Project Discovery - Energy and Climate Change Contents

Examination of Witnesses (Questions 1-76)

MR ALISTAIR BUCHANAN, MR IAN MARLEE AND MR ANDREW WRIGHT

2 DECEMBER 2009

  Q1 Paddy Tipping: Mr Buchanan, welcome again to the Select Committee. You need no introduction, but it would be helpful for the Committee if you could introduce your colleagues.

Mr Buchanan: Yes, I am joined today by my Senior Partner, Andrew Wright, who is Senior Partner in charge of markets, and Ian Marlee is a Partner in the Markets Division with specific responsibility for Project Discovery.

  Q2  Paddy Tipping: Can you tell us, what does "partner" mean? It sounds very professional.

  Mr Buchanan: Well, I hope it does send a message of being very professional. When we created our two business structures at the beginning of September this year, E-Serve, which is very much more like an ordinary business, it manages the delivery products primarily of the Government, we felt that the titles in that organisation should be like a business, so director, managing director, whereas we have stolen from Ofcom their idea of partnership to create a greater collegiality within the regulatory policy work which is where Andrew and Ian both sit.

  Q3  Paddy Tipping: So tell us about Project Discovery and particularly the bit that caught the headlines that prices could go up by 60 per cent. Having read the report, which talks about a lot of investment in the future, the potential of a shortage of supply and switch-off and high prices for consumers, it is a pretty bleak picture. Can you reassure us a bit?

  Mr Buchanan: The reassurance, I think, comes with, in a way, the bluntness and the directness of the message. The good news, as we have outlined in the initial report which we published in October, is that there will be substantial carbon reduction under all our scenarios. The bad news is that there is investment required possibly up to £200 billion and prices will go up under the four scenarios possibly by 2020 by as much as 25 per cent. Candidly, we are not trying to hedge that factor on consumer bills. What we will do, and I am sure we are going to talk about it in regards to how we are monitoring prices this winter, and what is incumbent upon us is to make sure that the companies do not take advantage of an environment where there is a knowledge that a large amount of investment needs to be made and, therefore, prices are reacting to that investment message, and we have to make sure that they do not take advantage of that. It is absolutely critical on us and, frankly, it is shameful of any company to take advantage of that overall picture.

  Q4  Paddy Tipping: But £200 billion is an awful lot of money and the market is very difficult at the moment. Are you confident that this investment is going to come forward?

  Mr Buchanan: I think it is a very direct and relevant question, Chair, because, in looking at the investment needs of the energy and climate change area, we need to look at a number of issues with regard to capital. First of all, we need to look at the players who provide the capital from the capital markets. Unlike five or six years ago, the major energy players in this country at the moment have serious capital constraints. If you look at four of the six of the big six which are European, EDF and E.ON have announced substantial capital restrictions and their balance sheets are full. Both companies have indicated that they are looking at their assets with regard to sales in order to ease pressure on their balance sheets, so you have seen stories about EDF looking to sell some of its network companies in the UK. Perhaps of greater concern to this Committee, looking at security of supply, is that E.ON have put a freeze on developing three of their power stations in the UK, that is Drakelow, High Marnham and Kingsnorth, so there is substantial pressure on capital. Iberdrola, who owns Scottish Power, has also been capital-constrained this year and has had to go for rights issues and extra debt issuance. This is very important, in my view, because the providers of capital are, first of all, under pressure themselves from their own balance sheets and, secondly, they have a lot of calls on their balance sheets. These are large companies, multinational companies, with the opportunity to choose where to place their bets and a good example might be the nuclear industry. A typical nuclear power station is going to cost, let us say, between £5 and £6 billion. These are huge investments. Eighteen months ago, if we were talking, Britain was nicely positioned in the leadership of the new nuclear age. What we have seen over the last 18 months is that Italy has joined the nuclear race, Hungary, Poland, and Germany has reviewed under its new Government its nuclear policy and who knows whether they will go to new nuclear in time, so there is enormous pressure building up and, incidentally, what is quite interesting is that we must not forget that China wants to build 24.5 gigawatts of nuclear in short order, so there is tremendous pressure suddenly for nuclear build. There are very few companies with the skills to do it and huge amounts of capital needed to build it, so you have got a very, very changed environment, so I do believe, Chair, you are absolutely right, that finding the capital to come into our environment and provide the investment for Britain is going to be very important and companies will look, which I think Britain does well in, at the stability of the regime, the confidence that they have in the marketplace, in the Government, in the regulator and will take their view, but it is not like the halcyon days of six or seven years ago when the companies, if you look at E.ON or RWE, were net cash companies; now their balance sheets are full, so what are they going to do and how does Britain rank in their priorities going forward? I think capital is a very, very key issue within the debate going forward, and Project Discovery, I think, will have to, when it reaches its conclusion stage, take a view on the capital issue. Two particular issues with regard to Britain are that, and I have no personal issue with this or Ofgem has not, we are placing a substantial focus on nuclear and on offshore wind. Both are highly sophisticated with regard to technology, both are very capital intensive and, in an environment where project finance is not easy to find, this is why we keep returning to the big players because the big players have the capital and have the capital base, but the independents who might need project finance will find it very, very difficult, so you are asking investors to come into an investment arena in Britain where we have large, exciting projects ahead, but which are technically very demanding and require massive scale to get the projects off the ground.

  Q5  Paddy Tipping: So what is going to happen if new nuclear or replacement of fossil fuel plants cannot be funded? It makes the likelihood of interruption greater then.

  Mr Buchanan: These are the issues which, I think, the Government may be considering as it goes into next year, and it has its own 2050 report that it will be analysing. Looking at the way markets work, and we may well come on to the structure of markets and whether they do work, markets respond by giving a price, so, if the pricing signal is right, the investment will come to Britain and the issue will be: is the pricing signal correct?

  Q6  Paddy Tipping: You talked earlier on about price rises for customers of 25 per cent. One of your scenarios suggests a price rise of 60 per cent.

  Mr Buchanan: Indeed.

  Q7  Paddy Tipping: Customers are struggling at the moment. Price rises like this are not very popular. What can be done about that?

  Mr Buchanan: I think this is going to be one of the policy debates which will be centre of the outcome of Discovery and how it feeds into the Government's 2050 report next year. The Dash for Energy scenario which is the 60 per cent by, I think, 2015-16, it is uncomfortable and particularly uncomfortable for the vulnerable, and these are issues that we would have to address. If I might, Chair, I just wanted to give you a little bit before time, but we literally just got in, the Project Discovery consultation responses, and this is not all of them, by the way. Just to give you a sense as to where we are with regard to nearly 50 consultees, and it is a very serious set of returns, as you would expect, there are a couple of headlines, if I may, and that is all I can really give you at the moment and I will not name any companies or specifics because, in certain instances, they have asked for confidentiality on certain information, so we have to redact that, but that will be made public in due course. Apart from, which was nice, saying that Project Discovery was welcome and timely, the big message to me is that most of the consultees have said that we are too optimistic, and that is across industry feedback, major domestic consumer feedback, four of the big six, which might not surprise you so much, academics and specialists, so we have got to address the fact that, even in our report where we showed you the four scenarios and the stress tests where we showed you that we had seven red traffic lights sitting against our stress tests for 2020, there is a view that we might have been too optimistic. With particular regard to the stress tests, the kind of language that I have been picking up from the report is that we have not fully addressed, what they call, a `double whammy' or a `triple witching' which is where you get a layer of stress tests occurring at the same time. Additional stress tests that the consultees would like us to look at in more detail are investment delays, oil price shocks and the impact of differing gas qualities across Europe. With regard to our scenario analysis, again the concerns appear to rest most frequently on the fact that we are not putting in enough volatility to commodity prices, that we are not fully putting in the impacts of planning delays, that we, and this one surprised me, may be overestimating the impact of demand side as an amelioration to concerns and, finally, that we may be underestimating costs in one particular area which is very interesting, that a lot of our focus, and we may come on to this today, is on plant being closed down due to the Large Combustion Plant Directive. Well, there is another directive straight behind that called the IED, which is going to require a clean-up of NOx and SOx on a massive scale and there is a view that we have substantially underestimated the costs of that if it is going to be done, so this is really helpful feedback. I do not want to put a dampener on the next two hours, but those are the kinds of views that we are getting back and I am trying to give you a sense of how this project is progressing and that is the flavour that we have got so far.

  Q8  Paddy Tipping: Well, you are brightening up a beautiful December day! Just tell us this: you have set out the issues and you have set out the problems, but what are the solutions and when are you going to come back with parts two and three of Project Discovery?

  Mr Buchanan: In terms of timing, we are very keen to align Project Discovery at the next stage where we will come out with our views and our recommendations to you and to the Government by the end of January/February. Now, there is an alignment that is going to occur at that time which is unique, I think, as an anorak following the sector and being in the sector, as I am, for some years. At that time, we are going to have the liquidity report coming out and the liquidity report is looking at the short-term market arrangements and whether they work, then you have got Discovery looking at the medium-term market arrangements and we have got a price report due within the next two weeks, but we will have the next one on retail prices at the same time. You have got a unique alignment of three substantial reports, two on wholesale and one on retail, where the Board is very keen to take the advantage of looking across those reports and taking a holistic view to see whether there are structural messages through the whole energy chain that are coming through those three reports, and we would obviously be very happy to come back and talk with this Committee in February, if that is suitable to you, but I think, for me, it is not just Project Discovery and that reporting timetable, but it is aligning the short term, medium term and retail to see whether there are actually structural issues here where we need to stand back and say, "This is affecting the whole energy chain and what do we do because of that?"

  Q9  Paddy Tipping: We have talked a bit about investment and we have talked a bit about prices, and you have painted a gloomy picture. Can you just make our day and tell us how likely it is that there are going to be interruptions in supply in 2015-17, that kind of range? Clearly, it is a possibility.

