To be published as HC 1046 -ii

House of commons



Energy and Climate Change Committee

Ofgem’s Retail Market Review

Wednesday 22 June 2011

Alistair Buchanan and Andrew Wright

Charles Hendry MP and JonathAn Brearley

Evidence heard in Public Questions 72 - 211



This is a corrected transcript of evidence taken in public and reported to the House. The transcript has been placed on the internet on the authority of the Committee, and copies have been made available by the Vote Office for the use of Members and others.


The transcript is an approved formal record of these proceedings. It will be printed in due course.

Oral Evidence

Taken before the Energy and Climate Change Committee

on Wednesday 22 June 2011

Members present:

Mr Tim Yeo (Chair)

Dan Byles

Barry Gardiner

Dr Phillip Lee

Laura Sandys

Sir Robert Smith

John Robertson

Dr Alan Whitehead


Examination of Witnesses

Witnesses: Alistair Buchanan, Chief Executive, Ofgem, and Andrew Wright, Senior Partner Markets, Ofgem, gave evidence.

Q72 Chair: Welcome to the Committee. There is a lot of interest, as you know, in this inquiry and in the work that you are doing. We have a lot of ground that we are going to try and cover between now and 11 o’clock when we have the Minister coming in to talk about the same subject.

Could I start with one of the issues that your views have attracted a lot of attention on, and that is the suggestion you made, which I think is widely accepted by some members of this Committee, and indeed by consumers, that energy bills tend to rise more quickly in response to increased costs than they fall when costs are going down? Obviously the industry is disputing this suggestion. What do you think about the paper that Energy UK commissioned from NERA about that controversy?

Alistair Buchanan: Perhaps if I can come to the paper from the industry second. There have been a number of comments from the companies. The background to what is called the rockets and feathers-up like a rocket, down like a feather-argument is that consumers have been concerned about this and we have been on watch, as you know, through our quarterly pricing reports, the latest of which we published a day ahead of this meeting. We sensed last November that there may well be-and it would have been the first time-evidence of the companies using this rockets and feathers analogy. Our work using statistical and econometric work but also looking at third party evidence, suggested that the companies had gone too early last autumn and had effectively moved too soon. They could see pricing pressures ahead and had gone too soon. That was one of a number of concerns that we had that led to us coming out in March, which has been pretty much vindicated in the two months of consultation since then, that the companies have frankly been letting down their consumers and that ranges not only from this rockets and feathers analogy through to mis-selling, as you know.

Picking up some of the analysis, there has been some interesting analysis done in particular by British Gas Centrica and when my analysts and economists who work for Andrew have looked at their analysis, because quite often they will say, "We are quite a long way away from Ofgem," we found that we are using different consumption patterns and that we are using possibly different averaging techniques. Consequently, when you have put them on to the same basis they have not been so very different. Fundamentally the package that we announced in March was a wide-ranging package of the companies letting down their consumers. This was, in my view, another piece of evidence to bring that home.

Andrew, do you want to answer the specific question with regard to Energy UK?

Andrew Wright: Yes, what we said is there is evidence that prices went up more quickly during periods of rising wholesale prices than they came down in relation to falling wholesale prices. That is, if you like, a statistical statement and we have not had that challenged. Energy UK put their analysis out and they talk more about our interpretation of that rather than the analysis itself. I think we still stand by that statement. What we said ourselves in our retail market review is there is a number of ways you could interpret it. But our view is when you put it together with all the various bits of evidence that we saw elsewhere about features of the market, the mis-selling, the confusion, then it gave an overall picture of a market not working as well as we would like and this evidence was consistent with that. So we stand by that and I do not think we saw anything in the Energy UK/NERA analysis that we felt challenged our central conclusion.

Q73 Chair: We will come on to some of the specifics you have mentioned like mis-selling a little later on, which is obviously also of great importance to us. Can I just ask you about the most recent announcement from ScottishPower that they are going to have another quite hefty price increase in August? Do you think that their suggestion that rising wholesale prices and environmental and social costs justify the increases that they are proposing?

Alistair Buchanan: It is not for a regulator, indeed it is not in my statutory remit, to set their prices or justify their prices. The management of ScottishPower will have to look at a range of commercial information from their trading positions through to their appetite for profit, through to their appetite for keeping consumers and come to a judgment. I would have to say that there was a very important moment, I think, on 8 June when they announced that 19% increase in gas prices, this has taken a lot of consumers by surprise and has been one of the most talked about issues that I have come across in my seven years at Ofgem. It was disappointing on the Today programme-which you yourself, Chair, went on to-that at the end of the Justin Webb extended piece on that programme they had to say, "We invited the company and the association on but they are not here today".

This is exactly the kind of thing that erodes trust from consumers. If you look at the forward wholesale price, it is up 30% between now and winter. Why? For a range of global reasons that we can go into, but if there is a good reason, get on and explain it to your consumer, do not just leave them hanging out there. The companies have to explain the prices, and we analyse whether the consumer is getting the appropriate information, which is why we have triggered an Enterprise Act review under our consumer protection powers today, because we think there is a potential for mis-selling and misreporting in their tariff package. We also have two licence conditions, one of which is on cost reflectivity, and ScottishPower is being investigated under that. We announced that in March, and their current price increase that will come through on 1 August will now be included in that review. Also, we are reviewing-although my lawyers say that I can say no more than that-whether we need to trigger the section 25 clause, which is on undue discrimination.

Within our powers we can go and look at various aspects of their pricing, but can I set their price? No, this is not like pipes and the wire companies, where I do set their price, because they are monopolies. This is a company that has to set its price in the marketplace.

Q74 Chair: Yes, you can’t set their price but I am sure that your views are more influential than those of the average consumer.

Alistair Buchanan: We have to represent the average consumer and this is why I think the announcement today is so very important. There is no sense of us asserting guilt on to ScottishPower but there is a sense that if a company has a difficult price rise to announce, and at the same time you announce a rather attractive tariff product within that overall price increase, if that is not as attractive as it first looks, again you have a huge consumer erosion of trust going forward. We have to make sure that-rather like a phrase I used earlier, it is a bit like Ronseal, you have to basically deliver what it says on the tin. We are very keen to ensure that the companies are straight with their consumers and sell them a product that they can enjoy for a sustained time, if that is what they are offering.

Q75 Chair: I welcome what you said and we are seeing ScottishPower again ourselves very soon, so we shall put some of these points directly to them. Can I ask a more general question now about margins in the industry? The industry point out that your review said margins of around 1.6% lower than those made by supermarkets and various other people. Do you think that level of margin is a justification for price increases?

Alistair Buchanan: Again, rather like prices, we do not analyse what their appropriate profit should be, we do not start off as we do with a monopoly company saying what we think broadly an appropriate level of capital return might be. What we are doing here is looking at what some of the implications of pricing might be, and one of our concerns in March was, for example, that legacy single fuel consumers were delivering a 6% margin to the companies, whereas the competitive non-legacy were delivering 1.5% to 2%. I think it is a reasonable area for us to analyse as to whether, in fact, it is the "sticky" customer who may well be vulnerable on a standard credit term, whether they effectively have to shoulder some of the profit in a way that might seem unfair, particularly for a vulnerable customer. We think that is a legitimate area for us to have a look at.

Q76 John Robertson: One of the things they say as part of the competition is being able to switch a user. How easy do you think that is in relation to the big six?

Alistair Buchanan: From the data that we have had from extensive consumer work that we have done and consumer polling, 96% of consumers know about switching, and 77% say it is fairly straightforward. One of the really concerning points in the work that we did was that generally 40% of consumers who have switched have switched to a weaker deal. So this again comes back to the importance of ensuring about the quality of information, simplifying what I think has become a very confusing proposition. In the last 18 months we saw the number of tariffs available to consumers go from around 180 to just shy of 400. It is interesting also at the same time we saw, for example, in gas a 18% reduction in churn, in churn of switches. So I think the messages that we are getting from consumers, and their consumer bodies, is consumers want to have choice, want to feel confident in their choice and a way to do that is simplify the tariff choices-

Q77 John Robertson: You talk about choice but the one thing you have not mentioned is competition.

Alistair Buchanan: I was going to come on to competition.

John Robertson: Well, you would say that. The ordinary person does not understand all these tariffs and while they might understand if they swap they will get it cheaper for a short length of time, what has not been seen-and I believe you have done a very poor job in this-is to stimulate competition between companies. Have we got to the stage where we seriously have to look at the big six and start cutting them up so there is real competition out there? It is all very well complaining about the price of gas and the price of oil and whatever, but at the end of the day there is no competition when it comes to delivering the gas and the electricity to a customer.

Alistair Buchanan: Sure. What we are hoping is that through the simplification of tariff structure that the consumer who thus far may have been turned off from triggering choice-40% seem to be almost permanently disengaged from wanting to choose. Only 20% appear to be seriously active choosers and switchers so we have to get some engagement-

Q78 John Robertson: Why is there not one tariff for residential customers and one tariff for business customers? In effect telephone lines used to be that way. You knew exactly what you paid for and when you were going to get your bill and people could then balance their budget accordingly. Now we are at the stage where, as you say, only 20% of people are looking at the tariffs and working out which is the best deal for them. How are you going to help these people?

Alistair Buchanan: I think we are very much on the same page. What we are looking to do going forward is to say there will be a fixed offering and consumers can go in and buy one, two, three year, as long as they know when it ends and that there is no automatic rollover, and that is where companies can compete very actively and very aggressively with each other on those different offerings and be quite innovative. We then want to have a single tariff approach called the Evergreen tariff, whereby you and I can basically-let’s say we are on standard credit-look at the six on offer and look at who is giving us the best price and not be bamboozled by multi-tiered offerings within that. I hear what you are saying and that is the direction of travel that we are going.

Andrew Wright: So in summary it is one tariff per payment method with one price for each tariff. From our point of view, it is difficult to see how you could get simpler than that.

John Robertson: I appreciate what you are saying, you hear what I say but I don’t want you to hear, I want you to act on it.

Q79 Sir Robert Smith: I had better remind the Committee of my Register of Members’ Interests entry as a shareholder in Shell and also honorary vice president of Energy Action Scotland, a fuel poverty charity. How much have you explored the practicalities of this simple one tariff per payment method? Does the industry have any concerns that are genuine or do you just think that they want to muddle the market?

Alistair Buchanan: I am very encouraged that we have had such a reaction over the last two months to this basic proposition that we put down at the end of March. The big six have been fully engaged in that as well, which is very encouraging. In terms of the practicalities, we have had a number of suggestions made such as we would need to focus on what the terminology of the standard or fixed part of the bill is. The standardisation, is it fixed costs or it is costs you can’t control? We have had recommendations on how you might present that. Is it easier to present in an APR style fashion as you get in financial service products? We have had representations that you get away from the multi-tiered approach. EDF and British Gas have both acknowledged, in quite strong language in their submissions, the weaknesses of the current approach to tariffs and have also made, I think, quite encouraging suggestions. Those that we feel will improve the transparency and the information for the consumer, we will take as we move forward now to write the detailed plans and those that we do not we will not take. If some of the suggestions that the companies have made are deal breakers for them then they will have to think about going to the Competition Commission, but this is the direction of travel that we are going.

Q80 Sir Robert Smith: What sort of representations have you had from consumer groups?

Alistair Buchanan: Generally the consumer groups have been extremely positive and I am very grateful for what they have done in this area.

Sir Robert Smith: Especially on the terminology, I think.

Alistair Buchanan: Indeed.

Q81 Sir Robert Smith: I am just trying to get my head around some of the detail. What happens to time-of-use tariffs, the smart meter rollout and the Green Deal in this?

Andrew Wright: Yes, time-of-use tariffs, there are two issues there. One is there are a lot of people on time-of-use tariffs today, like Economy 7, and there are a number of different types of those. Certainly we are not going to put in place proposals that mean that people can’t continue on those types of tariff. People rely on those tariffs to give them affordable heating in most cases and so we are not going to prevent that happening. So we need to find a way of dealing with such legacy time-of-use tariffs.

Then there are the issues around smart meters going forward and the likelihood of there being increasingly complex time-of-use tariffs. I think that is something that we have to consider. Our initial position is that these can be offered under fixed term contracts. There is no reason why that could not happen, but I think we need to consider whether or not time-of-use tariffs could be allowed under the Evergreen proposals that we have put forward and that is one of the things we will be looking into over the next few months.

