Pre-legislative scrutiny of the draft Domestic Gas and Electricity (Tariff Cap) Bill Contents

2The cost of inaction

A two-tier market

7.In a truly competitive market, loyalty should be rewarded, not exploited. This is both our view and that of the Government.15 Energy is an essential good and a significant portion of household budgets, especially for those on the lowest income: it amounts to up to nine per cent (9.3 per cent) of the poorest households’ total expenditure. As a result, when the market fails to deliver good-value tariffs, those who can least afford it are disproportionately affected.16

Average annual bills for typical consumers

Source: House of Commons Library analysis (Quarterly energy prices, BEIS)

8.Between 2000 and 2008 energy prices rose steadily. Since 2008, prices have been more stable, although they have risen in real terms.17 Ofgem’s latest assessment of the market made it clear that the domestic energy market does not currently deliver fair or effective competition for all: the market is two-tiered, rewarding those customers that are able and willing to shop for the best deals at the expense of those, especially vulnerable customers, who are less engaged.18 58 per cent of non-prepayment energy customers—or 12 million households—remain on a “poor-value”19 variable tariff, paying up to £300 more than they would on a cheaper tariff.20 This is only a 11 percentage point decrease from the 69 per cent of customers on a standard variable tariff (‘SVT’) recorded by Ofgem in March 2015.21

9.Data gathered by Ofgem (see graph below)22 show that SVTs are “poor-value tariffs” because they are consistently more expensive than other tariffs available in the market, regardless of the type of supplier supplying them.

Retail price comparison by company and tariff type: Domestic (GB)

10.We were particularly concerned by the overwhelming evidence23 that vulnerable and low-income customers are especially affected, with 83 per cent of those living in rented social housing, 75 per cent of those on low incomes, 73 per cent of those with no qualifications and 74 per cent of disabled customers on an SVT.24 Evidence suggests that they struggle to engage with competition and are less likely to overcome obstacles to switching, even with the help of engagement measures.25 Even with the advent of smart meters, we heard evidence that they may still require protection from overcharging as the Government’s proposed price cap would not help them engage with competition more actively.26

11.We accept the evidence from Ofgem, consumer bodies and the Minister that vulnerable customers will benefit most from the Tariff Cap Bill and will, in all likelihood, need some form of price protection for the foreseeable future, including after the Government’s price cap is lifted. We recommend that the Government provides details on its plans to protect vulnerable customers from overcharging when Ofgem’s safeguard tariff and the Government’s price cap are lifted.

Protecting vulnerable customers through data-sharing

12.Because we agree that vulnerable energy customers may need additional protection for the foreseeable future, helping provide better protection of these consumers is a key priority for us. Both the regulator and suppliers struggle to identify at times who vulnerable customers are and how they can assist them best through essential services like the Warm Home Discount or the Priority Services Register. Ofgem told us27 how data-sharing could be used to make this task easier: by amending the Digital Economy Act to allow data-sharing of government-held data on vulnerable customers with Ofgem and energy suppliers, the Government could provide increased protection to vulnerable customers. The Cabinet Office consulted on the issue28 but both in correspondence29 and evidence,30 the Government did not commit to a clear timetable to respond to the consultation or follow Ofgem’s advice on amending the Digital Economy Act.

13.We agree with Ofgem that legislative obstacles to data-sharing of vulnerable customer data held by government with energy suppliers need to be removed so as to give vulnerable customers better protection. We recommend that the Government commits to removing these obstacles by seeking to amend section 36(3) of the Digital Economy Act 2015 in time for winter 2018.

Ofgem’s role in protecting customers

14.Ofgem’s key mission is to protect the interests of gas and electricity customers, especially vulnerable customers.31 Yet, despite clear requests for advice from the Secretary of State32, cross-party support for price control measures33 and extensive regulatory powers, Ofgem ruled out introducing a market-wide cap without the backing of primary legislation because of potential legal challenges.34 Dermot Nolan, the Chief Executive of Ofgem, told us:

The second to last time I was in front of the Committee, before the last election and before the manifesto, I said very clearly—and I do not think it was contested at the time—that an intervention through a full, market-wide price cap, a significant policy change to the framework set up, was a matter for Government.35

15.The regulator only confirmed its intentions to introduce a safeguard tariff for vulnerable customers in receipt of the Warm Home Discount in October 2017.36 Due to statutory obligations to consult for several weeks, this policy was only put in place in February 2018.

16.Ofgem also allowed suppliers, at the end of a fixed-term contract, to roll over customers who have not made an active choice on to a further fixed-term tariff as long as that further tariff is similar in kind and no more expensive.37 The regulator was considering setting mandatory targets for suppliers to take customers off SVTs38 but it has now ruled it out as it would conflict with the Government’s price cap.39

17.In evidence to us on 10 January 2018 Dermot Nolan apologised to vulnerable customers for not acting to protect them from overcharging sooner by introducing a safeguard tariff.40 He also acknowledged that competition was “not as effective as it could be yet.”41 Ofgem recognises that even though it is currently implementing Competition Markets Authority remedies to increase engagement,

it will take time before disengaged vulnerable consumers (some of whom may never be able to fully participate in the market) see benefits from the market working properly.42

18.The Secretary of State was clear that this Bill could have been avoided and customers could have received help more quickly if Ofgem had made use of its existing powers.43 We support the Secretary of State’s view that customers could have received protection against overcharging more quickly if Ofgem had acted upon clear signs of market failure to put an end to SVTs and introduce price controls. We respect the regulator’s independence of government but we regret that Ofgem did not build on clear cross-party and government support to intervene to end the overcharging of customers on standard variable and default tariffs.