  Mr Buchanan: If you look at the scenario analysis that we have done, there is one particular scenario called `slow growth', which is not great news because that is slow on environment and slow on economy, but what you will see with slow growth is particularly concerning because the slow growth scenario, of the four, is the one that has concern on both gas and electricity. On the gas side, it is concerning because our usage of gas continues to go up throughout the period to 2020, so there is no stabilisation and there is no fall, it goes up through the period. On the electricity side, the concern is that the plant margin, the reserve, spare margin, goes to as low as we would ever have seen it, down to three per cent. That is what I call `sweaty palms' time, so, if you take that particular scenario, if you believe that we are in a slow economic growth period between now and 2020 and that, whilst we have aspirations for climate change, we are going to go slow on them, it is quite a tough outlook.

  Paddy Tipping: You have just mentioned gas and in all the scenarios it looks as though there is going to be, in a way, a second dash for gas.

  Q10  Sir Robert Smith: First of all, I should declare my entries in the Register of Members' Interests relevant to this inquiry. One is a shareholding in Shell, another is a visit to Total's carbon capture and storage demonstration plant in south-west France and the third is as honorary Vice President of Energy Action Scotland, a fuel poverty charity. In your scenarios, you obviously see us becoming more dependent on imported gas. What are the main risks to becoming more dependent on imported gas?

  Mr Buchanan: Well, I think it is trying to calculate the probability of the risk. The two sources of gas are going to be primarily gas from Russia and Turkmenistan and LNG, and I think the issue then is going to hinge quite heavily on how we see the supply side delivering over the next ten years against our scenarios, and politically important, I believe, for Parliament and for Government is a very big call on how we think our relationship with Europe is going to develop. Perhaps I can deal with pipeline gas first and then LNG shipped gas second because we are going to be heavily reliant on gas and possibly up to 80 per cent is going to be imported and, therefore, let us deal with Russian gas first of all. The outlook for Russian gas is that they have to bring on in the next ten years three super-giant gasfields in western Siberia in order to replace their current gas. They are going to lose about 200bcm of their gas from around 600bcm to 400bcm, rather like we have from the North Sea, so they need to replace that. Their replacement mechanism is focused on three fields, and one is Bovanenkovo and another is Shtokman. Bovanenkovo has been delayed in the last six months by at least a year, and for Shtokman, it was announced this week that the original expectation date of 2013 has been delayed to 2015. Why might this be? This is because Gazprom, through no fault, in a way, of their own, has been hit by a double whammy this year. Its sales to Europe have collapsed from 156bcm to 142, its revenues have collapsed from around $65 billion to $45 billion from Europe alone, within Russia their demand has collapsed by ten per cent, and the expectation that they will be able to carry on investing on the back of price increases that would equalise a Muscovite with somebody in Europe by 2011-12 has gone and it has now been pushed back to 2013-14. The basis of what I am saying here is that the supply side has been hit by the credit crunch in a very substantial way and, therefore, gas that we have been expecting to arrive by a particular date is almost certainly going to be delayed. You may have seen the traffic light picture that I gave you earlier, which you can find in your Project Discovery book. This is a traffic light that I use with regard to when are the Russian three gasfields and three pipelines going to be available. What you have got to be looking for here are green and what you can see are very few and that is a real concern, so, if we are looking at gas from Russia, yes, it will come, but it already appears that it is going to come a little bit late and we are sitting here looking at 2015-16. We may want to discuss whether we can get out of the LCPD, but, as it stands, that is what we are faced with in terms of an element of crunch on our capacity. So you have got gas from Russia, it will come, but will it come late because of the credit crisis? You have then got Turkmenistan, and Turkmenistan is incredibly important. Of the 200bcm that will have to come from Russia to Europe in 2020, 50 come from Turkmenistan. That is the calculation that we have currently made and analysts have made. A slightly worrying outlook at the moment is that Turkmenistan have just signed a major deal with China, so, if you look at 2020 at the moment, Turkmenistan will use about 30 for itself, it will possibly send 30 to China, ten through the Nabucco pipeline to Europe, 14 to Iran under contract and that is taking it up to 84. At the moment, Turkmenistan is producing around 60. The IEA announced last week that it thinks by 2020 Turkmenistan will be producing 90, so, if we are meant to be getting 50 from Turkmenistan via Russia, we are actually getting six, so there are some real issues there at the moment with regard to from where the gas is going to come if we have a Dash for Energy scenario. If it is a fast-growing recovery over the next ten years, then in that scenario there are issues. That then brings you to mainland Europe because, if there is an element of a shortfall from expectation from Russia and Turkmenistan, where does mainland Europe look? Well, we know where it looks because it has looked to us last winter and for 60 days of last winter we exported. We have developed in a market-based environment and we have attracted £12 billion worth of investment into our gas industry. We are going to have around 60bcm, possibly more, of LNG and the question will be: does that energy under market rules flow out of Britain to Europe, in other words, gas follows the cash, which is what it should do? The critical dilemma then, I think, politically is: are we comfortable that, at a certain point as that gas goes out of Britain, the price in Britain will obviously go up and you will get a reverse flow? Unless you are absolutely confident that that is going to happen, you need to really look very carefully as to whether the Anglo-Saxon model of markets is going to work with the near-Europe model of markets. Now, where are we on that near-Europe model of markets? Well, we can take a couple of steps back, and you will remember that Ofgem's gas probe of 2005-06 was driven by the fact that, when that arbitrage was meant to happen, the price was high in Britain and we said, "Come on, send us your gas" and it did not come. That was one of the key drivers, I believe, behind the third Directive which has just become law in September. Let us look at last winter. Did we come out of last winter wondering what on earth were some of the gas flows going on within Europe? Yes, we did. There were some strange movements. We also were not entirely sure why we were left with a couple of days' gas and a big gas storage facility at Bremen was left with 20 per cent in the middle of Europe. When you dig down into that, which obviously we have had to do and this is going to be a very important part of Discovery, you start to say, "Do we understand why there are constraints in the European system? Are they due to physical flows, which might be understandable, or are they actually due to long-term contracts?" which of course the British marketplace does not like and does not warrant, and we look to Brussels to make sure that long-term contracts are not struck in a way that lacks transparency. Now, what has transpired, we believe, is that in the flows between Benelux and Italy and in the flows east to west, over the next ten years it is virtually impossible to get additional flow into those networks because of long-term contracts. Now, one of the things that struck me, and I have not been aware of it and possibly I should have been, when we were doing our work on Project Discovery and Russian gas is that, of that 142bcm that I discussed this year that Europe took from Russia, most of it was on long-term contract, so around 140bcm is on long-term contract. The really amazing story here is that that goes up to 167bcm by 2025, so in fact the long-term contract structure that is almost inimical to markets working is going up over the next 15 years, not coming down, so, when we look into Europe, we say, "Well, how do we get confidence that there is access", which is a critical element of our market working, "and that there is transparency of information?" Now, in Great Britain over the years, with Ofgem prodding and pushing, we have access to immediate information on gas flows and on storage. In Europe, and Andrew can correct me here if I get the data wrong, but at the moment, we believe, in Europe we only still have 70 per cent of the information on storage and Britain has led a particular project in north-west Europe to try and get our neighbouring countries, which includes Germany, to agree to open up the information flow. WINGAS, which is the number two gas supplier in Germany which supplies 20 per cent within Germany, is not doing this yet. When I look at the key instruments of what tells me a market is working, are there constraints in the system, yes, but I do not know why there are, are long-term contracts being locked in, yes, do I have full information flow, no, do I have a history here that makes me concerned, possibly, when you add all that up and you add it to concerns about the supply side impacts on Russian and Turkmenistan gas, you are going to have to ask yourself some quite big questions about probabilities going forward as to what is going to happen if we get ourselves into any kind of supply crunch going forward. How will our closest neighbours work? The only example I can give you from my life is that for a couple of years I worked in New York as an American investment analyst and part of my patch was western America, California, and that was at the time of the Californian crisis and the associated Enron mess. One of the things that really struck me from that experience was that the western states created what was called the `western interchange market', which actually worked quite well and there was flow between the states. As soon as California went down, Wyoming, Idaho and Washington State all went to their local legislature, put laws in place and stopped the flow from their states, so they locked in flow to their states mainly because they had cheap hydropower and they did not want to send it to California because there was a crisis. I am making no subjective analysis there, that is what happened and, therefore, I think you are going to have to look at that quite carefully, so that is the gas by pipeline side. Let us have a look at LNG.

  Q11  Sir Robert Smith: Just before you move on to LNG, I have just a parochial question, coming from the north-east of Scotland. Does that scenario you have painted make it quite sensible for the UK Government to try and maximise the prediction from our own resources and to avoid leaving any of it behind?

  Mr Buchanan: It is a very good question. It may well lead to a view which, I think, Malcolm Wicks put forward, that, when you look at nuclear, rather than just to look at replacement, which I think was Malcolm's argument, you may actually want to take it higher, and I think he used a figure of 30 to 40 per cent.

  Q12  Sir Robert Smith: Also, our own gas, should we leave it in the ground?

  Mr Buchanan: I am sorry, I thought you were talking about diversity. I think that, as long as we have got a marketplace, which we have, it is going to be driven by costs and whether there are subsidies or not or tax breaks or not.

  Q13  Sir Robert Smith: Because your scenario longer-term is quite frightening, but at the moment the investors are saying that it is a very flat, low, boring place for gas and the price is not staying loyal to them, but you are saying this is a temporary phenomenon in your scenarios.

  Mr Buchanan: Well, in one of the scenarios, which is Dash for Energy which is assuming economic growth, it is worth pointing out that, just going back to that Russian example, in the last few days Medvedev has come out with, I think, some quite important statements. The first is that he is anticipating, given the recovery of the economy in Europe, gas to have gone 156, 142, 161 next year, so he is seeing that recovery and that is his expectation and, secondly, there has been a general move to see whether you can break gas and oil contract links, and they have said no way on their long-term contracts. Why this has been so relevant is that, because Europe has taken less gas this year, a couple of the companies, E.ON, Ruhrgas and Gas de France, have found themselves in a very uncomfortable position in their relationship with Gazprom because they have `take or pay' contracts and they owe Gazprom a substantial amount of money for gas they have not taken. Within the last months, Cirelli of Gas de France and Bernotat of E.ON, they are the chief executives of those two companies, have made overtures to Moscow to see whether they can renegotiate or review contracts, and this has been the response: "Yes, maybe we can, but we're not going to look at the oil-gas index".