Q82 Sir Robert Smith: So there will still be other tariffs around as well as the Evergreen?

Andrew Wright: There are a lot of people on time-of-use tariffs today, which are on Evergreen terms and it is not our intention to force people to change on to tariffs they don’t want to. So I think we need to consider how we transition those customers, given that we would expect those types of tariff to evolve into a smart meter world in due course.

Q83 Sir Robert Smith: Have you looked at the transitional arrangements and the logistics and overheads? Presumably they would be marginal to the whole operation but there would presumably be costs involved in-

Andrew Wright: We are beginning to have discussions with companies about the practicalities, but I think one point I would make is, given these tariffs that we are proposing are simpler than the tariffs that the company has had to date, and there are fewer of them, it is difficult to see why it is going to be such a difficult logistic exercise.

Q84 Sir Robert Smith: Just finally, is it an admission that markets are not the best way of delivering a product like this, that you have regulate the product in the end?

Alistair Buchanan: I think what it is signalling is that the companies were given a very good opportunity in 2008, with the six fairly basic requirements that we put in front of them to achieve, mis-selling, accounts that we understood, a good deal for SME and so on. They failed to meet even that level of requirement. So I would say that what we have here is not so much a damning indictment of either choice or competition, I think it is more a damning indictment of behaviour. The companies have been signalled to very firmly now that their behaviours have to improve substantially on behalf of consumers.

In an era of flat prices you would be saying that, but in an era of rising prices-and we see global wholesale markets with serious increases, particularly in the gas market, going forward, but we also know we have to find £200 billon to rebuild the GB energy system by 2020. It is absolutely critical in a period of rising prices that consumers have confidence in what the companies’ behaviours are. But I really do not sense at this stage-in the last two months the consumer groups in particular had a real opportunity to say, "Throw the towel in on competition, throw the towel in on choice". We have not had that feedback at all. I think is very important. The area where we need to do quite a bit more work-and it may be that we need to work certainly with you but also with Government-is on the vulnerable customer. Some of the feedback in the last two months, particularly from the Fuel Poverty Advisory Group, has been trying to focus on how we ensure that the vulnerable customer is protected, particularly in this Evergreen tariff approach. They have put forward their own idea that there needs to be some kind of index link between the fixed or the floating price and what a vulnerable customer can pay.

Q85 Sir Robert Smith: So the vulnerable customer is always getting the best deal?

Alistair Buchanan: That is what their argument is and I think we have a statutory duty to vulnerable customers, as you know. We need to take this very seriously.

Q86 Sir Robert Smith: I think you have made a very important point, probably for policymakers and for consumers, that the underlying reality, unless there is some dramatic change in markets that we can’t see, is an upward pressure in prices and, therefore, crucial that in that upward pressure there is no hidden extra profits that do not need to be made.

Alistair Buchanan: That is certainly what we see as our remit. I get nervous about telling Ministers and Government what to do with policy-

Q87 Sir Robert Smith: Not what to do but to inform policy. If we are going to tackle fuel poverty and if we are going to-

Alistair Buchanan: Indeed.

Sir Robert Smith: -attack a lot of other issues we have to be realistic that your market review is not going to suddenly bring nirvana; a cheap price.

Alistair Buchanan: Exactly.

Q88 Barry Gardiner: When people start shouting it usually indicates that the relationship has not gone too well beforehand and that something has gone wrong. You will recognise the quote, "We gave them a left hook and then a right hook and now we are going to give them a beating". Do you think that that is appropriate, professional language from a regulator about the industry that they are supposed to be regulating?

Alistair Buchanan: What I think is appropriate is that we did set down a series of substantial improvements that we wanted from their behaviours-

Barry Gardiner: We can talk about the substance after. That is not what I am talking about. I am talking about what was said, the style in which you engaged and whether you thought it was appropriate, professional language from a regulator; more to me the language of a professional boxer.

Alistair Buchanan: At times you use an analogy when you are describing things and that was an analogy used at the time.

Q89 Barry Gardiner: Do you regret the analogy?

Alistair Buchanan: No, I don’t because I think what it was trying to assert was that the companies have to understand that they effectively, by not espousing the challenges put in front of them in 2008, were giving their consumer a very poor deal and they had to understand that that poor deal was not acceptable. I think therefore the key message in March was, "This is not acceptable". The key message from the consultations that we have had in the last two months is-and even the companies are now acknowledging-that it was not acceptable. So we have now reached a position today where we are saying we have some positive news, the companies have engaged positively. You would have to say that is against a background from, I think, not a great base in March but they are engaging now much more positively. We have had difficult news on the companies still in the last few months. SSE has had its trading standards issue. We have had to announce another investigation into ScottishPower today. This is not encouraging news but there are good signs from the companies. First of all, they have engaged, secondly their performance in the consumer focus customer complaints table has gone up so-

Q90 Barry Gardiner: My point to you, Mr Buchanan, would be this: the reason that you indulged in such rhetoric is because you had let things go too far. You had let things get out of hand since 2008; you had not borne down upon the companies as you should have early enough and that the very things that you set them to do, which you have just outlined to the Committee, in 2008 had gone on far too long and your language was a reflection of your failure?

Alistair Buchanan: I would say that I was reflecting the failure of the companies to deliver the basic premise that we put in front of them three years ago.

Q91 Barry Gardiner: Three years? So it had taken you three years to get to the point where you started shouting, instead of making sure that you were dealing with it appropriately during that period of time?

Alistair Buchanan: Of course it was 2010 when we started the review, so it was two years and when you put things in place-and of course a number of companies have said that we have even started to look at changes too early now, particularly with regard to some of our liquidity ideas. So when you put a change in place you have to give it a decent amount of time to see whether it is going to work, whether competitive forces are going to succeed and whether we see companies stepping up to the plate. We did not see that.

Andrew Wright: Of those two years it took around about one year to get the proposals in place, so in terms of making the licence changes and giving the companies reasonable time to implement the changes to their system. So the more common complaint among the responses from the big six is that we should have given the appropriate remedies more time to work, not that we moved too early, or not that we moved too late.

Q92 Barry Gardiner: I am sure it is, but then perhaps you have listened to them for far too long in that way.

The industry make the point that the Government regulator and industry need to work together effectively if the industry is going to go into people’s homes, if it going to be able to deliver some of the programmes that Government has in the Green Deal, and so on. Has the rhetorical war got to the point where both of you, on both sides, are undermining the confidence of the consumer that these are the sort of people that they want to let into their homes to deliver these projects?

Alistair Buchanan: Our responsibility is to ensure that the consumer gets a straight offering from the companies, which it had not been getting and, therefore, we needed to make that very clear so that they can then move forward and deliver improvements. We thought that the companies would step forward to deliver improvements that we set down in 2008. They did not, so now we are setting out a more radical package to ensure that consumers get the appropriate treatment from the industry. I have just mentioned to you-if you heard any of the commentary that this morning-we were not using aggressive rhetoric this morning, what we were saying was that the companies have come to the table; they are acting in a positive way; there have been some signals in the last few months; the consumer focus complaints table and so on, that they are improving. Therefore, there is an appropriate time for encouragement but there is also an appropriate time to say, "This just is not acceptable behaviour," which is what we were saying in March. We are saying that things are moving in the right direction.

Q93 Barry Gardiner: Is it not the reality that it is consumer focus in Which?, CAB and Age UK and uSwitch, and all the other people that have been banging on about this, that has forced you to get to the point where you are doing this? It is because there has been the public outcry about you not doing the job properly that eventually you have been brought to this point and you rush out a press release the night before you come into this Committee.

Alistair Buchanan: In terms of the press release, we can deal with that separately because I did inform the Chair as to our desire to get information to you. But it is for the companies to answer why four of the six of them are under investigation for mis-selling. It is for the companies to argue why, in some instances, their annual statements are very poor-because we are going to appoint an independent accountant to help us-but it is also for the companies to help provide consumer confidence with transparency of accounting. It is for the companies to treat the SME market properly. That is where the responsibility lies.

I believe they are picking up that responsibility, and I have been encouraged by the responses from the companies in the last two months.

Q94 Barry Gardiner: So you will not be breaking up the big six?

Alistair Buchanan: At this stage, because of the way that they have responded, we feel that we have a range of options that we are now going to proceed with.

Q95 Barry Gardiner: So that is a U-turn in record time. The press release here dated 22 June says, "We will also pursue breaking up the stranglehold of the big six" and now you tell us you are not going to do it.

Alistair Buchanan: That is with regard to the market, and we are looking to introduce up to 20% potential liquidity within the market, so other players can come into the market and feel confident in trading in the market. Why do we have to do that? Because they don’t feel confident coming into the market. Again, we have had over 40 responses on the liquidity proposals in the last two months.

Q96 Dr Whitehead: Perhaps we can talk about liquidity proposals. Mr Wright, you said to us in January that a logical extension of companies effectively providing electricity to themselves is that they are sell electricity use that is going to be sold on the market, so I think we expect vertical integration to have an adverse impact on liquidity. Then, Mr Buchanan, you also said at the same time, you were questioning yourself about whether there has been gaining between wholesale and retail, "That our conclusion is we don’t have any evidence that the companies are misbehaving here." Then you said, "It is almost like the Scottish legal system of non-proven, we couldn’t land a punch." Do you have evidence now that might enable you to land a punch, in the language we are using this morning?

Alistair Buchanan: We carried out our work over the winter and we came out with our view in March that the companies had got them too early, in terms of the wholesale/retail linkage at the end of last year. So we did come out with that proposition in March.

Q97 Dr Whitehead: Yes, you came out with a proposition but you previously said you could not see that there was any evidence for the basis of your proposition, as far as companies reducing liquidity by trading with themselves as far as electricity was concerned.

Alistair Buchanan: It is quite interesting that through that period, in fact, the liquidity that we expected from the market last year with regard to churn was five times, it declined through the year. I think three and a half times is the average for the year. In fact churn went as low as two times in April this year, so we are not seeing a pick up in a liquid market. The bid offer prices at the long end are still very, very wide. I think we have only seen two independent players coming on to the N2X platform so the signals there are slow frankly, or going in the wrong direction.

Q98 Dr Whitehead: But the energy companies themselves, the big six, are suggesting that other factors in liquidity such as retail margins are much greater barriers to new entry. Bearing in mind that you do not appear, other than by inference, to be able to say anything definite about the relationship of vertical integration and liquidity, how valid do you think those other facts might be, and does it have a bearing on what you are proposing on liquidity itself?

Andrew Wright: I think there are potentially a number of reasons why liquidity is not as high as we would like it to be. I think vertical integration could well be one of them. Quite how you would prove that vertical integration rather than other factors are causing it, I do not know. But as I said previously at the last Select Committee, it is quite a sensible conclusion that if companies are selling their energy to themselves then that is less energy that is being sold on to the market.

Q99 Dr Whitehead: It looks like it, and that seems to me all that you are saying, isn’t it?

Andrew Wright: No, I think there are potentially other reasons why liquidity is less good, many of which we will look at and we are intending to do a review of electricity cash out arrangements at some point where some people have highlighted an area of potential barrier. But the key point is that we think liquidity is not sufficient for new entrants, and not sufficient for independent generators, and we are putting in place proposals to try to do something about it. To the extent there is a vicious circle of falling liquidity, we are trying to reverse that vicious circle and we think that will be to the benefit of both new entrants and indeed, ultimately, consumers.

Q100 Dr Whitehead: What continues to worry me here is that you are putting these proposals forward on liquidity, and you have a surmise that falling liquidity has a relation to the extent to which trades are taking place internally and therefore that is the driver, but you can’t establish that. On the other side, the trading platform that is developed, as you say, only has one new entrant. Is that your evidence?

Andrew Wright: Our proposals are designed to address the difficulties that independent generators and potentially new entrants and small suppliers have. So we have targeted our proposals to those problems, and I don’t think we need necessarily to have every last detail about the causes of low liquidity to be able to address the problems that it causes. We would hope that would push liquidity into the right direction and start to move the cycle in the opposite direction.

Q101 Dr Whitehead: So what will be your marker of being proved right on that?

Andrew Wright: Our marker would be that we no longer get complaints from independent generators, small suppliers and potential new entrants that they can’t get hold of the wholesale and risk management project products that they need to complete. That is what we are hearing. The main people telling us that liquidity is a barrier to new entry are the people who are trying to enter the market.

Q102 Dr Whitehead: Forgive me, but is that not a bit like you take a car in for repair, and the mechanic keeps taking bits out of the car and replacing them with new bits until he finds something that works and then tells you he has repaired the car?

