have to be addressed including how continued eligibility for a social tariff will be monitored and the role of the Department for Work and Pensions in promoting the tariff. However these and other practical details will have to be resolved in discussions involving the Government, the energy supply companies, Ofgem and energywatch and relevant voluntary sector organisations. Ofgem should urgently convene a meeting of high level representatives from these agencies to refine and develop the concept of a universal social tariff.

NEA RECOMMENDATIONS

The Committee should consider the extent to which the competitive market has failed to engage with a significant percentage of disadvantaged energy consumers and the reasons for this lack of engagement.

The Committee should investigate the continuing disadvantage faced by consumers who, for whatever reason, have not switched from the incumbent supplier and Ofgem's passive response to this demonstration of market failure.

The Government is minded to act to reduce differentials between prepayment and other payment methods; the Committee should form an opinion on the appropriate level of intervention needed to eliminate or minimise disadvantage.

Most suppliers provide a "social tariff" of some kind to a predetermined segment of their customer base; the Committee should provide some degree of guidance to Government, Ofgem and suppliers on what form and level of support could be considered proportional.

The Committee should take a view on whether a social tariff should be highly prescriptive, standardised and mandatory on all suppliers or whether decisions on this issue can be left to the discretion of energy suppliers.

The Committee may wish to consider the principle of Government delegation of responsibility for social policy objectives to commercial entities. The Government affects not to understand that the primary, possibly exclusive, purpose of private enterprise is to generate profit and not to act as a philanthropic agency.

The Committee may wish to question BERR ministers and officials on the drastic reversal of progress towards 2010 and 2016 fuel poverty targets and the inadequate and unconvincing response of Government to date.

The Committee should consider whether additional guidance should be given to Ofgem by Government or new duties should be placed on the regulator to protect vulnerable consumers.

28 March 2008