  Q14  Sir Robert Smith: And on LNG then, again—

  Mr Buchanan: Yes, it is a very good issue with regard to whether we have got a glut and whether LNG will continue to provide a glut. The concerns I have got, and I will ask Ian to come in on the LNG market, if I have two concerns on the LNG market, the first is the way the dynamics swing so quickly, so three years ago the Department of Energy in Washington was saying, "We're going to go from two per cent LNG to 30 per cent of all of our needs from LNG". Now, with shale, that has changed quite dramatically, but you have also got China saying, "We might well be stepping up from 40bcm of LNG to over 200", you have got India saying, "We're going from 40 to 75", and you have got Japan with quite a wide range of energy, so I think one of the concerns I have got is just how quickly the market can swing. The other concern I have got is that pipeline gas, and these are Shell figures, is cheaper than LNG up until the pipeline is more than 4,000km long, ie, LNG is expensive, the facility is expensive to build. If we are in fear of a glut, will we build those LNG facilities and, coming back to the Chair's opening statement about capital and investment, will that get built? In fact, at the very time that we need that LNG facility, possibly towards the end of the next decade, it was not built now, so those are my concerns with regard to LNG. Ian, do you want to add?

  Mr Marlee: Another thing that our scenario analysis showed with the LNG market is the vast range of uncertainty out there about the amount of LNG that we think might be needed going forward, so, to give you an example, in our Green Stimulus scenario by 2020 we are looking at a global LNG demand of about 358bcm, whereas in our Dash for Energy it is 686. That is a massive range of uncertainty and, when you look, which is what we have to do when we think of how we are going to be protecting consumers going forward, when you look at the investor perspective on that, you have got investors out there, saying, "Given that huge range of uncertainty, what kind of investment should I be making in that LNG market?" so there are all the questions about whether it will flow, but there are also all the questions about what investment should actually occur and the kinds of uncertainties that are facing investors.

  Q15  Sir Robert Smith: But, given this growing scenario of imported and the scenario of uncertainty, what is the role and how far behind are we in having enough gas storage to try and stabilise the UK market?

  Mr Buchanan: I think there are two elements perhaps to the question. The first is that it is worth bearing in mind that we would be virtually physically self-sufficient if the LNG were regarded in the island market status. It is because we have the interconnection with Belgium and Holland that you cannot look at it in those terms and, therefore, it would be wrong to suggest that we will not have the facilities to meet, let us say, 100bcm of demand in 2020, and the DECC figure is massively lower than 100bcm, but let us just stay with 100bcm, and that will be comfortably met by LNG and pipeline from Norway alone, so I am just concerned that that element of the debate does not get taken. I was going to go on to discuss Europe, but could you just remind me of the question?

  Q16  Sir Robert Smith: My question was on the role of gas storage in this changing scenario.

  Mr Buchanan: I think this may come into the debate on our relationship with Europe and the recommendations and potentially structural debate that we may have to have next year. As you are well aware, we have got around 4bcm of storage at four per cent[1], which is more or less what we had six or seven years ago, which is not good news, and a lot of key facilities have been blocked largely by planning, so let us hope the new planning regime enables that to push forward. Even still, it takes a lot of time, so my first issue would be that, if you are going to go there as a response, is it a timely response? If I can give an example, the big gas facility being built at Bergermeer in Holland, which will develop about a 6bcm gas storage facility in itself, was started in 2006 and will be available in 2013, so the first thing is: is this a timely response to our needs? The second is: is it a market response because Bergermeer is being built in the public and national interest in Holland? If you start to go round Europe, under public service obligations the majority of countries in Europe actually have a public service strategic, national tag to storage, so, for example, Hungary works on an ad hoc basis and that ad hoc basis is where the Hungarian Government have said that 20 per cent of their storage will be strategic. Ironically, Hungary has more storage than we do in total and that is surprising given its geographical location, so, of their 5/6bcm of storage, 1.2 is called `strategic', and storage in Poland is being directed by the national company, so maybe these issues will have to be considered, but I think there are a lot of considerations along the way as to whether storage (a) is the answer (b) is timely and (c) is the right place to invest in.

  Q17 Sir Robert Smith: So probably the more important thing is to get an alignment of signals in the market between mainland and island Europe?

  Mr Buchanan: Yes, and, if you cannot do that, you are going to have to think very, very carefully about what you then do.

  Q18  Dr Whitehead: The National Grid a little while ago published a scoping report on the potential for renewable gas into the mains gas pipelines in the UK and estimated that the potential by about 2020 could be possibly 15 per cent of UK domestic gas supplies. Have you looked at the possible impact that that might cause on (a) security of gas supplies and (b) general supply in terms of the various scenarios that you have put forward?

  Mr Marlee: Yes, we have taken, if you like, a broader approach to that question and one of the things that we have looked at in the green scenarios is the amount of renewable heat that you can have on the system, and indeed our green scenarios suggest that you have about 12 per cent renewable heat by 2020 which approximately meets the Government's targets and that would be through a few things like biomethane, it would be through heat pumps and it would be through solar thermal, so we have taken, if you like, a broad kind of assumption on what that would be and how much that would cost.

  Q19  Dr Whitehead: But you have not made an assumption on the extent to which renewable gas as a domestic supply might be placed into the gas mains basically?

  Mr Marlee: We have not looked at it in that specific detail, no. We have looked at it more generally as how much renewable heat could you have on the system and then the effects and the costs of that are in the scenarios.

  Q20  Dr Whitehead: On the wider question of supply, what specific look have you had at Azerbaijan's gas supply proposals and particularly the development of the Shakh-Deniz field and its supply through the Nabucco pipeline without going through Russia at all, although I understand that Gazprom is attempting to purchase a proportion of that output?

  Mr Buchanan: That is a very interesting situation. The headline is that this is another delay, that the Shakh-Deniz field will probably be 2016 now instead of 2014, and it leads into an absolutely fascinating issue which you have touched on with regard to the Nabucco pipeline, which is the pipeline that comes through the furthest south, basically going from Turkmenistan across Caspian, through Turkey and then up in the underbelly of Europe. The reason why, if I may just give a little bit of colour on this project, is that this project initially was dogged by concerns about how the Member States were going to work on the pipeline, whether Turkey was going to demand to take 15 per cent of the offtake or whether it would allow it to be transit. Turkey has just about agreed to do that, although the Turkish Parliament at the moment is comparing the Nabucco European pipeline with a much more straightforward Turkey gas proposition, but let us assume that the gas pipeline can get built through Turkey. There is another immediate problem here because Turkey is seeking a rapprochement with Armenia and that is not going down well in Azerbaijan. The pipeline has to go through Azerbaijan, so you have an immediate political problem there. Assuming that they can solve that problem, they then have to get it under the Caspian. Iran and Russia have triggered a 1920s pact between them to say that the Caspian is theirs and no other country's and, if they can get that, and they want to go to international arbitration, if they can get that to hold, that is another delay on the project and that is before you have even got into Turkmenistan to find whether the gas is coming to Europe, China or Russia. You are absolutely right, in the meantime Gazprom has stepped in and has opened with Azerbaijan on taking a large slug of the Shakh-Deniz gas. The interesting element there for Nabucco is that Nabucco is looking to bring about 30bcm to Europe. It does not get probably to break even until there are 16bcm. The first 16 do not come from Turkmenistan, they come from Shakh-Deniz and Iran, so, if you cannot get that eight from Azerbaijan and eight from Iran, this project is struggling on its economics, so you are absolutely right. Here we were ten years ago as a self-sufficient island, we have got gas coming from the North Sea, and now we are having to start to worry about the relationship between Turkey, Azerbaijan, Armenia and Russia and Azerbaijan and a pact from the 1920s on the Caspian. Really, to me, this is just a perfect illustration of how the energy outlook for us has gone from this very protected market status to this incredible interface, both geopolitical and economic, but also it does lead us to and comes back to the European question that we have been asked earlier with respect to whether we are trying to resolve and sort out our energy demands and requests with partners who do not have the same outlook of how they want to do business as we do, and I think that is a really key issue. Sorry for a long-winded answer, but it actually, for me, touched on such an interesting illustration of how difficult even one pipeline is in terms of how the politics will work.

  Q21  Colin Challen: Can we just go back to Project Discovery because what I have heard so far, particularly in your first answer, perhaps the transcript should be cut out and pasted as a set text on the wall of every minister and aspiring minister in DECC; this is gobsmacking stuff. I want to know really, since we have a predictable crisis facing us, what can Project Discovery contribute to removing the unpredictability in the toolbox in dealing with this predictable crisis? It seems to me that the British national interest is really on the whim of others who have no concern for it.

  Mr Buchanan: What I have to be careful about here is that I am not premature with our findings and certainly not premature with my own Board. We set out in October with four scenarios, we stress-tested those and we came out with seven red lights and one green light, which is not a great starting point in terms of looking forward. The consultation's consultees have said that we have been over-optimistic and now we have got to go back and stress-test whether we have been. Now, in the light of that, we have then got to come out with our best case review of that and, to a certain extent, come out with an analysis of probabilities because what we must not do is create fear and create a very unstable environment if the probability of what we are looking at is very remote. If, however, the Board feel that it is such a different environment, courtesy of the credit crisis, courtesy of environmental targets being very tough, courtesy of the environmental market in Europe not working properly and courtesy of the loss of our energy island status, if all of that combines to actually drive the Board to make recommendations that meet your concerns, then I am sure they will. The overriding message that we have wanted to give throughout this, and it is rather like the retail market probe that we did which, and I will be quite open as I have been open with the Committee before, was a little bit uncomfortable for Ofgem because there were things there that perhaps we could have got to before, but the quality of the report showed that we could sort out issues in the retail market which, I suspect, we are going to come on and talk about in a minute, and in this report again we have not wanted to constrain ourselves by saying that we are not prepared to look at a range of options and make those suggestions to Government. It is really important for me and my colleagues that this is exciting work, it is quite exacting work, but we are not the policy-makers. We are a statutory body of Government, we are doing this review under a section of the Utilities Act which we are required to do, but we will hand our work and ideas to you and to Government and you will then make key decisions on that.

  Q22  Colin Challen: But you will be able to say, "We are in a mess", which is, I think, what you said this morning?