Alistair Buchanan: What we are hearing is that the independent generators and suppliers-around 20responded, which is encouraging because it means that people are interested in the market. That was one of the reasons that I mentioned the numbers. It shows that there is interest in the UK market, a number of them overseas, a number of them domestic. What we are trying to do here, through the mandatory auction and market making approach, is to say that we will have a range of products of a clip size or product size that can be traded, and that can be traded continuously, because those are the messages that we are getting from the potential entrants to the market saying, "I can’t get the right size. I can’t trade continuously, long end is very difficult. How can you sort this out so that we can feel confident about coming into your market?" So I think those are the things that we can work on. However, it is a great question, which is at what point might you say if nobody does come into your newly reformed 20% open market that something has gone very wrong here. There will be a moment in the future where we have to look at this, we will have to work out how long it is to see whether it has, in fact, attracted the kind of dynamic into the market place that we had hoped. I think it is a very fair question.

Andrew Wright: We are not naive here, we realise that there are a range of reasons why new entrants find it difficult entering the market but the least we can do is try to address those that have been identified and that we can address.

Q103 Dr Whitehead: Alongside your proposals you did set a deadline, I think, of 1 June for industry to come up with alternative arrangements and it is now 22 June. Any thoughts on that?

Alistair Buchanan: Sorry, with regard to?

Andrew Wright: Liquidity.

Dr Whitehead: To address liquidity concerns.

Alistair Buchanan: We had feedback up to 1 June. Indeed, some companies, who were in active discussions with some of Andrew’s team, then put their submission in up to two weeks after that. So we have been taking in all the submissions since then.

Andrew Wright: We have published an open letter today to the industry explaining that we intend to proceed with the reforms that we have identified, because we have not seen enough in terms of the progress in the industry, and so we are going to continue to proceed with the proposals that we put forward in the retail market review.

Q104 Dr Whitehead: So those are the two alternatives then? They came up with nothing by 1 June so you are proceeding with your proposals?

Andrew Wright: Well, they didn’t come up with sufficient to make us think that we did not need to go forward with it.

Alistair Buchanan: Also, there have been good ideas generated and we need to look at those to see how we will plug those in.

Q105 Dr Lee: A couple of questions following on from Mr Gardiner’s questions. Forgive me, I have been here a year, the debate on domestic energy bills has been going on for some time, I suspect over a decade. Why now? Why have you suddenly decided that there might be a problem within getting into the market liquidity? Why is this review taking place now? It strikes me that these problems have been going on for some time and if that is the case that they have been going on for some time, why do you think Ofgem were a bit slow out of the blocks?

Alistair Buchanan: The key marker here with regard to the domestic retail-and perhaps we could come back to the market liquidity issues-was the probe that we did in 2008, based on the previous two years’ information. So the previous report to that had been the domestic report of 2006. In that intervening period, 2006/2008, which I have acknowledged we probably got to possibly 12 months late at that time, we identified some very unattractive aspects of the retail market to do with disengagement, non-switching, customers getting the wrong product, which led us to offer basically-well, to more than offer, to set out a range of improvements that the industry should put forward. Then over the 2009/2010 period we basically analysed what they were doing. Through that period the companies were starting to fall foul on virtually every one of those six, to a greater or lesser extent. It is always dangerous making a generalisation here because some companies reversed what had been quite a weak previous offering to consumers. I think British Gas improved quite dramatically in a number of ways through that period, but by the end of 2010 we were so concerned about the range of issues that the companies were falling foul on that we felt that we needed to do another review on consumers’ behalf. That led therefore to the March conclusion that the companies really had played short the consumer over the previous period.

Q106 Dr Lee: But your primary role is to protect the consumer by ensuring competition, yes?

Alistair Buchanan: Yes.

Dr Lee: Do you think you fulfilled that well in the last decade? If you do, on what basis do you conclude that? Do you have some sort of demonstrable outcomes, "Well, we managed to control the prices in X amount way" or, "There was a reduction in prices relative to wholesale prices"?

Alistair Buchanan: Yes, with regard to the broader picture, which is why-the question I am frequently asked is why in 2008 did you not-

Q107 Dr Lee: 2008. I can remember this being a problem in 2000. I do not quite see the-

Alistair Buchanan: No, I was going to use this as an example. Why in 2008 did we not take the action that we have just taken? The judgment that we took, it was a judgment that my board took at the time, was that we are seeing enough positives, customers understand choice and want choice; we have seen an improvement in the prepayment meter behaviour; we have seen market shares improve, in particular for the Scottish and Southern, and to decline for British Gas; we have seen some of the indices with regard to how we judge competition falling, that was called the HH index; we have seen, by contrast, other countries globally in much higher pick-up of switching and choosing and, therefore, we do not want to lose that. In other words, the comparison of active switches in Britain being between, let’s say, 15% and 20% and I think one of the nearest countries you are going to get is Holland is 7%, Germany has been down at 3.5%, many of the states in America that follow the liberalisation competitive route have about 1%. So we wanted to try and maintain the good stuff that has come with competition and choice but get the companies to improve their behaviours. I think that is what we have been trying to do going forward, so that is how we have tried to meet this markets and pro-competition approach while getting much better behaviours from the consumers.

Q108 Dr Lee: So why do you think you were slow in this? You have admitted that at least 12 months-the customer will say, "Hang on, I have had to pay X amount of money for the last 12 months, could it have been cheaper?"

Alistair Buchanan: I think back in 2007/2008 we had a confidence in markets, particularly with regard to sorting out the problem for pre-payment meters, off gas grid customers and the in an area out of differential price, we thought competition would be more active in getting rid of those differentials and it was not. That is why we had-

Q109 Dr Lee: Now we are four years ahead and there is no more competition?

Alistair Buchanan: In fact the churn over the last 18 month has gone down.

Q110 Dr Lee: But is there more competition, Mr Buchanan?

Alistair Buchanan: Good question. No.

Q111 Dr Lee: So your primary role is protecting the customer by ensuring competition and four years on no more competition?

Alistair Buchanan: Sure. Well, active competition between the big six but there is only about 0.69% of the domestic supply market that comes from anybody else outside the big six.

Q112 Dr Lee: So no more competition?

Alistair Buchanan: No more competition in numbers, the companies may argue that they have been competitive in their offerings but candidly when we look at the churn go down and the tariff complexity go up, it would not appear that customers have felt that.

Q113 Barry Gardiner: I am focusing now on proposal three and the proposals you had for strengthening domestic remedies. Consumer focus reviewed annual statements in July of 2010 and found that many suffered from poor design and confusingly worded information. How do you think bills can be improved and how are you going to ensure that they are?

Alistair Buchanan: One of the recommendations that has come through, and it is one that we will look at very carefully is whether we have a standard pro forma approach for all companies on annual statements so that the consumer, whoever is supplying them, can see the same piece of information in the same place. That is something that I think is very much worth looking at.

Q114 Barry Gardiner: But you did that, did you not, in your previous probe, and in fact you yourselves gave an example about where the 2008 probe had gone wrong when you told the companies that they had to put, in a prominent position, that the domestic customer may change their electricity supplier and Scottish and Southern Electricity’s response to that was to put something at the bottom of their annual statement that said, "It is easy to change supplier so why don’t you recommend us to your friend so they can benefit from our great service." You said this back in 2008. Don’t tell me you are saying the same thing now?

Alistair Buchanan: No, the suggestion that has come is that it is even more formulaic, because if you have different companies they are going to present their information in different parts of the page and in a different way, and just whether you have that in a more formulaic approach for all players.

Q115 Barry Gardiner: So you will give them a form of words?

Alistair Buchanan: We need to discuss that with the industry but these are some of the ideas that have come up in the last couple of months.

Andrew Wright: It is clear that where we give latitude for companies to interpret what we want them to do, in many cases-not in all cases, there are some very good examples as well-some companies will take advantage of that to subvert the original intention of what we were trying to do. I think the feedback that we have had is that even in its imperfect implementation the annual statements has been welcomed by consumers and has had a positive impact on the market.

Q116 Barry Gardiner: Welcomed by, what, the 30% of them that could remember getting one?

Andrew Wright: Exactly. When people-

Barry Gardiner: I do not think you can say it has really been an effective tool when the majority of people say they can’t remember ever getting it, of those that did remember getting it a proportion said that they thought it was intelligible but I do not think it has really been an effective tool, has it?

Andrew Wright: No, and we completely agree that it has not been as effective as we want but that is the companies in their implementation, not our original intent. It is fundamentally a good idea and it is-

Q117 Barry Gardiner: So what you are saying is the companies got around the principles of the rules that you had set them?

Andrew Wright: In some cases, yes.

Q118 Barry Gardiner: And you had no powers-

Andrew Wright: No, we-

Barry Gardiner: -to then take them to task and say, "I’m sorry, the moment this annual statement or this bill comes out and it is done in this way, you are clearly taking the Mickey"-I nearly said something else -"and you are going to have to put it right otherwise we will impose certain sanctions on you."

Andrew Wright: That is exactly what we are doing and in the future the companies are going to have to be a lot more prescriptive about what they put on their annual statements.

Q119 Barry Gardiner: So why did it not happen in the past?

Andrew Wright: Perhaps mistakenly we expected the companies to comply with the spirit of what we were trying to do and not just the letter. Some of the companies did, but in some cases that was not the case.

Q120 Barry Gardiner: In terms of confusing information, things like calorific value that, let’s face it, does not mean much to most of us when we read our bills and the conversions of calorific value and so on. Do you think there is a case for removing those from the bill and having something that is standardised in a way that people can understand?

Alistair Buchanan: I believe the Minister is coming to see you later today and I suspect will happy to talk about it. The Government is doing a big review of bills and this may well be part of the thing that they are looking at going forward. In fact I think it is exactly this in terms of presentation.

Q121 Barry Gardiner: What advantage would there be to Ofgem running a switching site where customers could log on when they get their bills, and that site be advertised on the bill, so that they say, "Yes, I may as well see what Ofgem says I could be doing if I went somewhere else with the number of units that this bill says I have consumed", go on to your site as a switching site and say, "Oh goodness me, if for the past six months I had been on somebody else’s tariff I would have saved myself £50 here" or, "Thank goodness I am with whoever I am because I am £20 cheaper than anybody else in the market". Why don’t you have something like that where people at the point that they get their bill have on the bill an email address that they can go on the web and find, and see what their bill would have cost them with each of the other suppliers? Would that not make sense?

Alistair Buchanan: It is a very interesting idea. As you know, Consumer Focus have a switching site. Sadly, again coming back to some of the similar data you have just mentioned, 44% of consumers do not understand it when they get on to it. Therefore we have had a number of recommendations and suggestions in the last two months with regard to switching sites and linked to the tariff proposal. We will certainly take your suggestion away as part of that.

Q122 Barry Gardiner: Without discussing the details of the case that is currently under appeal, why was it left to Trading Standards to prosecute the recent case of doorstep mis-selling? As I said, I don’t want to talk about the details of the case and I respect the fact that you can’t do that but you would understand that in such cases there is an expectation upon the regulator.

Alistair Buchanan: Yes, our mis-selling investigation-and I will be very happy to come back and talk about this when this case reaches its conclusion, I have to be careful with my words here, as you will understand, but we have a case of mis-selling that we are proceeding with SSE. I will have to wait until I am allowed to come and talk about that in more detail.

Andrew Wright: Of course that is not the first case of mis-selling that we have had to deal with. There have been previous ones.

Q123 Chair: Would you agree, though, that what is emerging is that this is probably only the tip of the iceberg, that there may have been an awful lot of mis-selling by a number of energy companies?

Alistair Buchanan: Certainly I would say that the responses to the mis-selling investigations, which we have announced, have been among the most supported from consumers who have written into us directly with examples and evidence. Yes, I can say that.

Chair: We will certainly be interested in talking to you again when you are able to discuss this more freely. I think having seen what has happened in the banking sector and the repayments that have been required for mis-selling the payment protection insurance, we suspect we are uncovering something similarly scandalous in the energy industry.

Q124 Barry Gardiner: Perhaps you could say something about the type of complaints that led to your current investigation into four of the energy companies?

Alistair Buchanan: I would like to, but I know I would be in enormous trouble about due process, so the lawyer would kill me.

Barry Gardiner: That is fine.