  Mr Buchanan: I think what we will highlight, if that is the outturn, is that, of the four scenarios, and we may have more by the end of January, but just assuming that we do not, of the four scenarios, these scenarios will give you comfort on the following criteria and these scenarios will not. Comfort, I think, will not just rest on security of supply, but comfort may also rest on—and, by the way, two of our scenarios at the moment have GB substantially failing its renewables and carbon targets—particularly its renewable targets.

  Q23  Colin Challen: What I am concerned about is that we do not repeat or perpetuate the mistakes, the policy errors that got us into this place in the first place. Are there any that you are going to leave untouched? You have referred to the markets in, I think, quite stout terms this morning. Is that something which does need to be addressed fundamentally?

  Mr Buchanan: It might do.

  Q24  Paddy Tipping: You have also referred to the role of Government, that everything you have said implies greater involvement, a bigger stake, to caricature the position.

  Mr Buchanan: The outturn from this might be that the Government say, "We're absolutely convinced that markets will deliver, and there may be a price associated with that delivery because that's a feature of markets, but the markets will work". They worked in the 1990s. We had 30 new gigawatts out of 75 in, we had 24 out and the market delivered. We came through a mini electricity crisis in October 2003 and the market delivered. We came through a gas crisis actually on one specific day, 13 March 2006, when the National Grid said, "We don't think we'll have enough gas tomorrow", but we have come through those, so the question is: will the answer be to trust that the markets will deliver because the markets have, but it will be uncomfortable along the way, and it is like a rollercoaster, you have good times, you have bad times, but the market will deliver, or will the combined impact of credit crisis, and loss of our energy island status, and the key issue there is the loss of our energy island status, mean that our interface is with regimes, companies and organisations that may not want to do business the way we do? It is not as if the loss of energy island status means that we are dealing with a like-for-like view of Anglo-Saxon markets, we are not, and I think that has become very clear, but I think the other thing that has happened over the last two years to go with the credit crisis is that we have signed up to these very tough renewable targets and we are obviously signed up to the LCPD Directive, which started in 2008. The other concern that I think we have got is that EU ETS trading in Phase II, to be fair, partly because of the economic slump, the price has been down at €8 and it is now trading at €13 and it really has not worked at all. There is a very powerful piece of research written by Macquarie Research team which is saying that in this first phase of Phase II of EU ETS, because coal has been as easy to run as gas, in fact we are going to have to run a hell of a lot more gas in Phase III to catch up with what we lost in Phase II, so there are some real issues, I think. Coming back to your concern that this problem has been here for some time, I really do not feel that, but I really feel that the market mechanism that Britain had adopted way back at the end of the 1980s and then obviously got opened up more and more through the 1990s was suitable to the market that we had at the time. The question is: is it going to be suitable in the light of this new information, these new events, going forward? I think that is such a big call.

  Q25  Colin Challen: It was suitable and that was only a decade ago, and that is a very short timescale when we are talking about infrastructure investment and so on. What does the Government do with the highly liberalised version of the market that we have if we are faced with a `keeping the lights on' kind of situation? What has to happen? What is our Plan B? Is it Project Discovery, which suggests that we are going to discover new things where we have not been before? Have you any thoughts on that? What has to happen in these circumstances?

  Mr Buchanan: I think that the range of options here are that it may be that there are certain changes to the current market that we can make. For example, you may introduce a fairly simple mechanism, a capacity credit mechanism, you may go for a technical change, that there are technical issues where you could just say, "Well, our market isn't responding appropriately and it doesn't send a sharp enough message", and that may have its own issues as to whether you want to make the market message even more volatile and spiky, through to do we need to look at a strategic solution, do we need to look at a market-based solution, are there other market-based solutions around the world that we could adopt, do we need a hybrid solution, so you can see my hesitancy. We have got to do the work and we have got to talk this through with our Board colleagues, but I think the message that I want to leave you with is that we are not going to not pick up a stone and look underneath it, we are, and we will present the findings of that.

  Q26  Charles Hendry: What is your assessment of the likelihood of a dispute between Russia and Ukraine this winter, especially ahead of the Ukrainian elections in January, and what will be the impact on the British market?

  Mr Buchanan: I do not know if it is appropriate for me to answer that, but clearly in the run-up to the election in January, I think, we will be watching things quite carefully. It would appear both in Brussels and in Moscow that there is greater confidence that there is a relationship there that was not there before, so let us see.

  Paddy Tipping: We have talked a lot about security of supply and let us just pursue that a bit more.

  Q27  Mr Weir: We have depressed ourselves on gas, so perhaps we will depress ourselves on electricity supply. We know that something like 25 per cent of the UK's electricity generational capacity is scheduled to close by about 2018, but, certainly as far as DECC's transition plan is concerned, they appear to be reasonably confident that the amount of new generating capacity that is either planned in the pipeline or ready to go is greater than that. On the other hand, as far as your various scenarios are concerned, the low economic growth/low renewables scenario suggests a very high dependence on CCGT with the consequences that we have already talked about. On the other hand, a high level of green energy penetration would need to rely on the emergence of additional back-up and balancing capacity. What do you think the main influences and risks, therefore, are as far as capacity between now and 2025 is concerned, and where do you think the issues might pan out in between those various wholes of options?

  Mr Buchanan: Taking the second part of your question first, if I may, this balancing capacity issue, I think, is one of the hidden stories and possibly hidden costs in the electricity story. I believe the National Grid have estimated that, were the nuclear programmes outlined by DECC to go forward, they would need to invest about £1.4 billion in an upgrade of the system; you have to upgrade the wires, you have to upgrade the substations, you have to ensure the system can work. PV Power have estimated that the ancillary services and reserve services that you would need to have in place for the fleet of nuke, each nuke will add about £1-2 per megawatt hour and today the price per megawatt hour is about £33 rising to, I think the forecast for next year is, £42, so that is quite a substantial cost per nuke, so that is the back-up costs. Coming to your forward point, we do not hide in our scenarios that two of our four scenarios are assuming that nuke does not come in on time and that the carbon capture pilot does not come in on time and indeed the Green Transition scenario, rather than the Green Stimulus, is the exciting one because that is growth on both green and economy, but the thing that strikes me about E.ON's assumptions there are that there is a very strong assumption of carbon capture fully subsidised and there is a very strong assumption that nuclear gets built possibly because there is a very strong assumption that there is a high carbon price. Now, all of those things have to come into play in one of the two scenarios where we think nuke and CCS will come into play, and of course in two we do not.

  Mr Marlee: I think, as Alistair says, we do have a number of assumptions that have to be met for the green scenarios to come in, and I would emphasise that these are global scenarios and not domestic scenarios, so they are about concerted environmental action, not just GB action. I think that it is important, when you think just quickly about going back to the back-up question, that it is not just about the back-up in generation, but it is about flexibility in consumption of energy as well that would be required in the green scenarios and, therefore, it is about, if you are in those worlds, how do you have that flexible generation and how do you have that flexible consumption, so there are both sides of those that the scenarios throw up. We are not saying it is impossible to resolve those, we are saying they are issues that need to be considered. I think the generation one is, as Alistair said, particularly concerning because of the low load factors that it would imply on some of that back-up gas and, therefore, there is a real question as to (a) would the price spikes actually be sufficient to bring on that back-up generation and (b) actually would the price spikes at the moment be able to happen in the current arrangements we have got, so they are the kinds of issues we are looking at in the next phase.

  Q28  Mr Weir: So the implied question there is: to what extent is it likely or possible that investors might be persuaded to invest in new power stations which will instantly be reserve back-up capacity and not substantially generational?

  Mr Marlee: Absolutely because, as you will know, traditionally it has been the case that people will buy a generator for base-load and then, as it grows older, it will become back-up, so yes, you are right, that is a key question.

  Q29  Mr Weir: Have you looked at the scenario of taking the six oil-fired power stations which presently produce a very small amount of input to the Grid and converting them to renewable or post-use oil supply, thereby overcoming the Large Combustion Plant Directive considerations?

  Mr Marlee: The issue with the oil plants and with the coal plants under the LCPD is that obviously the time for derogations has passed and, clearly, people have made investment decisions now on the basis of those provisions, so at the moment we do not envisage changes to those. Clearly, if there is some kind of way in which they could become renewable and somehow slip through that net, then that would be something that we would be interested to hear about. We certainly have not seen that as being an option and certainly that is not reflected in our scenarios, given the legislation that is there.

  Q30  Dr Whitehead: Your scenarios obviously also, as has been mentioned. take into account the succession of the Industrial Emissions Directive following the LCPD, which then gives options for residual generation of some power plants thereafter, either of transitional national plan or limited lifetime opt-out, by TNP or LLO, since we are about to descend into acronyms I think. How important de facto in terms of your scenarios would be the portion of plants that would decide to opt for working under one or other of those arrangements?

  Mr Marlee: We have concentrated at the moment on the period 2015-16 in terms of the study that we have done, but clearly we have made different assumptions on IED coming in. I cannot give you the exact details now but we have allocated between those that go to TNP and those that go to LLO. Effectively, the TNP means that up until 2020 you have gradually to lower your emissions of SOx and NOx, sulphur and nitrous pollutants. You lower those up until 2020 and then thereafter in effect you can run at very low levels, I think it is 1,500 hours per year. On the lifetime opt-out effectively you have 20,000 hours and then you close in 2023. There are differences and the scenarios do assume different choices between those things, and, yes, that will affect the results you get. As I say, at the moment we have been concentrating on the supply issues for 2015-16 as opposed to beyond. To be honest, I think there is a whole new range of issues that will potentially come beyond the 2015-16 issues with regard to the 2020-23 issues, at which we have not looked at the moment in this project because we have been trying to focus on the middle of the next decade.

  Mr Buchanan: Could I perhaps just give you a window into one of our major players' views on the IED and the assumptions that we have made? I will just read it out to you. We find the assumption of 19 units fitting selective catalytic reduction technology to be very unlikely to occur in reality, given the current marginal economics of doing so. In other words, if we are assuming conversion and therefore we continue to have the plant but converted plant, one of our major players is saying that you have to go and look at the marginal economics again because, frankly, we might just close it down. So we will need to have a look at that.