Q125 Laura Sandys: Can I broaden this out a little bit? You obviously have now decided to take action with regard to the energy suppliers but when you start to go back and look at the trust that you have obviously built up with the companies it creates some concern, and picking up the Chairman’s point about the whole issue of mis-selling, are you comfortable with the way that firstly the big six profile certain target audiences on their doorstep selling? Are you confident that their sales methods are appropriate and that they are appropriate to particularly the targeting of certain audience groups that they undertake? Are you also comfortable about the incentives that are put in place for their sales teams? As the Chairman said, these are key issues that the financial services sector has been scrutinised on for many, many years, not just in the most recent mis-selling. I would have thought that as a regulator you must be looking across the board to understand what is happening in other sectors and learning from it.

Andrew Wright: Once again it is quite difficult to talk about specifics, but I think if you look at our actions we have significantly strengthened the marketing licence condition during the probe, including being very much more specific about the information companies have to provide on the doorstep. We are now undertaking enforcement cases against four companies under those strengthened licence conditions, and we have said in the recent retail market review that there may well be a case for strengthening that licence condition further, given some of the-once again adhering to the letter not the spirit of the proposals that we have seen, so being more specific about what companies have to do on the doorstep. We take this issue very seriously. The flip side is that around about 40%, at the time of the probe, of all customer switching activity took place as a result of doorstep selling. Our objective is to try to make that work in customers’ interests rather than against their interests as it probably does at the moment.

Alistair Buchanan: Can I just add to that, which is I think the point that you were making was: will lessons be learnt and will you come and tell us what they are? The answer to both of those questions must be yes. To a certain extent E.ON and British Gas Centrica may at this stage have been more beneficial to you in their presentations to you a few weeks ago than we can be because, of course, they are not in the mis-selling investigation and they made some comments to you which suggested why they do not think they are, and why they think they have a superior approach. That is all minuted.

Q126 Laura Sandys: May I take it then a little bit beyond the mis-selling, because that obviously is difficult for us to discuss openly. It is to do with the appropriateness of the technique of doorstep selling. That is really where the fundamental problem potentially lies when it comes to mis-selling. On principle are you comfortable with the fact that something like an energy contract is sold to you on the doorstep with all the connotations that doorstep selling comes with?

Andrew Wright: I think there are additional risks when you are selling a product on the doorstep, in people’s own houses, people probably feel more vulnerable and threatened and therefore I think it is really important to make sure that companies behave well when they are marketing on the doorstep.

Q127 Laura Sandys: But there are so many other different forms-you have mobile phones not sold on the doorstep, sold very effectively through expensive marketing campaigns, direct mail and so on. All these things that are passive sales environments, where the consumer reacts to the information. This is something that is a pressurised sales environment and always has been.

Alistair Buchanan: This is something that you will be surprised at the time of the 2008 probe and again at the time of the March review we looked at. Not only is it 40% of sales are done this way, and you are right, whether you have the interactivity there that you want is an interesting issue. Of course both E.ON and British Gas have said they have handheld devices that helps them get information to give that interactivity to consumers. 61% of pre-payment meter consumers are won on the doorstep.

One of the issues that we have been advised by our European colleagues of Ofgem is that-because I think there some direction you are travelling with your question and if it isn’t then you will shoot me down, so say stop, is should we ban doorstep selling. It looks from the advice that I have had from my European team that we would find that very difficult to do under current European law and I can write you a short note on that if that would help.

Q128 Sir Robert Smith: Just one thing that was said earlier about the bills and the regulation was that you were surprised, or disappointed, that the companies had not adopted the spirit of the regulation. Is that really so surprising in a market that, if you give someone a frame of reference in which to try and make a profit, they do not pursue the most profitable route?

Andrew Wright: I think when we did the 2008 probe there was a very clear signal in that probe that we expected the companies to up their game, that we were giving them a degree of latitude in how they implemented the proposals. We introduced a series of standards of conduct that we thought represented the reasonable behaviour that customers should expect, and we made it very clear that if they did not adhere with spirit of what we were trying to do that we would be back. They didn’t in many cases and hence we came up with the next retail market review.

Are we surprised? I don’t know, but I think in terms of principles of better regulation, we constantly try to adhere to those. Then we did not go for the very intrusive, very prescriptive approach from day one.

Q129 Sir Robert Smith: One of the remedies that needs looking at, certainly from my casework and I think from representations you have had, is that there isn’t much difference, when it comes to small businesses and micro businesses, between the energy consumer and the domestic consumer, in terms of knowledge, time and ability to work the market, but the protection is nowhere near the same, so small business users quite often finds themselves in a seriously disadvantaged contract.

Alistair Buchanan: We made this point in March and we have been working with the FSB and other-particularly SME related-organisations. Again I have been asked elsewhere, "Are there additional powers that you might want?" It may be that this is an area that we may seek from Government additional powers, particularly with regard to third party intermediaries. We may need a licence condition to ensure certain standards of behaviour. We are looking very closely at the back billing arrangements. We are clearly looking very closely at rollover, or I should say banning rollover without notifying the SME, and the basics on transparency and clarity of the bill. Again, some of the things that we have introduced for the domestic market do have a rollover into that SME market, and I think it is a fair point, and we are very engaged in this area.

Q130 Sir Robert Smith: Do you share the industry’s concern that trying to regulate the third party intermediaries through the supplier would not be the most efficient route in, and it might be better for Government to give you-

Alistair Buchanan: I think this is something that we are working through at the moment and, Andrew, you might say a bit more.

Andrew Wright: Yes, the status quo is that we have no powers to regulate third party intermediaries directly. They are not licensed under the Energy Act or any of the Acts that give us our powers. So therefore that is the responsibility at the moment of an OFT. If that is to change, there would need to be primary legislation in order to give us those extended powers or perhaps introducing licensing of third party intermediaries in some form. So the only route open to us, under our current powers, is through the relationships that the suppliers have with those third party intermediaries, and I understand what the suppliers are saying but there are few alternatives under current powers.

Q131 Sir Robert Smith: Would you define small or micro businesses by the size of the companies, or would you define them by the size of the energy contracts that they are looking at?

Andrew Wright: We have a range of criteria, which I can’t recall at the moment-we will get that to you-but it is a mixture of numbers of employees, turnover, for defining what falls under the current micro businesses definition.

Q132 Chair: Do you share the view that the methods used by some third party intermediaries are very aggressive and possibly should be made illegal?

Alistair Buchanan: Yes, this whole area we are investigating and we will be talking to Government about if we need additional powers, yes.

Q133 Chair: And that often the activities of third party intermediaries are very damaging to small business customers?

Alistair Buchanan: Indeed.

Q134 John Robertson: Yes, if we move to improved reporting transparencies. How would your latest proposal-proposal 5-to review transfer pricing and hedge accounting practices, improve the transparency in vertically integrated utilities?

Andrew Wrig ht: Yes, during the work that we have done so far, I suppose we have come up against a bit of a brick wall in terms of being able to fully understand the different accounting practices of different companies with respect to hedging and transfer pricing, which is further complicated by the multi-national nature of some of the companies and different business models. During the time we had in the retail market review we weren’t able to get to the bottom of that because of the complexity, and so we have undertaken to go further on behalf of consumers to try to understand as much as we can, using the best expertise that we can in this area. Coming out of that, there would either be a greater understanding or possibly further recommendations about disclosure, which would help consumers understand exactly what is going on.

We are going into this with an open mind. We don’t know what we will find. We don’t know whether the outcomes will be useful and it may be that there is only so much you can find out about complex accounting and hedging strategies within multi-national businesses, but we are trying to do as much as we can on behalf of consumers to try to improve transparency.

Q135 John Robertson: Yes. Some of the reaction from the industry itself, other than one company, seems to be positive with the hedging or their worry about their competitors finding out information, and I can understand that. The SSE are the ones that don’t want to go down that road at all because it is not their way of working. So you have five out of the big six who have been fairly positive. Having said that, we have the position now-and you mention multi-national companies-where a company can take one out from this country, take it to another country, and then transfer it to a third country. I understand they will not be breaking the law on this, but there a moral obligation to the customers within the UK. How do you see that?

Alistair Buchanan: Just to answer-and it is linked to your SSE question, I think-is that-

John Robertson: Actually, it is not the company I was thinking of, let me say that.

Alistair Buchanan: No, I am aware of that. It is interesting that SSE probably have less to travel, as do Centrica, because they give full statutory accounts. The amount of information that they give is incomparable with the amount of information that you are getting from the four of the big six that are linking into group accounts. Our remit is to try and improve information, because information is critical to confidence in markets through transparency-and coming back to Mr Lee’s question. If there are taxation issues, I am sure HMRC will be looking at those carefully.

Q136 John Robertson: I imagine the taxation part will be taken care of. They would be very foolish if they broke those rules.

Alistair Buchanan: Yes.

John Robertson: The problem I have is where a company puts up its prices by 19% for gas and 10% for electricity, and then transfers £800 million to a Spanish company who then transfer the money to an American company who are only putting their prices up somewhere between 2% and 8%. Is it right that the customers of that company are subsidising other companies in another country?

Alistair Buchanan: I hear what you are saying; I have read the stories with interest. Our responsibility in this area is with regard to the regulated entities, as you would expect. That is my statutory duty.

Q137 John Robertson: It has to be seen in the whole, and the whole says that the costs were put up as a result of the need to put increased financing into research and development, or that they are not making enough money to pay off debts or whatever. That obviously does not apply to this company, and I have a problem where you put nearly five times the inflation rate on to your prices, and that you transfer money from that, which could have gone to the customer of the day: one, I would say it breaks the competitive rules; and two, it makes a mockery of your moral obligation to the customers who get the service from you. Is that not your job to support these people?

Alistair Buchanan: I can give you limited confidence here; it is caveated and limited. In the area that I and my colleagues have a direct responsibility for, which is pipes and wires, we have strict ring-fencing on ScottishPower Distribution, ScottishPower Transmission and Manweb. Those are the three businesses owned by Iberdrola that are network companies. In 2008, when we reviewed their debt book we were uncomfortable with the fact that 80% of their debt for the regulated entities was short-term. Therefore, we said to the company, "Look-I think it was condition 41 for electricity distribution and B9 for electricity transmission-we think you may be in violation of that", but to give you confidence the company reacted immediately and they created a balance sheet structure for the network companies whereby you only had 10% being short term, and the reason that we were so worried about that was the volatility in markets and that a network company normally would not carry short-term debt, they would normally carry long-term debt.

So I can give you limited confidence, Mr Robertson, about the network side of the piece. I think your questions-I mean the ScottishPower Iberdrola group are coming to see you-are questions I am sure that you would want to ask them.

Q138 John Robertson: While they are coming to see us, I want to know Ofgem’s position on this: the lack of transparency is what this section is about. The lack of transparency, a reputable newspaper had to do the digging to find out this information and you probably did not know it until you read it in the newspapers.

Alistair Buchanan: Where I have statutory responsibility, which is the network side, we have a ring-fence and we sorted out ScottishPower’s debt position in 2008 when we were not comfortable with it. I don’t have statutory powers in this area. I don’t have statutory powers over Iberdrola SA’s balance sheet management, treasury management. I don’t know what they are doing.

Q139 John Robertson: Do you need more teeth?

Alistair Buchanan: I think it would be quite a dramatic move if Government went down this route because it opens up many, many multi-national companies into a level of debate. There is quite a macro-global debate.

Q140 John Robertson: So the difficulty then says we don’t do it just because it is hard?

Alistair Buchanan: I think you and the Government would have to change my statutory powers if you would like me to do that.

John Robertson: I would like you to do that.

Q141 Chair: Let me come back to another aspect of transparency where I think you do have powers. Transmission costs represent a proportion of electricity consumers’ bills. There is widespread concern-not least in my constituency in Suffolk-about the proposal for new overhead transmission lines across beautiful countryside and an area of outstanding natural beauty. It is felt very strongly by people-not only in Suffolk, I know there are proposals elsewhere in the country-that the marginal extra cost of requiring National Grid to underground these lines, or to consider perhaps under sea transmission from new generating capacity, offshore wind and coastal nuclear power stations, would be pretty small. Do you think it would be helpful if there was more transparency so that consumers could see how much of their bill related to transmission costs, and how relatively small the extra cost of preserving permanently against destruction of many landscapes by allowing National Grid to charge slightly more and to use that money to invest in underground transmission?

Alistair Buchanan: Where to start? This is a big area. Overhead lines versus underground: a multiple I have heard National Grid provide 15 to 20 times more expensive-you will have heard the same thing-and cables carry environmental issues with them as do over ground.

National Grid negotiate with us, as do ScottishPower Transmission or hydroelectric transmission, on an eight year cycle what they need. What they do within that pot of money that they negotiate is up to them because, as you would expect, we then hire professional engineers to go through their plans. That is their management responsibility within the regulatory format. There is now a reward for visual amenity, so the companies have an element within the price control package now for underground/over ground calculation. It may be that they want to think carefully about whether more work needs to be done in this area and we now have a research fund, the Low Carbon Network Fund, available for the first time for transmission companies from 2013. It may be that they can do some work here on pure R&D to see whether they can get some benefit out of under grounding versus over grounding matrix, but by and large this is a decision that National Grid will have to work through if it is in England and Wales.

Q142 Chair: Do you share the scepticism about the claim that undergrounding is 12 to 17 times-or some extraordinary multiple-of the cost of overhead lines? Do you also share the view that National Grid seems to be a business that is rooted in 20th century technology whose solution to 21st century problems is to do what would have been done in the 1960s, and it is the kind of business where the management like to go home at 5 o’clock?

Alistair Buchanan: The first question is: I have no evidence other than what the engineers or National Grid provide. The second point I think, on a wider basis, is that for all the successes of RPI minus X there is a price control formula for the sector from 1989/1990 onwards. What it failed to do-because it was basically a crushing formula, it crushed costs, was it drove out innovation and research and development, and it drove out developments in technology. Can you blame the management on that? Maybe. You might blame the price control formula. That is why we have moved away from RPI minus X to the RIIO Price Control Formula and part of that, one of the I’s within the RIIO is for innovation, and consumers are now providing monies for innovation-and I did not say this, Chair, you did-so that if a company has been steeped in the 20th century, because they would argue the price control did that to them, that is no longer an excuse for them.

Chair: All right. The Minister of State is waiting patiently in the gallery, but because of my extraordinary tolerance and generosity towards my Scottish colleagues, I will ask John Robertson to ask the last question.

Q143 John Robertson: Yes I am interested about your eight-year cycle for these developments because that means the Beauly and Denny line is now in at least its second cycle, it could even be in its third cycle depending on where we started. The transparency of it all is really the thing. We have reached the stage where a line is still being built. It will take years before it is completed and the cost will be greatly increased because of the time delay. If they had put it underground in the first place we would have had it completed years ago and the cost would probably be good deal less than what it is. Should we not have independent costings of these things rather than trusting the companies because, let us be fair, everything you have said today would suggest that we can’t trust the companies to do anything independently or on their own, we do have to keep an eye on them.

Alistair Buchanan: Yes you are right about the timescales. It is really extraordinary, Ofgem on behalf of the consumers awarded the two Scottish companies around £300 million in 2004 to build Beauly Denny and get on with it. The latest figures I think are 565. The negotiation that we had with hydroelectric-and this is a very important point and gets to the heart of your question-both in 2003/2004 and now, we have at least one company of professional engineers advising us and going through their numbers with a fine tooth comb. The agreement that we have with hydroelectric at the moment-and we are waiting for ScottishPower to give us their proposals-from memory, there is a gap of £50 million1 between what they would like and what we think they need to spend to get it done. Therefore, consumers will fund the figure that our engineers have suggested, which is the lower figure, and therefore if I can give you some comfort that they are being reviewed, but when will the line be built, 2015/2016?

John Robertson: How long is a bit of string?

Chair: Thank you very much. A very useful session and some helpful discussion, and there are some issues, which obviously we are going to return to you with you as soon as it is possible to do so.

Alistair Buchanan: Of course. Thank you, Chairman.

Chair: Thank you for coming in.

Examination of Witnesses

Witness: Charles Hendry MP, Minister of State, Department of Energy and Climate Change, and Jonathan Brearley, Director, Energy Markets Infrastructure, Department of Energy and Climate Change, and gave evidence.

Q144 Chair: Minister, welcome. I am sorry we have not quite got our 11 o'clock deadline, but you will have heard a bit of the last exchanges and, as you know, this is an inquiry that is attracting a lot of interest from outside, not surprisingly.

Can I start by asking you whether you share the dismay that I and many other people felt at the announcement by ScottishPower of very hefty price increases recently?

Charles Hendry: Inevitably we share the disappointment, which you and every Member of Parliament, and every consumer group and every consumer in the country will have felt at the scale of those announcements. We don’t know yet whether that is going to be followed by similar price increases by other companies. Quite often I understand that the one that comes first tends to be larger than some of the ones that follow, so we don’t know what the pattern is going to be moving forward. The response that we gave is that people must use it as an opportunity to look around for the best deals, to see that they are getting a better deal as consumers because there are very real benefits to consumers from seeking to switch from different tariff rates. We are looking for greater clarity in that respect, but switching is an integral part of how the market should work.

Q145 Chair: Do you think the claim that this increase was justified by rising wholesale prices and additional environmental and social costs? Do you think that claim was right?

Charles Hendry: There is no doubt that wholesale prices have increased significantly. If you look, the price has gone up by 30% for the winter price for gas, May to May, and 44% for the day ahead price for gas. So we have seen over the course of the last year significant wholesale price increases. That comes at a time when we saw a harsher winter than had been anticipated in North America and northern Europe, at a time when we have seen faster economic recovery in China and elsewhere, and at a time when people are expecting there to be greater demand because of events in Japan and to some extent in German as well. So I think that we can understand why there is an increase in wholesale prices pressure. That is a more significant part of the changes and environmental charges.

Q146 Chair: So the attempt by ScottishPower to blame part of this on the impact on the cost of environmental measures was not correct?

Charles Hendry: There is an element but, in terms of the biggest single factor in pushing up prices at the moment, it is wholesale price increases that is driving that. Also, one has to reflect that different companies have bought at different stages of the cycle, and companies that bought more gas when prices were high have ended up finding that they have taken a bigger hit in that respect and are needing to recoup on that respect, and different companies bought at different times. So that is the driving factor, but there is a small element in price increases that relate to other charges that are on people’s bills.

Q147 Chair: Do you think consumers are prepared for the impact of those other factors: the environmental and social factors?

Charles Hendry: When you say "prepared", I don’t know whether they are willing to accept them or whether they understand they are coming through. I don’t think there is enough understanding of the charges that are there and which are coming through, and that is why we want much greater clarity on people’s bills. I think that we also need to do more to persuade them why investment in these areas is necessary. Part of these, for example, ask for the CERT programme, which is directly associated to energy efficiency work and, therefore, directly reducing the bills of some of the consumers who can least afford to pay the bills, so something that I think we would all accept is important work to be done. Part of it is also to do with our longer term energy security, getting the vast amount of investment that we need in low carbon infrastructure and which, if we don’t secure that, the impact on bills would be radically worse because there wouldn’t be enough supply to meet the demand going forward.

Q148 Barry Gardiner: Minister, you have an ambitious programme in terms of smart meters, in terms of the Green Deal, the Smart Grid, and all of these to a rather large extent depend on the companies delivering and being able to implement. We have heard from the regulator earlier this morning that he is minded to-he has not committed himself finally but minded to-refer to the Competition Commission. How is that going to affect the capacity of the companies to deliver, what do you think the effect on the public perception of the companies is going to be, and do you feel that people may think that these are the sort of companies that they are not sure they want to have come in and do their insulation, and that they don’t trust very much to do all the things that the Government is very keen that they should get on and do?

Charles Hendry: My understanding-I wasn’t in the room at the time-is that the regulator indicated that he "might refer", not that he was "minded to refer", which I think is an important distinction.

Q149 Barry Gardiner: Oh I thought it was "minded". Ms Sheridan obviously has a slightly different recollection of it.

Charles Hendry: That perhaps can be clarified in due course.

There is no doubt that we need these companies to invest in our energy security for the future; that they have a very significant role to play in investing in the new generation capacity that we need, as you say, in smart metering, in development of the Green Deal, all of the issues that we need to give us the energy security in a low carbon future, which we want. We also need to bring in new entrants and some of the work that Ofgem is doing, both in terms of trying to attract in new generators, and particularly on the retail side to bring in new retail arrangements, I think is going to be a critical part of giving consumers confidence, because at the moment-and this came through in some of the questioning towards the end of the regulator’s session-there is complete lack of clarity as to where companies are making their profits. Is it because of the retail margin they are making here; is it the generation-

Q150 Barry Gardiner: You are rather making my point for me that there is this lack of transparency, lack of clarity, lack of trust between the public and the companies, and yet it is those companies that the Government is relying upon to deliver the policy, and if the public don’t trust those companies do you not feel that that is going to have a significant impact on their capacity to deliver your policies?

Charles Hendry: We recognise that we need those companies. They have to invest in Britain. They have an established position in the British market and we want them to invest further-billions further-and the indication is that they are prepared to do so. That does not mean that the regulator in particular, on behalf of the consumer, should not take a robust line in defending consumer interests, but that also brings me back to the issue of liquidity of competition. That is why we need additional players to be coming into this market, because that is the best way of ensuring that consumers feel they have a very genuine choice. You have people like the co-op saying they are coming into this area, so people who are not actually generators at all, and that will be an important part of that consumer trust and confidence.

Q151 Barry Gardiner: Minister, I have a great respect for you and the command you have of your brief but, with respect, you are not answering my question. You are answering a number of other issues, which I have no truck with you about, I absolutely agree with what you are saying, but what I am really trying to get at is the issue of lack of trust on behalf of the public in those companies, and the capacity that that lack of trust in those companies will have on your effectiveness in delivering Green Deal, in delivering smart meters and in delivering the Smart Grid, and that is what I would like you to focus on.

Charles Hendry: Yes. There are two separate aspects. Lack of trust is a matter of concern and, therefore, the steps that need to be done to address that relate to transparency, they relate to liquidity, they relate to consumers feeling that they are able to get a good deal from their supplier. That is separate from the work that we need to do. We can’t meet our challenging objectives, in terms of rebuilding the energy infrastructure, without the big six. If they decided not to invest-and they are global companies-we simply can’t do it.

Q152 Barry Gardiner: I agree with you, so let me phrase this in a yes/no answer way. I did not want to try and corner you but let me try and do it in this way so that we do have clarity. Do you believe that the public’s lack of trust in the suppliers will have an adverse impact upon the Government’s capacity to deliver Green Deal, smart meters and Smart Grid?

Charles Hendry: No.

John Robertson: That surprised me. I was really putting money on we wouldn’t get a one word answer there, but there you go. Well done, Minister.

Chair: You could try a one-word question on that.

Q153 John Robertson: Minister, you talked about choice and confidence and yet we heard from Ofgem that basically 20% of people understand switching, and the other 80% obviously have no confidence in the system or understanding of it and, therefore, don’t have choice. So is it not a case where we need to simplify the system so as the 80% have that opportunity to get the best deal they possibly can?

Charles Hendry: I am one of the 80%. I went on line to compare my tariffs and I was so confused by the options that I decided to stick where I was, and I think I am probably not untypical in that respect. I think that is one of the reasons why the legislation going through, the Energy Bill, which will require information on people’s bills about the cheapest tariff available from their suppliers, is going to be an important part of that, because when you start to compare the different time of day tariffs, the green tariffs, the whole range of them, that you can’t begin to work out where you are better off, and the evidence from Ofgem is that half the people who do switch end up on a higher tariff than they started with. So much greater clarity has to be part of the solution.

Q154 John Robertson: The other thing that was self-evident to everybody here was that there was a lack of confidence in the big six, not so much lie to the customer but not to perhaps tell the full story. Therefore, if you don’t have that kind of confidence then, again, you don’t have the choice of being able to go to a company that you can trust. Is it not a case that Ofgem really do have to get more teeth to take on these companies, and perhaps you could also comment on something that I mentioned earlier, is it not time that the big six should not be the big six and perhaps should be a slightly smaller 12?

Charles Hendry: I think it depends on whether you mean big six in terms of retailer or in terms of generation, but we do-

Q155 John Robertson: We will talk about retail at the moment; generation is different, it takes lots of money for that, but in the case of retail where the ordinary person is the one that is affected, that is my constituents, for them to get a better choice, then do we not really have to break the six up?