  Mr Marlee: I think it is also worth saying, and I think this is sometimes not really considered in the context of the debate, that actually the decisions we make on CCS and the extent to which you have retrofitting, the extent to which you are going to have specific performance requirements, will also affect your decision under IED, and that is an interaction that very carefully needs to be looked at I think in terms of what comes out of the IED.

  Q31  Dr Turner: You have discussed a lot the difficulties that market operations place on carbon-based electricity supplies. That is bad enough but of course market considerations also fundamentally affect renewable supplies. The first thing I would like to ask you is whether you think that the current electricity trading arrangements are fit for purpose and whether they need fundamental reform for the future. Certainly in the distant past they were very unfavourable to renewables and they are still not particularly favourable to renewables.

  Mr Buchanan: I think the question is: do the current trading arrangements work, are they suitable for renewables? At the beginning of this session I outlined that we would be coming out with I think a report that will interest you greatly, which is called our Liquidity Report, which is looking at the short-term market arrangements, whether they are working, whether we can understand the constraints on the system, whether there is enough liquidity. When we came out with our consultation document a few months back, again rather like Project Discovery, we put on the table a range of options, depending on the outcomes—I will let Andrew take you through them in more detail—that went from minor changes to current arrangements through to major structural reform.

  Mr Wright: We published a report a few months back which was a discussion document, so it did not really come out with a particular point of view in terms of what we should do. That is going to be delivered after Christmas. The picture that it gave on liquidity, and particularly on electricity, was not a very attractive one. We concluded that electricity market liquidity in the UK was low and that is low compared to the past; it is low compared to other comparable markets in the UK, such as the gas market, and also low compared to other electricity markets in other countries, such as Germany. We could see that that was potentially having some harmful effects and making it difficult for new entrants to come into the market, potentially leading to a larger spread between buy and sell prices in the market, and also potentially making it more difficult for participants to trade. We put forward a range of options, ranging from the very basic ones, such as supporting current initiatives to try and improve liquidity which was in the market to the more radical structural ones. It seems clear that the level of vertical integration in the industry has some impact on that. We will be coming out in January about our views about what should be done. Clearly, this has quite close links with Discovery, so I think we will be looking at which aspects of this ought to be rolled into the Discovery project and which aspects can be taken forward in their own right. In the consultation responses to that certainly we are still getting strong indications that small suppliers find it very difficult to get access to competitive wholesale energy. In terms of renewables and the suitability of the current arrangements, once again as a part of Project Discovery we are looking at the issue of how the current trading arrangements react to a very high level of intermittent generating plant that you will have if you have 30 per cent plus of wind on the system. Once again, it comes back to whether or not the price signals are right, whether they are sharp enough both to reward the back-up generation and indeed reward the wind generators appropriately as well. This is something that we are looking at. It is an issue that really comes to the fore towards the back end of the next decade but it is certainly something we ought to be looking at carefully as a part of Project Discovery.

  Q32  Dr Turner: When BETTA was established, you as an organisation were very clear that you favoured location transmission charges, which of course is a bit unfortunate for renewables because they tend to be located at some distance from the notional centre of the system. Therefore, you are adding a potential extra disincentive to investment. Are you still of the view that location charges are the right way to do it?

  Mr Buchanan: Currently we are of that view. Of course it is what we are doing for gas as well. Whilst wind farms for example in Scotland carry the higher charge, a higher TUoS (Transmission Use of System) charge, gas works in the opposite direction. Locational charge is what we are working with currently. We had a notable case called 148 where one of the green energy related companies sought to ensure that they had priority access into the system, almost as a way to get round this charge. We took QC's advice on that because they argued that that was a requirement of the Renewable Directive in Europe. The QC's advice was that they did not have a case at that time. We are willing to look at this on a case-by-case basis but at the moment the locational transmission charge is about 25 per cent of countries in Europe that use this route. That is what we are using at the moment. We spent a good deal of time talking about this when I last came in. I am happy to go back over that. We understand the concerns relating to that.

  Q33  Dr Turner: Given our geography, perhaps it is not quite right to compare ourselves with other countries in Europe, which can operate on a much more central basis. Our geography and our location of energy supplies is somewhat different to other countries in Europe. Is it appropriate to draw the comparison with other European countries to justify locational transmission charges?

  Mr Buchanan: That is a good question. I believe, and I want to check it, that Sweden and Norway use our approach and of course they have, particularly in the case of Sweden, a high degree of their renewable power in the north of the country, which they drag to the south. There are other countries with a similar dynamic to us who have gone down this route of pricing.

  Paddy Tipping: You have just used the phrase "case-by-case".

  Q34  Sir Robert Smith: I am slightly intrigued as a market regulator how that sends signals to the market that you will do things on a case-by-case basis.

  Mr Buchanan: I must make myself clear. Thank you, Mr Tipping. The case-by-case basis means that each modification, each change to the rules, that comes to us we will treat on its merits; we will get legal advice as to what we can do. There is a big change that is opening up, which we are excited by and pleased by, that we have not been able to initiate any changes under the current rules. The current rules were set in place in the late 1990s when everybody believed that markets would work, that you would not need a regulator—you may think this still—that everything would work fine and you would have locational charging. Wind farms were not in people's imagination at that time at all. From next year we are going to be able to initiate change, and I am sure that we will have to address this issue because we have a sustainability duty as of last February. I think this is going to be quite an interesting thing for us to look at very carefully. If I can leave you with some confidence, the Board did examine that Case 148 very carefully with regard to our sustainability duty. That is why we went out for QC's advice on whether we could go with it or not.

  Q35  John Robertson: This may be going off at a tangent slightly. You mentioned costs and you linked renewables and gas a minute ago in costs. When it is transferred down to the ordinary person, where is the security of supply to the poor who cannot afford to pay for the increased prices? Where does cost come in then?

  Mr Buchanan: This is an absolutely key issue with regard to whether you allow the market model to carry on because the market model may carry with it some very peaky prices, some high prices, and it may be that you say that that is what comes of the market model. This is why to a certain extent the Government and Parliament are going to have to look at this to decide how we are going to balance these issues. How does affordability come into the debate on security of supply and attaining our carbon targets? I think you raise an absolutely fundamental question.

  Q36  John Robertson: Are you saying that you are playing Pontius Pilot here—it is not my decision; it is somebody else's—and you are just passing the buck to somebody else? Should you not take some kind of initiative in this?

  Mr Buchanan: I think what we would be planning to do is to give a range of recommendations and our advice. It really is the Government's decision I think in this instance and it would be inappropriate for a statutory body like ours to come out with a very strident view. What we have to do is give a range of propositions.

  Q37  John Robertson: You would give advice?

  Mr Buchanan: Yes; it is incumbent on us under statute to do that. I am very glad you raised the point because affordability in this debate can struggle to get a voice and we have to make sure that it is there. I completely agree with you.

  Q38  Charles Hendry: You talked about the need for back-up capacity to take account of the inherent fluctuations which we get from different types of renewables. The other alternative would be to have pumped storage, battery technology, hydrogen, hot water, ways of transferring it from when the power is available actually to having it available when the need is there. Have you looked at the extra costs which are involved in doing that and how do you balance that up in terms of security of supply which it creates?

  Mr Buchanan: That is a very good question.

  Mr Marlee: We have not looked at the specific costs. We are very interested in the electricity storage issue. At the moment, it is certainly the case that we have not seen storage that looks commercially viable on a large scale, although, having said that, clearly there have been recent announcements about pumped storage. Certainly none of the more technological, innovative new approaches have yet been seen to be commercially viable on a large scale. These may play big roles alongside demand-side response and flexibility of back-up in the future.

  Q39  Charles Hendry: In looking at the commercial viability, do you also look at the fact that there has not had to be investment in a hydrocarbon-based back-up and so there are many hundreds of millions of feet of plant which would be saved and that could therefore be seen as offsetting some of the costs elsewhere?

  Mr Marlee: Absolutely, and that would be part of the whole issue. We know that Grid is doing work in this area as well. Grid is looking at the potential for electricity storage to be a player in that kind of context in 2020 and beyond. At the moment, I think more work is needed to demonstrate the commercial viability of such options, but to be honest we are neutral in that respect to the different ways in which you might be able to meet the needs of that back-up generation or the flexibility of consumption that we were talking about before. As I say, we think that electricity storage may have a role to play in that.

  Q40  Charles Hendry: Can I ask as well about the funding mechanisms. The ROC system is one of the most generous systems in Europe. I think only Belgium and Italy which have a more generous system, but it has delivered far less investment in the United Kingdom. Is that because of structural problems—issues like planning and the regulatory system—or is it more to do with the funding mechanism itself, that the feed-in tariff is a more simple mechanism, although perhaps less generous? Have you come to a conclusion on that?

  Mr Buchanan: From listening to the companies, I think they would argue that it is planning that has been the main drag. We talked to the Scottish Executive. When Scotland put their planning changes through, they have opened up the potential for wind farm development in Scotland in the last 18 months, so it may well be that it has been planning. There is no doubt in my mind that there has been a substantial hiccup caused by the credit crisis with regard to the development of new fields, but I am hoping that is going to get back on track. There was, without doubt, a hesitation in the marketplace.

  Q41  Charles Hendry: But you do not think that a switch to a feed-in tariff based system would provide greater simplicity?

  Mr Buchanan: Ofgem has been public in its position on ROC. We think that potentially there are mechanisms but we have got ROC; we administer it; and that is what we have at the moment, so that is what we will deal with. Of course the feed-in tariff is being introduced, which is baby ROCs, for you and me, from April next year, so you are going to get both going forward. The question is whether you actually just focus on feed-in tariff and move away from ROC, and that is a big political policy decision.

  Q42  Dr Turner: Your scenarios include not only the green scenario but also scenarios where we completely fail to meet our renewables and emissions targets, which would be something of a disaster. Why do you think those scenarios might come to pass? Do you think it is because we still do not have the right policy instruments to encourage renewable energy development in deployment in Britain? Charles Hendry has just referred to the debate on ROCs versus feed-in tariffs. Feed-in tariffs are not the only element of Germany's success in deploying renewable energy for instance; a lot of other measures go into their Renewable Energy Act which we do not have. Could you give us your view on that? What more might we do to promote renewable energy?