Charles Hendry: I think what we have to do is to bring in new entrants, and those don’t have to be small new entrants, the co-ops coming into this area, and they could come in in a very big way. There are other trusted High Street retailers who are indicating they may wish to come in and could immediately be a big retailer. They would shop around for the best deal. I think consumers would find that quite a comfortable way of making sure that they get the best deal in that, and I think that competition would put significant pressure on the big six as well. So I don’t think it is a question of breaking them up but what we do have to do is to get more players in the market.

Q156 John Robertson: If you are up against companies that size, you don’t have much chance of getting some have you?

Charles Hendry: If you are the co-op or you are one of the other big High Street retailers you have incredible market presence and clout-

Q157 John Robertson: Do we not just create another large company that, in effect, the consumer does not have any faith in?

Charles Hendry: Then I think you give the consumer real choice, you give the consumer a choice between a vertically integrated company, which owns the generation through to the retail, and between those whose job is purely to retail and to find the best deal.

Q158 John Robertson: I have to tell you, Minister, I am looking at these tables here that tell you what the price of electricity and gas is on average to the customer, from all these companies, and I have to say I can throw a blanket over them all. There is no choice. There is very little choice in cost and the amount of money. The only one that sticks out is ScottishPower because they have already added on the extra 20% and 10% on to their prices, but other than that they are all the same. So where is the choice?

Charles Hendry: They are buying in the same wholesale market, so they are buying gas at the same price for their gas generators.

Q159 John Robertson: Where is the competition? If everybody buys something at the same price, and they all sell at the same price, then there is no winner here. You can go anywhere and it spreads. Where is the competition for these companies to make a profit that makes them better than the other company? They are all playing the same game here. I mean we are basically working a cartel here with all these companies.

Jonathan Brearley: If those prices were higher than they should be and if people could make unfair profits, then you would expect to see new entrants coming into the market. For example, you could see people like the co-op coming in. To make this work there is a critical thing, which is different in energy compared to other markets, and that is the ability to be able to buy forward and hedge your position. So if you come in just as a retailer rather than a vertically integrated company, the advantage that the vertically integrated might have, some say, is that they have an automatic hedge against the gas price going up and down, which controls most of your costs. So when the gas price is low you can offer a low tariff but when it is high you have no way of getting into-

Q160 John Robertson: So if this company would hedge against it, then it would end up cutting its competitors?

Jonathan Brearley: My point being that if you look at what Ofgem is doing in terms of the Retail Market Review, and its work on liquidity, it is to make sure we have those forward markets, which don’t exist in a strong enough form now, that would allow that insurance to happen, that would allow new entrants to come in because the best way to get competition is to say if the incumbents in the market are making too much money out of this somebody else should be able to come in and do it, and we are beginning to see that with the co-op and we do hope others will follow that.

Charles Hendry: There is a real difference as well, in that the online prices that are available do show gains for consumers, the direct debit arrangements offer real gain to consumers. So there are pricing structures-

Q161 John Robertson: That doesn’t help the real couple up in Drumchapel in my area because they can’t get access to all these online facilities. I want to help them because, in a sense, they are the people that need the help the most. There is no competition; there is no choice for them, not in the slightest. I expect you, Minister, to try and give these people the best deal that is possible, and I don’t expect to see six prices that I can throw a blanket over. I expect them to be in competition with each other, whether they are going from one end of the market or another end of the market, I don’t expect them all to have the same prices.

Charles Hendry: There is variation; you see different increases in prices. If you look at the last round of prices they go between 0% for EDF for some of their prices and 9% for others before the ScottishPower ones came through, so that there is variation in terms of how those prices change over the time. I think the most significant problem at the moment is the lack of clarity, and what people are buying into about how a tariff will change over time and whether people are buying into something that will give them a real long term benefit, or whether it is a short term benefit and they need to continue to look around afterwards.

Q162 Sir Robert Smith: Considering the tariff issue and your own experience of going on line, do you support Ofgem’s basic conclusion about reducing the number of tariffs and having just the one Evergreen tariff?

Charles Hendry: I think having an Evergreen tariff has real benefits. I think that there are practical differences about going too far in reducing the number of tariffs, that some are very historic and do you want to force people to move off a tariff that they have bought into? So I think having an Evergreen tariff, which a consumer knows that they can look at and that is going to be the most beneficial one and run by a certain set of guidelines and rules, will bring benefits to the consumers without doubt.

Q163 Sir Robert Smith: Is it important that there is a discounted social tariff that is related, so that the person who can’t shop around who may be finding their bills most challenging benefits from the market?

Charles Hendry: The benefit of being able to benefit from the market should be available as far as possible to all consumers and, therefore, to people who are on social tariffs that one wants them to benefit in the same way. It is going to be more constrained inevitably but, nevertheless, the principle of people being encouraged to look around, able to switch, to have a clarity about where they are switching to and how that may benefit them, should apply to all consumers.

Q164 Sir Robert Smith: On the earlier point about consumer confidence, is it still the vision, as was up till now, that the retailer of energy is probably the main source of marketing and information for the energy saving as well, or do you see other companies coming into that market?

Charles Hendry: I think we will see many others coming into that market. I think one of the issues involved in the Green Deal is it is going to bring in a lot of people, in terms of the insulation industry, some of the High Street retailers; they are all keen to be part of the energy efficiency market as well, and so there will be many people who will be giving advice, and that is why in the course of the Bill going through we spend quite a bit of time focusing on doorstep selling, on what is going to be permissible for people to try and sell on doorsteps.

Q165 Dr Lee: Liquidity: do you think the dominance of these vertically integrated supply generators are an obstacle to new entrants into the market, Minister?

Charles Hendry: The dominance of large companies clearly makes it more difficult for small new entrants to come in, particularly where you have an online pricing approach, perhaps, which undercuts smaller companies’ ability to compete. So I think that is a matter that needs to be clearly focused on. I think if you were to see larger companies-the High Street retailers-coming into this space, then they do have the financial clout to be able to come in in a more substantial way. What we have been concerned to do is to try and reduce some of the pressures. So, for example, the environmental requirement on companies we have lifted now to having to have 250,000 customers before you start being involved with the CERT programme, so to try and reduce some of the other pressures on the smaller companies to enhance their ability to grow and to compete effectively.

Q166 Dr Lee: The previous panel, Ofgem admitted that they were perhaps a bit slow out of the traps on competition, the big six. Do you think they are equipped to deal with the low liquidity problem?

Charles Hendry: Yes I do. I think the work that they have been doing on liquidity has been very important. I think the requirement on auctioning is going to be part of the process of assisting that and making a more liquid market and I have no doubt, in terms of their instincts, that where they are coming from is that they absolutely share our view that we need a more liquid market.

Q167 Dr Lee: I was quite amazed with the admission that four years ago they realised there was a problem, and yet there seemed to be no discernible response by Ofgem to the absence of competition. If they are not successful in improving liquidity, will the Government intervene directly themselves?

Charles Hendry: I think the right framework, and I think that is where we are getting clarity that wasn’t there before, is the greater distinction between the role of the Government, which sets the framework, the strategic framework, and then the role of an independent regulator to make things work within that. Government will set out its desire to see greater liquidity, and then it is Ofgem’s job to make sure that that is delivered and that we get new entrants coming into that market. So we set the objectives and exactly how those are delivered then quite a lot of that would be for the regulator rather than the Government itself, but there is no doubt by Government that we want to see new entrants in the market. We think that is good for prices. We think that is good for consumers.

Q168 Dr Lee: Do you think if the low liquidity problem continues that this will be a threat to the proposed electricity market reforms?

Charles Hendry: EMR is also designed to address that issue, and so the way in which the EMR is structured-and Jonathan is leading on this, so I will get Jonathan to add to it-is designed to encourage new entrants to come into the market. The contract for the different structure that we proposed would be part of that process, for specialist generators to benefit under the capacity mechanism. So I think the whole structure of that is designed to enhance that, but, Jonathan, please add to that.

Jonathan Brearley: Yes absolutely. So if you do have a long term strike price then you are, to a great extent, insulated against some of these variations in the wholesale price I described before. But liquidity is a fundamental part of EMR, and if we are going to have reference prices in different markets we need those markets to be liquid and we need those markets to allow people fair access to be able to sell their products, more from a generational perspective. However, I think we share this objective with Ofgem. I don’t think Ofgem are saying that they don’t agree with us. We all want to see both more liquid markets in terms of the short term but, particularly, in terms of those longer term markets I described, and the ability for retailers to be able to hedge against their position and to be insulated against some of these changes. I think that is the thing that will help new entrants into the retail market as well as helping EMR.

Q169 Dr Lee: What would your response be to Drax Power’s assertion-they told us during our EMR report-that the capacity mechanism could reduce wholesale market liquidity "as the volume of capacity that is subsidised increases in a market that already suffers from low liquidity". What is your response to that?

Jonathan Brearley: The key question on liquidity in the market is the transparency at which people trade and how much volume goes through the market. Now there may be a marginal impact of a capacity mechanism but lots of other good liquid markets have capacity mechanisms. The much bigger issue is: how transparent are the existing trades between the larger vertically integrated companies and how much of their product is traded on a kind of open basis, for example through a process like the auctions that Ofgem were describing. Those to me are much bigger factors than the impact that a capacity mechanism might have.

Q170 Dr Whitehead: As far as the role of Ofgem itself is concerned, we just completed the Ofgem review. Could that be characterised as a Government capture of Ofgem, do you think, in terms of what you said about the strategic direction of Ofgem and the stronger role of the Government in setting its direction.

Charles Hendry: I think what it is providing us greater clarity, and we are certainly not seeing the Government moving into the work of the regulator. We are saying that it is the role of elected Ministers to set the policies, the strategic direction for the Government. That will be set out in an annual strategy and policy statement, which will be there for the life of the Parliament, and then within that framework Ofgem will regulate. So there is no diminution of the powers of the regulator, in terms of what is expected of it under the European requirements of the independent regulator. Indeed, I think that can readily be enhanced by making it clearer what its remit should be.

Q171 Dr Whitehead: What particular limitations and safeguards would be put in place to protect and ensure the independence of Ofgem, once that strategic shaping of the remit of Ofgem has taken place?

Charles Hendry: Ofgem is not accountable to us. It is accountable to Parliament and its budget is agreed with Parliament. So it already has that independence and what we are seeking to do is to give a greater degree of clarity to the respective roles of the Department and of Ofgem. To give a practical example of that: at the moment it is not clear that if the Government decided its priority was decarbonisation and moving to a low carbon economy, and if Ofgem decided its priority was energy security it is not clear which of those would have legal primacy, because the legislation makes it clear that Ofgem has flexibility within those. What we are saying is that it should be Government that sets the policy directives and then, that being set, Ofgem should be a truly independent regulator. So we are not seeking in any way to fetter its powers, but we are seeking to focus them.

Jonathan Brearley: Can I add that the EU third package is very clear about the areas in which a regulator should be independent, and nothing we said in the review is meant to undermine that. We all want an independent regulator and we want that for a series of good reasons, which means sometimes we can’t do some things we otherwise might want to do and I am sure some things you might want us to do. That is to give clarity to investors so that they can get the long term certainty they need.

Q172 Dr Whitehead: So how do you distinguish between a regulatory decision and a regulatory strategy that may diverge from the strategic hierarchy that the Government has set out for that body? Is it not the case that decisions tend to follow from strategy and, therefore, can be dug down into for the purpose of stating that they are diversion and strategy and, therefore, they should not have taken that decision?

Charles Hendry: I think if they were to make decisions outside the new framework then that would be an example of that happening, but the relationship that we are seeking to have with Ofgem-and Ofgem have been very keen to work with us in this direction-is to have a very clear sense of direction set by Government for what is the wider Government energy policy and the relative balance between affordability, decarbonisation and security of supply, and for them to have the very strong regulatory powers that they need in order to drive forward competition and the best deal for consumers.

Q173 Dr Whitehead: If they are underperform against those strategic goals that have been set by Government, how would they be held to account?

Charles Hendry: How would they be held to account?

Dr Whitehead: Yes.

Charles Hendry: As I say, they are accountable to Parliament and therefore the way in which they are brought before this Committee, which is very effective in holding Ministers-

Q174 Dr Whitehead: Forgive me, but isn’t there a difference between giving an account and being held to account, and when you say they are accountable to Parliament you are effectively saying they are accountable to Parliament by way of giving an account to Parliament. That is different, isn’t it, from being held to account?

Charles Hendry: I think if you look at the work of this Select Committee, you are holding us to account. I think that is the way in which these Select Committees work and that the parliamentary structure works.

Jonathan Brearley: Is it worth talking a bit about how and why we came to the conclusions we did on the Ofgem review? If you were to go back five or 10 years then, in a sense, the roles of Government and the roles of the regulator were much more separable than I think they are today. You had a world where you were minimising costs; you were sweating assets and so essentially our decisions were still overlapping but much more separable. With decarbonisation, these decisions overall become much more interlinked, and the thing we heard most from all of the people we talked to within the Ofgem review, and about the relationship between Ofgem and the Government, was a sense of confusion as to who was doing what.

So, for example, when Ofgem makes its judgment on the type of network that we might need, it is going to have to make a judgment on how successful we are or are not going to be, in terms of rolling out heat pumps and getting people to have electric cars; when it thinks about its eight-yearly price reviews, for example. So what this is an attempt to do, as Charles said, is to more clearly delineate between the context that Government needs to provide, the policy statement the Government needs to make and, therefore, allowing Ofgem the space to carry out its independent regulatory decisions within the context of the policy that government sets. It is that kind of delineation that we are trying to get through the Ofgem review.

Q175 Dr Whitehead: Yes I appreciate that, and there clearly is something of a dilemma, for example, in making Ofgem’s strategy decision-making operations more transparent, and presumably putting a strategic guidance process in place that enables that to happen. That is a process change. Nevertheless, there has to be some sort of point, I assume, at which the independence of Ofgem to take decisions on a regular basis, while it is informed by those process arrangements it, nevertheless, remains separate from what that strategic guidance sets out, in terms of the extent to which Government may do more than shape those decisions and the point at which, therefore, the strategic guidance becomes a point at which Government simply checkmates those decisions or takes over those decisions?

Jonathan Brearley: There is a limit to what one can do within the legal framework, to guard against every single behaviour on both sides. I don’t think it is our intention to try and second guess Ofgem or to try and make Ofgem’s decisions for it, and I don’t think any of us want to be in a world where DECC tries to do that because the record of Governments making detailed regulatory decisions is pretty poor. What we are trying to do is to say, "Look, there are a series of strategic policy decisions that we are going to have to make as Government." In doing so, we provide the context that allows the regulator to more effectively make their decisions and ensure that we are both more effectively joined up. So therefore, I don’t see this as a vehicle through which we would necessarily try to interfere with what Ofgem does, but we all have to accept that, if we don’t have a shared vision of where we are trying to get to, then it is very hard for both sides to be working in the most efficient and effective way.

Charles Hendry: I would tend to think, as a Minister in DECC, at the moment we have enough to do without trying to be the regulator as well, so we have a very clear distinction in our own minds about what we think is the role of Government and where the regulator comes in. The annual statement-the strategy statement-will be jointly worked out by Ministers and by Ofgem. It will not be the Government simply saying, "This is how it is going to be, you must live with this," it is going to be something that evolves through discussion between the Department and the regulator and, therefore, if there were ever areas where the regulator felt that we were transgressing, as Government, into the area-which, as set out under the European Directive, should rightly be that of the regulator-I would expect them to forcibly push back and say, "You are going too far," and we would have to take account of that.

Jonathan Brearley: Just to say European law is very clear on this. It is very clear on what are the auspices of the regulator and what the auspices of Government are.

Q176 Barry Gardiner: Have you ever or would you ever advise your family, your children, to buy a major financial product on the doorstep?

Charles Hendry: No. I haven’t. Sorry, no, to the first part. I have never.

Barry Gardiner: Would you ever advise your children to do so?

Charles Hendry: I am one of those people who don’t like being phoned at home. I don’t like people knocking on my door. So I am perhaps a particularly grumpy offensive customer, so I am a bad person to-

Barry Gardiner: Would you ever advise your children to do so?

Charles Hendry: If it was the right package and it suited them. I wouldn’t say there should be a blanket rule against it, but I personally don’t.

Q177 Barry Gardiner: You have just ensured that you are going to say no, I think, to my next offer to you, Minister, which was to be the consumer champion, the champion of the public, and to give the general advice to the nation-not just to your children-that buying things, particularly complex financial products, on the doorstep is never a good idea. You are not prepared to say that to consumers?

Charles Hendry: I am not prepared to say it is never a good idea but I would-

Barry Gardiner: Usually a bad one?

Charles Hendry: But everybody should exercise caution and so-

Barry Gardiner: Is it usually a bad idea?

Charles Hendry: I don’t even think it is fair to say that because I think there are good products that are sold on doorsteps; I think there are significant-

Q178 Barry Gardiner: I agree with you, when it comes to washers for the car and things for the kitchen sometimes you can get a pretty good deal on the doorstep. But that is hardly a major financial product, is it?

Charles Hendry: But I think that what I have shown from my own description about my consumption pattern so far, is that I am a rather static consumer and I don’t got into the-

Barry Gardiner: Okay, Minister, I just tried to help you become the consumers’ champion, but you have resisted.

Charles Hendry: I am very grateful for your help, but my advice to them is to exercise caution; always exercise caution, but they shouldn’t assume that everything they are being sold on the doorstep is to their disadvantage.

Chair: Even Cabinet seeking votes at elections?

Charles Hendry: Particularly.

Barry Gardiner: Always exercise caution in that case, Chair.

Charles Hendry: Well, that is a contract with no get-out.

Q179 Barry Gardiner: The recent prosecution by Trading Standards suggests that Ofgem is not doing enough. I don’t want to talk about that prosecution, but it suggests that Ofgem is not doing enough to protect consumers from potential cases of mis-selling. Does Ofgem have the adequate resources and how will your proposals under the review improve the situation?

Charles Hendry: I think the work that Ofgem has been doing recently shows the importance that they are now attaching to this. They certainly have not told me they don’t have sufficient resources to do it, and bear in mind that their funding for their work is paid by industry, if not funded by Central Government, so their costs are recouped from industry so they do have the ability to take on more people for carrying out their legal duties if they see that is appropriate.

Q180 Barry Gardiner: Do you believe it is practical to incorporate the standards of conduct into new or even existing licence conditions?

Charles Hendry: It is possible, but where the limitations and the difficulties in that will be then-

Jonathan Brearley: Ofgem have already introduced new rules around doorstep selling, standards of conduct, and particularly standards of information, and they are already investigating allegations that four out of the big six may have breached these. We will have to see how that goes and monitor that and make sure that that works.

Q181 Barry Gardiner: You may have caught it, or your officials may have told you that I asked Mr Buchanan earlier whether he thought it might be a good idea for Ofgem to have their own switching site and for bills to have on them an address, a web address, that they could get in touch with, to then, with their bill in front of them, compare what they would have been charged if they had been with other suppliers over the billing period and, hence, make an intelligent decision about whether it might be appropriate for them to switch tariff or switch supplier or not. Would you welcome such a move?

Charles Hendry: I think there is benefit in that. I think there is also benefit in giving people an indication on their bill about how their household consumption would typically compare with a similar house in their locality, so they can decide whether they are using more than they might expect, or that they are efficient consumers. It doesn’t give them clarity but it gives them the right question to ask and knowing whether they are doing that sensibly. I think there is a balance to be struck between information that is truly useful and a lot of information that becomes confusing, and sometimes we can give an enormous amount of information, in the name of openness, which actually ends up confusing consumers rather than helping them.

Q182 Barry Gardiner: That is what has happened, hasn’t it?

Charles Hendry: I think that has happened. So I think we need more relevant, more concise information, which is very directly targeted at helping consumers.

Q183 Laura Sandys: Thank you, Minister. Following up from Barry’s point regarding trust, and linking that into the Green Deal, would you be happy for the Green Deal, which is a Government initiative and demands a huge amount of trust-particularly when we look at the example in Australia where in many ways the trust was undermined-to be sold on the doorstep in this current fashion, or would you want it to be sold through a more sophisticated and more deliberative method?

Charles Hendry: You have gradations; if you look at how some of these products are sold-solar heating, for example, solar thermal-at the moment you get people who knock on your door and say, "Would you like this?" You get leaflets that come through your letterbox. You get other adverts. Exactly where you draw the line for what you think is acceptable is quite a difficult balance to strike. I think in all of these issues there have to be very strict controls on what can be sold when people make their initial appearance on the doorstep. There has to be time for people to reflect; there has to be time for them to think about other options and to opt out if they subsequently wish to do so, and that would have to be an integral part of practice.

Q184 Laura Sandys: So you would make a differentiation between being informed on a doorstep and sold on a doorstep, and I think there is quite a significant difference there.

Charles Hendry: I think there is also an issue, which is concern about the selling of additional products as well. If I can mention smart meters for example; you have someone installing a smart meter for you, I am nervous that the installer may say, "And by the way your wiring is not very good but my mate Billy can do that for £500", and if you are an older person living on your own you may be sufficiently worried, you think, "I’d better get Billy round straight away", and so the control is on cross-selling, which I think will be a key to maintaining consumer confidence.

Q185 Laura Sandys: So as we go forward with the big six being one of the largest groups of deliverers of the Green Deal in many ways, and certainly presenting the package of the Green Deal, you would like to have a significant say in how that was marketed and sold?

Charles Hendry: What we are doing, certainly for smart metering, and I think it will be for the Green Deal as well, is a code of practice. A code of practice is not a voluntary thing for the smart metering. It is a licence condition; it is obligatory, they have to sign up to it in terms of how they engage with consumers. So there are ways in which we can put very strong conditions on. These have been drawn up by a combination of the industry, the consumer groups, the trade unions, so it has been in a very robust way, which is getting a lot of buy-in on the smart metering side. I think that is the right way of dealing with this, but clearly if there are abuses then either the regulator or the Government would have to get involved.

Q186 Chair: Do you share the concern of this Committee that the scale on which mis-selling by energy companies may be very much larger than we had previously known.

Charles Hendry: I haven’t seen the evidence to support that, so I don’t think I can say yes or no on it.

Q187 Chair: The issue seems to be one which could rather undermine confidence in a lot of the things the Government is trying to do, so if we do find evidence-and I think this Committee is inclined to pursue this matter-I hope that you would be prepared to react robustly and promptly to anything that we uncovered.

Charles Hendry: It is an integral part of this market working properly that products should not be mis-sold and that, I believe, is a bad business practice and it should be stopped. I think it is interesting to see today that one of the major companies is suggesting it may pull back completely from doorstep selling because it believes it has now had a very bad reputation and, therefore, this may be something that industry itself will rectify. But clearly, if there is evidence that you have or that others have, then we would be prepared to act extremely robustly because mis-selling is wrong.

Q188 Chair: Do you think a company that makes that decision is one that had complete confidence in the integrity of its sales practices?

Charles Hendry: I don’t think I can answer that one. You can look at it either from a company that has seen that the work that it is doing has been, they would say, undermined by what has happened by others, or else they are saying that because of the scale of the workforce you can never be 100% certain that when you’re offering people incentives they overstep the mark. So I can’t say what their decision would have been based upon.

Q189 Sir Robert Smith: I think, Minister, you had already arrived in time to hear Ofgem’s view on this. We have been looking at a lot at the protection of domestic consumers, but there isn’t much difference in terms of knowledge and skill between a domestic consumer in this market and a small business or micro business that isn’t concentrating on energy. So do you feel that more needs to be done to protect that kind of consumer as well?

Charles Hendry: I did hear the questions and the regulator’s answer and, as the regulator was saying, this is an area that we are in discussion with the regulator about as to what are the appropriate powers they should have and should that be extended to other areas. He was talking about intermediaries, about how one protects people from mis-selling by intermediaries. There is a code of practice in the UIA. Does that need to be taken further? So exactly what Ofgem’s powers should be in this respect is something that we are looking at as part of the review.

Q190 Sir Robert Smith: Do you share their concern though that those consumers at the moment do face quite a challenge?

Charles Hendry: There is undoubtedly greater protection for the domestic consumer than there is for the small business and, in terms of the issues that they’re facing, I think you are absolutely right to say that there is very little distinction between the issues that they face and their ability to make sense of the different tariffs and options.

Q191 Sir Robert Smith: Finally, I think earlier on you recognised that we are in a basically rising price situation, probably globally and definitely domestically, barring some miracle, and what we are looking at making sure that people don’t suffer unnecessarily from the rising prices. We can’t hold a panacea that all these reforms and things are going to suddenly create a consumer’s nirvana. But in monitoring the working of the system in the UK, do you have any sense of where we rank with our European neighbours in terms of consumers of electricity and gas, in terms of those bills?