  Mr Marlee: Let me come to your first question which is: why do we have these in here? As a reminder, these are global scenarios; they are not domestic scenarios, if you like.

  Q43  Dr Turner: But they do apply to us domestically.

  Mr Marlee: Absolutely, but the non-green scenarios are in a context where there is not agreement on climate change and really security of supply issues have prevailed globally over those kinds of issues. Why have we included those? We went out at the beginning of this project and talked to a number of stakeholders about their views on security of supply going forward, including very importantly, as I said before, the companies and the investors and how they are viewing the world. The scenarios that we put together actually reflected the views that were coming back to us about the fact that there are uncertainties out there on a global scale as to the extent to which the environmental targets will be made and then will be kept to. We felt it was very important actually to look at a full range of possible futures, and again none of these are forecasts, which included the possible future that you do not get this international commitment to climate change. In doing so, we certainly were not making a comment on the UK's commitment to the climate change challenge. In that sense, our green scenarios then said: In effect, what would you be looking at in a world where there was this international commitment to climate change and what would you be doing in terms of promoting those kinds of renewables on the system? To that extent, the scenarios are not really designed in that sense, to answer your question. Certainly for us the next stage of work we are doing is looking at the extent to which, if you like, there are blocks to the system that would stop you from moving towards those kinds of areas. I think that is something that we will be looking at in terms of the next stage of the project.

  Q44  Dr Turner: But you have not considered that at this stage.

  Mr Buchanan: May I add that we are looking at three substantial schemes that the Government has put in place, as you are aware: the feed-in tariff April 2010; the heat incentive April 2011; and then the carbon capture levy will kick in and from what I can see the estimate will be about 3 per cent of your bill—well over £30. One of the things that interests me with regard to what is going forward is on the demand side and the energy efficiency side. What is going to come after CERT in 2013? What is the package then? It would be nice to have some clarity as to whether the focus that has been on energy efficiency and demand-side reduction up until that point—and it will be about £1 billion a year by then—is just stopped. I think that is a really big issue.

  Q45  Dr Turner: You have a sustainability responsibility now. Where does it fit in your minds in the hierarchy with which you address problems? Do you consider it a primary duty or is it something that you do when you have satisfied yourself on market competitiveness and security of supply? If you think it is more important, how do you intend to address that responsibility?

  Mr Buchanan: The Board takes this very seriously. Two examples I can give from recent decisions perhaps illustrate that. A couple of weeks ago the Board authorised a £900 million spend on the transmission network, which is the first tranche of the £4.6 billion spend, which will include the coastal route development: it is broadly Scotland to England and it is a huge investment. They wanted to send a message with regard to this investment. Effectively that investment is at 6.25 per cent return. Last week, Water announced that they were offering a 5.1 per cent return. We wanted to make a statement that clearly defined projects associated with sustainability and renewables would get an element of kick-start. In a way, judge us by what we say. Early next Monday morning, we will be making a statement about the local electricity companies' five-year price controls and what they can invest. Again, I think you will find that there is a very strong sustainability message in the announcement that we can make.

  Q46  Dr Turner: How great a problem is going to be protecting consumers from high prices associated with extra renewables if there is an increase in the carbon price? Would an increase in the carbon price resolve that problem?

  Mr Buchanan: The increase in the carbon price will find its way into the electricity price, which comes back to the affordability concern. One of the things that we have to do in our job is to make sure that where we have direct responsibility or oversight, we can ensure that the monies that are being spent with regard to renewables and sustainability are spent in the most competitive and value-for-money way that we can ensure. If I can use an example at the moment where I think this is coming through very well, that is in the offshore regime. Next Friday we will be announcing the winners at this stage through round one, and it is a very encouraging story. Here we have a hybrid of market and regulation and so we have competition to build the cables. The good news, and I will explain this more next week, is that it has been active competition but in competing to get the right for a 20-year regulated return, they have shown us their hand very clearly as to what rate of return they need for that kind of regulated utility. I will not say any more other than to say it is very competitive and it is very exciting because it shows to me where you can take a competitive instinct and associate it with a regulated return. We have both working very well together. Therefore, in that instance we can say that a substantial amount of money, this is £1.5 billion, is going to feed its way through to the consumer's bill—the cable costs out to the wind farm—but we have done it in a way whereby we can turn round to the consumer and say, "Yes, it is a cost to the sustainability because the wind farm is getting at two times ROC, but our oversight to that is to ensure that there has been value for money".

  Paddy Tipping: We will consider in a minute the issue of investment in capital markets that we talked about earlier on.

  Q47  Sir Robert Smith: You mentioned demand management in 2013. Presumably by 2013 we will only have scratched the surface of what we need to do to our housing stock in terms of making it highly energy efficient? In a sense, to deliver beyond 2013 it is not too soon to start having in place some schemes so we do not have this stop-start system of momentum?

  Mr Buchanan: I think the greater clarity that one can give the better. Going back to my concern about the EU ETS mechanism, the whole of Europe was meant to move to a fully auctioned mechanism in 2013. Great, we have clarity; we know where the market is going to go. Then most of eastern Europe decided not to do it and they said, "We will be there in 2020". Wow! Just a change like that is dramatic to the confidence in the market. I do agree with you that the sooner that one can know how these instruments are going to work going forward, the better, but I do think that is an issue of public policy and not regulatory policy.

  Q48  Mr Weir: I declare an interest. Like Sir Robert, I visited the Total plant in France. Under your four scenarios, under the green scenarios there is approximately double the investments required under the other two scenarios, but the consumer gas and electricity bills are not significantly higher, and for many years are predicted to be lower. That seems to be counterintuitive. Can you explain how that comes about?

  Mr Marlee: The prices are dependent on a number of factors. One of them is the level of investment that is required under each scenario, but clearly also energy efficiency will have a role in terms of prices to the extent that if there is greater efficiency, then that means that people are consuming less and therefore that will affect bills. Similarly, commodity prices will play a big role, so there are different assumptions of commodity prices under the different scenarios. Linked to that there is then the question of the marginal cost of generation. Clearly in the green scenarios the marginal cost of generation is often lower because you have lots of wind or nuclear on the system. Those four things are really interacting, which is what leads you to the difference in prices. If I give you a feel for that, in the current electricity price it is about £197 for wholesale electricity cost per customer; in green stimulus it is £176; whereas in dash for energy it is £236. Clearly, whilst you have more investment that is being recovered under the green scenarios, actually you have commodity prices that are then taking the prices in a different direction.

  Q49  Mr Weir: Do you think the customers understand the need for investment in the role of wholesale prices? It is interesting that several times you have mentioned the impact on consumer bills of these schemes. I notice that Centrica for example are now noting on their bills the percentage of the bill that is due to these green initiatives. How do you see consumers reacting to that? Do they understand the need for it?

  Mr Buchanan: I think this is a very important issue and in January we are going to do a bit of a show, if anybody wants to come along, on the new company E-Serve. We have already explained when we launch E-Serve but it is going to become a very important issue in terms of communication with consumers that the 9 per cent of their bill that was 0 per cent 10 years ago but it is 9 per cent now that is associated with green-related projects will be well over 20 per cent by 2020. We need to explain that so that people understand that we are really looking at quite a dramatic change in the bill. Where the majority was wholesale cost, the next was network cost and then you had a very small subsidy. What it is going to be is: wholesale cost; subsidy; and network charge. That network charge is going to be 15 per cent of your bill; subsidy by 2025 30 per cent of your bill; and the rest will be wholesale. It is a huge chunk of your bill that is being driven by CERT, CESP, levies, ROC, FIT—the acronyms just go on and on. I need to send you a glossary for that. It is the commonest of impacts. I really welcome your question because it is absolutely incumbent on us to represent clearly to consumers that with E-Serve we are just a delivery agent; we run these things for the Government, but we need to tell the consumers what it is costing them so that they fully understand what the cost is to make Britain a nicer place to live in for our children and our grandchildren.

  Q50  Mr Weir: Given that Centrica have already started this, is there a case for insisting that all the companies set this out clearly so that consumers know what they are paying for?

  Mr Buchanan: I think we need to take that away and have a look at it quite carefully.

  Q51  Mr Weir: The Government's new Energy Bill that is coming before us includes obviously the levy for CCS but also new mandatory schemes to tackle fuel poverty. Some have raised a question with the interaction between the fuel poverty schemes and those who are not on these schemes and their ever increasing bills. Do you see that as a problem for getting that over to consumers in the near future?

  Mr Buchanan: I do believe, and this comes back to Mr Robertson's question, that when you take the two wholesale reports, our retail report and you add the concern on affordability, there are some big decisions to be made as to how you are going to align affordability with security of supply and with carbon. You are right; there are some schemes that do a lot of good, like Warm Front, and I think one-third of Warm Front's focus does not go to the right people. It is easy to be critical because two-thirds does. Maybe we could get the tailoring of these projects better but that is a project answer. I think the bigger picture is very much a political policy decision that has to be taken as to where affordability is going to sit there.

  Q52  Paddy Tipping: You have moved on really to where we want to be, which is to talk about domestic bills.

  Mr Buchanan: And we managed that very carefully!

  Q53  Paddy Tipping: As a regulator you can fix anything and clearly that is the case. We have half an hour at the most to talk about bills now. Alistair, you have told us about the add-ons to the bill. I get a lot of customers who basically say that the wicked energy companies are making a lot of money, the wholesale price of gas is going down and that is not reflected in our bills. As a result of that and your visit to Number 11 and elsewhere, you are now doing a quarterly report about the bills. Let me just check out these figures with you. You say that the annual gross margins were £170 per dual fuel customer; £80 per electricity customer; and £110 per gas customer. What people want to know is what the profit element in that is. What are the Big Six taking away from that? Can you help us?

  Mr Buchanan: We will. We are going to put net margin and value chain figures into the next report that will be published in the next two weeks. It is a point that this committee made to us when we met in private a few weeks ago and we have taken that point and we will show that. I think that is important.