Charles Hendry: If you look at the EU15, so the major economies in Europe, we are fourth lowest in electricity prices across those and our prices are, on average, 20% below the median prices across the EU15 and for gas we are the absolute lowest of those countries and the prices is typically 30% below the average. So I think it is worth putting it into that context at a time when people are understandably concerned about prices. We often consume more electricity and gas than some of those European counterparts because we do have colder winters and so sometimes-

Sir Robert Smith: And poorer housing stock as well.

Charles Hendry: Yes, and less insulated housing stock.

Q192 Sir Robert Smith: So we must not be complacent?

Charles Hendry: Certainly not.

Q193 Dan Byles: I would like to come back to the Strategy and Policy Statement that Ofgem will be required to report on with regards to delivering the policy requirements. Can you just go a little bit further over how you see that happening? Do you anticipate DECC will effectively set out the policy outcomes expected in qualitative and quantitative terms for Ofgem to then report on? I mean, how do you see that process happening?

Charles Hendry: Can you expand on that in terms of what sort of areas you think-

Dan Byles: Do you envisage that DECC will set targets and benchmarks? Because Ofgem will be required to report annually, will they not, against how they are doing against delivering the required policy outcomes? That seems a bit woolly unless-if they’re deciding themselves how they’re reporting, or are you going to set down, "We want to see this; we want to see that; we want to see the other"? Are you going to set down measurable targets, for example, for them to report against?

Charles Hendry: We are still deciding exactly the structure of the statement. The history of targets, I think, doesn’t give one a huge amount of confidence in them. We should have had all vulnerable households out of fuel poverty by last year and all households entirely should be out of fuel poverty by 22 November 2016.

Q194 Dan Byles: Are you saying that is not going to happen?

Charles Hendry: Well, I don’t think it is morning or afternoon yet, but it is a challenging target and I think, to us, what we are saying is wherever you have a target you have to have a roadmap. You have to have a delivery plan and that then brings the question of, "Is it Government’s job to deliver on a target or is it the regulator’s job?" So clearly one wants to give Ofgem as much clarity as possible about the structure that we are trying to deliver in, but it has to be measurable and meaningful.

Jonathan Brearley: Just to add, one of the things we are now doing as part of the next stage of the Ofgem review, or the post-Ofgem review work, is to specify exactly what those might look like. So when we come to legislate this, we hope to have something that says, "This is roughly how it would look. We haven’t fixed all these things but here are the parameters and here is the way we would set it out". It is a genuine trade-off for us because obviously, as mentioned before, we are mindful of the independence of the regulator.

Q195 Dan Byles: Yes, I accept that. Do you anticipate the annual reports on progress from Ofgem to DECC, to Parliament or to both?

Jonathan Brearley: What we are not doing is changing Ofgem’s reporting line. So we are not suddenly having the same kind of accountability you might have on NDPB and so on. I would expect DECC to have a discussion with Ofgem about how it is doing and I would expect Parliament to hold them to account, as they do now.

Q196 Dan Byles: Having a conversation isn’t quite the same though as an annual report, is it? Who decides if they are on track or off track?

Charles Hendry: I think it is a combination. This would be a public document, obviously. It would be made before Parliament and so there is scope for a parliamentary debate on it. If we don’t feel our objectives are being met, we clearly would need to decide what action needs to be taken by us or by the regulator to get us back on track.

Q197 Dan Byles: But you would see that as DECC’s role? You would see DECC’s role as saying, "Thank you for your report. We don’t think that you are performing well enough in moving towards the desired policy outcomes and so we want you to do this, that or the other", or, "We want you to come back and tell us how you are going to get back on track"? You would see that level of scrutiny form DECC?

Charles Hendry: Absolutely, and that ties as well with the annual energy statement we have committed to making every year. So we can look at the issues coming up for the forthcoming winter. We can look at how we are moving towards the targets and the objectives that we have set and that is parliamentary debate, so it is a-

Jonathan Brearley: But I think what we wouldn’t do in that process is contravene the independence of the regulator; so there are limits to what we can say Ofgem must do. Of course we can, and we do now, say where we think things should be different and we do have ongoing conversations with Ofgem, but it is Parliament, ultimately, where they are accountable.

Q198 Dan Byles: You said you were going to look at this in more detail as to how it is going to work. Do you think you are going to be able to articulate a bit more clearly just where that boundary is? I mean, I do understand the problem that they are independent and it is quite difficult to have an independent regulator reporting to DECC and Parliament about how well it is doing against policy outcomes laid down by DECC and yet DECC is not directly responsible for them because they are independent. It just seems a little bit confused and I don’t know where that boundary should be. Do you think you’re going to try and explore that a bit more or would it be helpful to lay it down a bit more?

Charles Hendry: The statement will be required by primary legislation; so in the next Energy Bill. Then we will be legislating for this and that will need to set out what the powers of the Secretary of State are in setting it. So when we come to the legislation then there will be the clarity that is necessary for that.

Q199 John Robertson: Moving back to transparency, consumer groups suggested to us that greater transparency from energy companies in the reporting of their accounts would improve consumer trust in the market if they could see components that made up energy prices. So are tougher reporting conditions needed to achieve this?

Charles Hendry: I listened with care to what the regulator was saying on this and I think there is a fine balance as to what the powers are that are appropriate for a British regulator to have in terms of the detail which they’re entitled for international companies. The understanding that I have is that the margins that they’re making on their UK products are significantly less than their global margins. Now, these are companies that hold a vast range of interests in a wide range of different countries. But the extent to which it is feasible to have greater clarity I think will be beneficial for the regulator and I think will be beneficial for consumers, because if consumers know where the profits are coming from then they are more understanding than if they feel that they are paying for them.

Q200 John Robertson: Do you UK levels of transparency put UK energy companies at a disadvantage?

Charles Hendry: In what way do you think it would put them at a disadvantage?

John Robertson: Well, in relation to their European competitors, if we are more transparent or less transparent to European companies; therefore, people might be using the European companies as opposed to the UK companies.

Charles Hendry: If you look, for example, at our biggest companies like Centrica, then we have a better understanding of how Centrica is operating than we do about companies that are headquartered outside the United Kingdom. As I say, the clarity is beneficial but there will be very strict limits on our physical ability, our legal ability, to require information from the parent companies.

Q201 John Robertson: Yes. What is the Government’s position on ScottishPower in relation to the £800 million that went to the parent company in Spain, which then subsequently was forwarded on to an American company, another subsidiary of them, to subsidise them,?

Charles Hendry: I think one has to look at this within the wider flows that are going on. There will be funds that are being transferred to Spain or to the United States. There is, equally, enormous investment coming from Iberdrola into the United Kingdom.

Q202 John Robertson: Yet you said a moment ago that the margins of profit were less in the UK than they were compared to the global market. So why are we subsidising globally rather than looking at our own people?

Charles Hendry: My understanding is, for example, if you’re looking particularly at ScottishPower, that their margin on their UK domestic supply is 1.7%. Their global margin was 18.4% and so the UK represents a very small part of that, but we are getting an enormous amount of their global investment.

Q203 John Robertson: Yes, but that will be a net cost, or will it? In other words, will the £800 million have been taken off that total before they even calculate it?

Charles Hendry: Absolutely. But then if one looks at the billions of pounds they’re investing in renewables-

Q204 John Robertson: But you see, Minister, I go back to what I said earlier. I want to talk about the real couple up in Chapel who are now subsidising some nice rich people in America for getting cheaper electricity, whose price rises range between 2 and 8%, our price rises have already started at 19% for gas and 10% for electricity. Should we not be more concerned about our own people rather than somebody else’s?

Charles Hendry: But there are two sides to that, Mr Robertson. First of all, there is the price that people are paying today. Secondly, what do we need to do to keep prices affordable in the future? If we drive away companies like Iberdrola, which are looking to invest billions of pounds in our energy infrastructure, prices will go through the roof and it will be your constituents-particularly yours in Scotland with higher electricity and gas consumption than other parts of the country-which will suffer most. So we have to maintain this country as an attractive place for international companies to invest. We need £200 billion pounds of new investment in our energy infrastructure over the next 15 years. We have to secure investment at twice the rate in this decade as in the past decade. If we don’t do that, your constituents will pay an incredibly heavy price.

Q205 John Robertson: Again, with respect, Minister, we haven’t had the problem of people not investing into electricity companies. So there must be money there to be made and most of our big companies now are owned by other global companies. So I don’t think this is a problem. Let me move on to-

Charles Hendry: But if I may respond to that. We need to secure investment at twice the rate in this decade than in the past. So we have seen investment coming through but it has not been of the magnitude that is necessary. It also hasn’t been of the low carbon nature that is necessary.

Q206 John Robertson: Well, it certainly won’t be invested if you take the money out of the country and don’t leave it in the country. So that also has a knock-on effect and if you’re taking money out of the UK and taking it via Spain to the US then I can imagine companies wondering why you would want to invest in the UK; unless, of course, you were doing some form of asset-stripping. But let me clarify something, because you talked about clarity to do the job in relation to Ofgem. I asked Ofgem if they needed more teeth and they were very nice about not answering the question. You have already said that accountability is to Parliament, yet it would be DECC that would have to bring forward any Bill and you said that with the new Energy Bill. Do DECC need to have more teeth to be able to handle these companies who, let us be fair, do not exactly do things unless somebody makes them do it?

Charles Hendry: I think it is a question of whether the regulator has the teeth rather than whether-

John Robertson: Well, that is what I am talking about. You have already said you need to have primary legislation for this.

Charles Hendry: In terms of the powers that the regulator currently has and the power to make a referral to the Competition Commission, which would give a great deal of focus and light in some of these areas but would take two years and deter investment over that period, the regulator already has a tremendous amount of power. What it has sought to do over recent months is to explain to the industry very clearly that it is serious about the changes it wants to see; it is serious about the auctioning issues, about new entrants coming in and the liquidity issues. The report that they issued today, I think, shows that industry has responded to that pressure. Now, that is the right way for the regulator to work.

Q207 John Robertson: Well, just watching and making a statement isn’t exactly the answer that we are looking for. I want the regulator to have such powers that will make companies think twice before they start ripping off this country.

Charles Hendry: But then what we have seen as well is the regulator expressed real concern when margins reached £90. They then came down to £75 and the report today suggests that those retail margins are down to £15. So the actions that they have taken have resulted in significant drops, but we must at the same time remember that we are doing it against a backdrop of rising prices in wholesale prices, which are 30% to 40% up on a year ago, and that is bound to impact consumers, both domestic and industry and business users. We can’t suggest that, at a time when there is that degree of upward pressure on prices that looks as if it is going to continue, we could be expecting prices not to be going up in this market. On top of that we have this incredible rebuilding change.

Q208 John Robertson: Yes, but do we expect all the companies to put their prices almost in line with each other? Where is the competition?

Charles Hendry: Well, we have discussed that, I think, a bit earlier.

Q209 Sir Robert Smith: Just one other thing on the relationship between DECC and Ofgem is on E-Serve’s role and the delivery of programmes. Who will make the case for responsibility for specific programmes lying with either the Government or E-Serve in the future?

Charles Hendry: The Government will. So the existing programmes that E-Serve are running they will continue to run, but as new programmes come forward we will decide whether it is best to be run internally within DECC, whether it should be handled by E-Serve or whether there is another power that should do that.

Q210 Sir Robert Smith: What sort of criteria would be a factor in that sort of decision?

Charles Hendry: The advantage that E-Serve has, because it is run by the regulator, is access to additional information that a commercial contractor couldn’t have. There are some projects that need a certain amount of financial detail that it would not be right for a commercial company to have and so that needs to be done by Government or by a Government institution. There are others that we think can be run by contractors separately and, therefore, which could be run by others on that basis. What we would try to do for each project is decide who is best placed to do it given the requirements for confidentiality and the information that we required.

Q211 Sir Robert Smith: Are you coming up with a 10-point plan for improving your working relationship?

Charles Hendry: With the regulator?

Sir Robert Smith: Yes.

Charles Hendry: I think things have improved dramatically in any case. I think what had been quite a stand-off in the past between the Government and the regulator is now a more constructive relationship. But I think what we have to try and make sure is that, moving forward into the future, there is clarity about who does what and how those structures should work and so putting that on to a more formal footing is probably beneficial.

Chair: All right, thank you very much indeed for a very useful exchange.

[1] Note from the witness: “The gap is around £20 million”

Prepared 12th July 2011