  Mr Wright: One other initiative is that as part of the probe we have put a license condition on other companies to require them to publish financial reports, which will separate out their supply margins and profits from their generation margins and profits. During 2010 we should start to get the companies providing their own information, which I think will aid transparency. I can probably give you some help on the net margin front now. In the probe we did look at the operating costs of the companies. Roughly speaking, an operating cost was £110 per dual fuel customer. If you set that against the £170, then that suggests there will be a net margin of £60. It should be remembered that since the probe we have gone into a recession; demand has fallen; bad debt costs have increased and cash management costs. Our expectation would be that that £110, even with efficiency improvements, may well be higher; and the £60 equates roughly to a 5 per cent net margin. We have fallen short of arguing whether or not that is too high or too low. Another thing that is worth observing is that the average gross margin over the last three years has been £110, which suggests that the companies have made a net margin close to nothing over that period. I am not feeling too sorry for them because that is a period of relatively high generation profits when the companies are making a lot of money because of high oil and gas prices in their generation profits, but, nonetheless, I think it does put that gross margin figure into some sort of context and hopefully that is helpful for you.

  Mr Buchanan: I think this is why the alignment of the liquidity, the discovery and the retail reports are really very important. We have to see the interaction there and whether we feel there is a structural inadequacy here that is impeding the market and the market price.

  Q54  Paddy Tipping: How willing are the companies to talk to you about this? Presumably they are saying: "This is commercial information and really we do not want to unpick our accounts in public". What kind of response are you getting from them?

  Mr Buchanan: Obviously under the probe we use the powers of the Enterprise Act, so they have to give that to us whether they like it or not. They have to give everything to us as well. We have all their information and we now believe that our in-house model is a very good representation of the aggregate of them. Clearly they will be running their own strategies as they should in a competitive market, but it has given us a much better handle on where the companies are. We have a dialogue with the companies. As you know, I have been particularly disappointed with the paucity of their communication with their customers. I think generally it has been staggeringly bad in the last couple of years. I would have to give credit to two companies, which I do not often do in public. I do believe Scottish and Southern and British Gas have seriously picked up their game in the last three months, and full credit to them for the various things that they are doing with their consumer group. I think we are seeing some encouragement there.

  Q55  Paddy Tipping: It is interesting that those are both British-owned companies?

  Mr Buchanan: It is interesting.

  Q56  Paddy Tipping: Is there a message there to wider European stakeholders?

  Mr Buchanan: No. I just think it is interesting.

  Q57  Paddy Tipping: I am a very practical person. I know the winter is coming. It was cold last night. I am going to get a lot of correspondence soon from constituents who will say that bill are too high. Where are prices going to go this winter and over the next 12 months?

  Mr Buchanan: We are watching them very carefully. When the Secretary of State came to see you a few weeks ago he quoted the six-month figure. We make the point in our quarterly report which we put out at the end of September that if wholesale prices stayed low, then one would anticipate, certainly on the gas side, some form of reduction and if not—and this is where the communication is so important—you should go and communicate with your customers as to why the price is not coming down. It is transparency of information; if you have transparency of information, what you are starting to do is to say "we do not want market instruments". We are in a very important period for the companies. As I say, two of them appear to be responding to that well and seeking to build a relationship with their customers to explain the issues that Andrew and myself have been talking about.

  Paddy Tipping: You will know that there is pressure within Parliament for a Competition inquiry.

  Q58  Mr Weir: Taking that forward, the first question is: what is your position on the case for a Competition Commission referral?

  Mr Buchanan: Our position on the Competition Commission is that it is there to be used. It is something that we should feel comfortable with. We have sent a couple of cases to the CC in the last three years. It may well be that the price control that I announce next Monday will have some of the companies going to the Competition Commission, and that is great because we get value from the Competition Commission and their rulings. What my board is basically looking at at the moment—and to give you confidence, we review it as you would expect very carefully every month but particularly at the moment in the light of the September quarterly report—is how well the probe is being rolled out because the probe is effectively going through in stages. The rules and regulations were put into place on 1 September, so we have new regulations on undue price discrimination and cost reflectivity. I am sure somebody will want to pick up the PPM issue and we will give you a clear answer on that because if there were an issue on prepayment meters being discriminated, this is exactly the licence condition on which we can go after the companies. I am very pleased to have that in place. The probe package is rolling out in stages, so the new doorstep selling will be out on 15 January; the new rules for small businesses will be out on 18 January. We are in the phase of roll-out. The first thing the Board is saying is: Is the probe being rolled out; are the companies putting their elbow into this? The second, obviously with regard to the law, is: do we have reasonable suspicion to send these companies because they are effectively blocking competition? If you look back over the last few months, the competitive elements that you might want to look at are: communication with customers, switching and customer gains—Scottish and Southern announced another £100,000 gain in the last six months. There is still a lot of competition for customers and customers are clearly choosing at the moment. One of the big findings from the probe, and it is easy to forget it because quite rightly we focused on the negative in the probe, was that customers liked the right to switch and actually found switching quite easy. The problem with the probe was that they were being misdirected to take the wrong deal, and this is why we need the new doorstep and direct sales rules in place on 15 January and small commercial customers felt very badly chewed out by the companies. It is really a package. I want to leave you with the view that we are watching this very carefully. Behind this is a question that quite rightly my board are raising which is: are there structural issues here—and the Liquidity Report might be quite vital in this—that are stopping new entrants coming in, that are stopping an even greater level of competition? Why is not Tesco's coming into the market? We do have small players coming into the market; companies like First Utility appear to be thriving in the marketplace at the moment, which is good news. In terms of asking if there is a structural problem there, that is the kind of thing that we are very much going to address with liquidity and discovery reports on the table in January.

  Q59  Mr Weir: You clearly feel that the probe is making progress in the areas of concern, yet, despite that, since the probe was put into place, there seems to be even greater pressure for a referral to the Competition Commission. Why do you think that is? Is it just because prices are going up and people feel instinctively that there is something wrong?

  Mr Buchanan: That could well be the case. Part of the problem is that in getting everything into place, getting the new rules and everything changed, there is an element of time lag. The old saying is that the proof of the cake is in the eating. We will not be able to judge the quality of the cake until spring next year and that is part of the issue, but I do not want in any way to leave you with the view that we are going to sit back and wait to see how the probe goes. If Andrew and Ian's data and analysis says to the board that something is seriously wrong here, then my board will have no problem in saying "Let us lob it out to the CC".

  Q60  Mr Weir: When the Secretary of State was here, he was asked about this. His point was that if it is a referral to the Competition Commission that effectively kicks it into the long grass, it will be a couple of years probably until it goes through. What is your view on the length of time a referral would take? Would that impact on other things you are doing through the probe perhaps to deal with some of these problems? Would it freeze issues, for example?

  Mr Buchanan: May I be quite clear with regard to how I think the board views this. It may well be that the Secretary of State has a good case. Certainly, if he were to send it, for example, rather than us, there are four hurdles over which he has to go before he can even send it. Let us say he said, "I want to send it tomorrow", he probably will not be able to get it to the CC until the middle of next year. If it is a narrow CC, the general view that I have heard is 12 to 24 months. It is worth, though, questioning whether when you are looking at the retail market, it is possible not to go upstream, to have a look at the wholesale market. As soon as you have made that move, then possibly you are looking at a greater length of time. The LPG review took four or five years. Given what we have been discussing with regard to security of supply, those are interesting timescales, but my board would make their judgment on the reasonable suspicion issue; it is secondary and could not be the primary driver to go or not to go to a CC. I think the Secretary of State has some interesting issues as why he might not want to go down that route.

  Q61  Mr Weir: You mentioned earlier that some of the big European companies were rumoured to be looking to sell off some of their UK arms. If that were to happen, would you be looking for new entrants into the market rather than consolidation by some of the other Big Six companies that currently operate?

  Mr Buchanan: Currently, it is on the network side that we are alive to sales. We would operate under the normal rules there, which are that we retain the right to ask for this to go to a Competition Commission if we feel uncomfortable and any purchaser will have to weigh up that consideration. We have seven groups controlling 14 companies. Competition and comparative regulation were very important particularly during the first ten years of regulation in the 1990s because you are basically squeezing the costs and really hitting the under-performers. As you know, we are going to announce in January our roadmap for a completely different approach to network regulation going forward. That is partly because we have been through that process. A purchaser has to weigh up in their bid and make a judgment on whether the board at Ofgem feels that below a certain number or if a company owns simply too many network companies—but they are all monopolies, we regulate all of them—we are going to ask for it to go to a CC.

  Paddy Tipping: We talked about communication with customers. One of the ways is through their bills.

  Q62  Judy Mallaber: First, may I take up the point of the new rules banning differential prices by payment type? How confident are you that that is going to have the desired effect and how on earth are you going to stop companies just artificially inflating their bills and saying, "Actually the cost of prepayment meters to us is higher than previously said and we get more through people paying by standard bills or direct debit". How are you going to stop that happening? Do you think that the ban will have the effect that you want?

  Mr Wright: Yes, we think that the new rules that we have on payment differentials have already had a substantial effect. I think most of the companies saw the writing on the wall during the probe investigation, so we saw a substantial narrowing of the differentials during the investigation. When we delivered the report, I think partly under pressure from us and under pressure from the Secretary of State, we saw companies make further moves. We think there have been very substantial benefits. At the time we valued that at £500 million. Obviously at some point we will go back and audit that after the event and see whether that is the case. On an ongoing basis, we continue to monitor the level of differentials. Obviously it is more difficult to monitor what is happening to the companies' cost differences because that requires us to ask for information from the companies. We cannot do that on a continual basis. Some time over the next 12 to 18 months, we will be going back and asking for more information, but we do have the information from the probe, which gives us a good benchmark against which we can assess whether or not something is untoward in the tariff structures that we can see in the public domain.

  Q63  Judy Mallaber: You say that you cannot do it on a continuing basis. Why not? Why once a year can you not say, "Give us this information so that we can check out that you have not suddenly slid in the way you have allocated costs"?

  Mr Wright: We may well do it once a year. We have only just put these licence changes in place on the retail remedy side, as I have said, and we are putting in place now, the team having delivered that, the monitoring and enforcement infrastructure necessary to make sure these have the desired effect. We may well ask for that sort of information on an annual basis. The information that we have is 2008 information, so it is not that far out of date. I think where we do have some concerns about the currency of that information is on the standard credit side where we know that bad debt costs and credit costs will have changed significantly as a result of the financial crisis. I think that is one area where it may be worthwhile trying to get more information more quickly. On other prepayment side, we would hope that companies become more efficient in managing prepayment services over time and hopefully by shining a light on the level of those costs and the differentials, we can perhaps encourage them to be so.

  Q64  Judy Mallaber: Moving on to social tariffs, what proportion of customers' bills are used to fund social tariffs?

  Mr Wright: The figure is just north of £200 million by year three of the voluntary arrangements. That is my understanding. I do not have the precise figure. Maybe one of my colleagues can get that. That is set against total industry revenues for electricity and gas from the domestic sector of probably approaching £20 billion. You are probably looking at around 1 per cent.

  Q65  Judy Mallaber: Did you give us the figure earlier of the proportion that is used to cost environmental improvements?

  Mr Wright: I think the figure is 9 per cent.

  Q66  Judy Mallaber: So it is 1 per cent on social tariffs and 9 per cent on environmental provisions?

  Mr Wright: Roughly speaking, yes; there is the scale for the voluntary agreements.

  Q67  Judy Mallaber: On bills, Alistair, you were a bit damning earlier about how opaque the bills still are but I thought that was your responsibility. Have you not imposed a new licence condition that bills must be clear and easy to understand? Is it then your responsibility to go back and make sure that they are? This report is still very damning.

  Mr Buchanan: We have done so and next year you are going to get annual statements showing you what tariff you are on and how much you use annually. That is all part of the probe package. This again comes back to needing to get the cake out there and cooked and then see how well it is operating.

  Q68  Judy Mallaber: There have been fairly damning reports from both Which? and The Plain English Campaign. What about this phrase in the Which? Report that "the regulator's efforts to address confusing tariffs are weak and impossible to enforce, leaving consumers struggling to find and keep a good deal". Would you care to comment?

  Mr Buchanan: The Secretary of State gave a very good answer on tariffs which is that to a certain extent the consumer, from a lot of the data we had and the data in the probe, likes to shop and can shop. What we have to do is make sure that the information is clear, that the consumer is not misled on the doorstep. I think this comes back to your point about the bill because four million people are choosing to go for a fixed option; about one and a half to two million people are choosing to buy on the internet. It is clear that customers are looking at the range of tariffs and are picking out tariffs that are suitable to them.

  Q69  Judy Mallaber: You say "customers". Obviously some people find that easier to understand than others. Are you saying that Which?'s criticisms are not right? They say that it is still very confusing and that is the evidence of their findings.

  Mr Buchanan: I agree with you that there is a degree of confusion and consumer focus has a role to play here. With Citizen's Advice Bureau, we are running again this year, after a very successful launch year, Energy—Best Deal where we work with the Citizen's Advice Bureau folk and tell them about tariffs and how to speak about the tariffs on the phones. We are doing our bit to try and help get clarity for those who want more information about what they are looking at.

  Mr Wright: It is worth emphasising all the things that we have put in place to try to reduce the degree of confusion in the market and to improve the information that customers have from the information on the bills to the annual statement, which is above and beyond the original request, and with on the doorstep selling making sure that people are given good information and a fair comparison on the doorstep. We have introduced new standards of conduct. Although they are not in themselves enforceable, we do take them very seriously and have urged the companies to take them very seriously. These include one of the standards of conduct that tariffs should not be unnecessarily complicated. We will monitor a company's performance against this; we will highlight good practice; and also name and shame where we think companies are being gratuitously complex and confusing and that is not in the interests of customers. If we do not see progress against these standards, we are quite willing to take further action but we wanted to give the companies a chance to respond to these standards of conduct. That is partly, as Alistair said, because customers do value choice and we did not want to do anything which dampened down the ability for suppliers to create new products and which may well be things that customers like and want. We are trying to strike that balance. If we see no progress in this area, we will take action going forward. We are doing many other things to help consumers find their way through the maze of tariffs that exists at the moment.

  Q70  Judy Mallaber: Many of my constituents do not particularly think about choice. They find it all quite confusing. I found it confusing when I was suddenly approached in Sainsbury's by somebody wanting me to sign up to some new contract there, and I am meant to know about these things and understand them. I do not understand why it has taken so long to simplify bills and to get this information out. Why are you giving them until next July to simplify the bills? Why can they not do it now?

  Mr Wright: That is the length of time it takes to get the system changes in place to comply with the changes in licence conditions that we put there. Potentially I share your concern about the length of time it has taken. It is worth saying that to get these licence changes through, we do need to get the agreements of companies to those licence changes. If they are saying that they are going to reject the licence change because they cannot deliver it on time, we have to take that seriously. Our only alternative is to go to the Competition Commission on that licence change, and that could take a lot longer.

  Mr Buchanan: We welcome reports like those of Which? because they keep us under pressure. There are just two things that I want to pick out. First, if I am allow to plug them but Which? has, and you will see why I am doing so, is that Utility Warehouse EBICo are given full marks for their bills and having easy bills to understand. How encouraging it is that these are competitive offerings. Would that the other companies were at their standard, but I am very pleased that they picked them out. The second issue here, and because we were going to make an announcement I have been given permission by my sustainability senior partner to mention it today, is that I think Which? is touching on a very strong nerve when they talk about why companies have 65 days. We have just created a consumer panel of 100 people; we are going to ask them to have a look at this. Although the general probe package that Andrew has been talking about will get a full review in 2012, if we think this needs particular action sooner than that, then we will pursue that.

  Q71  Judy Mallaber: Why do you have to wait for a panel? Why can you not just tell them it is not acceptable? I do not know of anywhere else where somebody would take 65 days to tell me the price of something that I was buying was going up. You name another supplier of anything that I buy that would take 65 days to tell me?

  Mr Buchanan: It is good for us to talk directly with our consumer panel on this. That is what we are going to do. This is going to be their first project to look at.

  Q72  Dr Turner: We have had a lot of argument in this place over the years about your responsibilities and your remit, which has been subtly modified over the years. From much of your evidence this morning, it seems quite obvious that even if you had the will to do certain things, to regulate severely, you do not have the means. What further powers to you think Ofgem needs to be effective?

  Mr Buchanan: We very much welcome the powers that are in the current Energy Bill with regard to market abuse. We believe that is going to enable us to get to a breakdown if there are generators abusing their position. There are many more generators on the system from single wind farms through to the major players and, frankly, the Competition Act is a noble Act but it takes a very long time to bring a case and to move on. We started our case against National Grid, and supported by the Competition Appeals Tribunal now, in our view on their manipulation of the meter market way back in 2002-03; it is still under appeal in 2009. We are very pleased that the Government is going to give us this extra power because it means that we can get to a breakdown quickly. This committee has been very helpful in supporting that, and I appreciate that. In terms of the retail market and the previous questions which focused on how can we ensure that companies behave in the retail market, how can we ensure that they do not abuse discrimination and customer reflectivity, we have now put the licence condition in place, so we have taken a very major step back towards regulating and rule-making within the marketplace. As Andrew has indicated, we will have no problem hunting down companies under that licence condition if they breach it. If there are further areas where you think we should have additional powers, I would welcome the opportunity to discuss that.

  Q73  Dr Turner: Will you for instance then be able by direct regulation to enforce companies to stop taking as long as three months to inform their customers of a price rise? Will you have powers to deal directly with that sort of abuse?

  Mr Wright: Yes, we do. It is a licence condition already; we can make a change to that licence to say that they have to inform people more quickly or even in advance if we so choose. With any licence change, the companies have the ability to reject it. If they reject it, it is then referred to the Competition Commission and we will have to make our case to them that it is in the customers' interests.

  Q74  Dr Turner: So you do not at present have direct powers?

  Mr Wright: That is the way that it works. The companies have the right to appeal against any decision.

  Mr Buchanan: It is not immediately enforceable, as you rightly point out.

  Mr Wright: That is right. We need to get that licence condition in place.

  Q75  Dr Turner: Will the proposed changes in the Energy Act give you that power of enforcement?

  Mr Buchanan: In this specific area, no. There is one other important change that they are making. At the moment, and it is an absurdity, we have a one-year retrospective period that we can use if we want to assert a penalty on misbehaviour. The current Energy Bill is going to change that, which we welcome.

  Q76  Sir Robert Smith: Going back to the security of supply and the impact on consumers in the country, those of us who lived through the Seventies know that if there is not enough electricity generation about, then you have power cuts and phased power cuts, and when there is electricity, you switch the lights back on. What is the situation with gas? How much more dramatic is it if you start having a shortage of gas? Obviously there are the market implications of price spikes and expensive high energy users. You then have people coming off the system with the big energy users. My understanding is that with gas if there comes a critical point where you start to have to shut down networks, you get air lock problems. It is not just a question of when there is more gas about, you just turn it back on again. What sort of scale is that?

  Mr Wright: Hopefully, it would never happen. If you get to the point where you had to isolate large areas of the low pressure networks across the country, then that could have very profound implications. I think potentially it takes a number of months to restore the supply because you have to check gas safety on a premises-by-premises basis before you can reconnect. I think there was a case last Christmas in a village in Lancashire. That gives you an indication of the small scale with only a couple of hundred houses and what would happen if this happened on a large scale. There are two points. One is that if you have gas smart meters installed which have the ability, as with prepayment meters, for remote safe disconnection, then that could reduce the implications with that sort of incident, so there could be a benefit from smart metering there. The second point is that this is part of what we are considering in Project Discovery to make sure that when the consequences of a security of supply failure are very profound, that is properly reflected in the market mechanisms, either by somehow ensuring it cannot happen or by making sure that the price signals are so severe that nobody would ever want to go there. This is something of which we are aware and are concerned about.

  Paddy Tipping: Andrew, Ian and Alistair, thank you very much indeed. This has been a very wide-ranging discussion. First, we have a good understanding of the problems. Unfortunately, we are not at all clear as to all the solutions. Secondly, you have made a number of points on the differentiation between your work and the work of government which it is important to keep in mind. We look forward to phases two and three of Project Discovery. Thank you very much indeed.

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1   Note from the witness: "four per cent demand in a normal year". Back

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Prepared 8 April 2010