19.The Secretary of State argued that public policy is often subject to the possibility of legal challenges but that it does not mean they are always successful or that one should not proceed with policy.44 We were unconvinced by Ofgem’s argument that primary legislation was required for them to set a market-wide cap. We concur with the Secretary of State that legal challenges can be won and should not be a deterrent from implementing policies that are in line with the regulator’s statutory duties to protect the interests of consumers.

20.We conclude that Ofgem have failed customers, especially vulnerable customers, by being overly cautious and reactive on the issue of poor-value standard variable and default tariffs. They should have removed the obligation to move customers at the end of their fixed-term contracts on default tariffs sooner and set mandatory targets for suppliers to take customers off standard variable tariffs when it was still appropriate to do so. We urge Ofgem to be faster and more proactive in using their extensive powers to protect customers from overcharging in the future.

21.The evidence highlighted that the Competition and Markets Authority remedies45 currently being implemented may not be sufficient to redress the failures of the market on their own. Not only are these remedies slow to implement and show impact, but they are also unlikely to be a “game-changer”.46 One of the evidence submissions said:

Overall, our assessment is that CMA package of measures will increase consumer engagement (including switching), but the improvement is likely to be insufficient to address the political pressures surrounding this market. CCP research on the effectiveness of demand-side remedies, across a range of sectors, finds that such remedies can be valuable for enhancing consumer engagement, facilitating switching, and driving more effective competition, but that they are unlikely to resolve all competition concerns in markets where firms are able to discriminate between engaged and unengaged customers. In the case of energy, even after the CMA’s remedies have had time to work, it is likely that a block of non-switchers will remain and profit maximising firms will retain an incentive to charge these disengaged consumers higher prices.47

22.The same submission suggested alternative measures to reach out to some of the least engaged customers via opt-out collective switches. We think Ofgem, housing associations and consumer bodies such as Citizens Advice would be particularly well-placed to facilitate creative engagement measures of this kind.

23.We recommend that Ofgem continues to look for creative ways to encourage customer engagement and switching, especially by working with housing associations, consumer bodies, suppliers and comparison websites to find new ways of reaching out to those who are least engaged.

Distribution networks

24.Network costs have received less focus than retail in the debates around energy prices and potential price controls. However, they make up for the second highest cost on a typical dual fuel energy bill (although this proportion varies from time to time and depending on the fuel considered).48

Breakdown of typical Dual-Fuel Bill, 2017

25.Citizens Advice,49 the Energy and Climate Change Intelligence Unit50 and a group of Members of Parliament led by John Penrose MP51 have recently argued that Ofgem failed to predict accurately distribution network returns, thus allowing them to make unwarranted levels of profits and adding undue costs to customers’ energy bills. We were concerned by these reports and we intend to monitor closely the next phase of network regulation (RIIO price control). We welcome Ofgem’s announcement that energy networks should prepare for tougher price controls in the next phase.52 We may decide as a committee to come back to this issue in future work.

A defective market

26.Too many energy suppliers rely on a business model where they target cheap acquisition deals at engaged customers who switch, whilst making substantial profits from ‘sticky’ customers on expensive variable tariffs who do not or rarely switch.53 We received worrying evidence that some suppliers actively work to prevent from switching onto another good-value tariff customers whose fixed-term contracts are coming to an end.54

27.Despite the Competition and Markets Authority remedies and other measures aimed at increasing customer engagement and switching, switching rates amongst domestic energy customers have remained stubbornly low despite a peak in 2014 and recent moderate increases.55

Number of domestic customers switching supplier by fuel type

28.We were particularly concerned by recent reports56 of Big Six customers being put on hold for up to 20 minutes when contacting their supplier, considering that 37 per cent of all customers of the Big Six have been on an SVT for more than three years and 58 per cent of all households have only switched supplier once or not at all.57 Citizens Advice confirmed that energy generates a huge caseload: they provided help with energy issues to 8,000 vulnerable customers in 2017 and 500 people a day contact them for help with energy matters.58

29.Pricing practices through which some suppliers ensure that customers at the end of their fixed-term contracts do not benefit from the best available deals are fundamentally incompatible with the principle of fairness.

30.This is consistent with the conclusion from the Competition and Markets Authority’s Energy Market Investigation that domestic energy customers of the ‘Big Six’59—who have between 41 per cent and 71 per cent of their customer bases on a variable tariff60—were charged on average £1.4 billion a year in “excessive prices” between 2012 and 2015.61 The Authority refers to it as the “customer detriment”. We reviewed the methodology used by the Authority to calculate this figure62 and noted that no appeal was made63 against the final findings despite strong criticisms.64 In the absence of any appeal against the Competition and Markets Authority’s findings and after review of the Authority’s methodology, we were unconvinced by criticisms of the £1.4 billion annual customer detriment figure. We found no valid reason to question this figure.

31.The Competition and Markets Authority also found that “a large part of the detriment we have observed in the form of high prices is likely due to inefficiency rather than excess profits.”65 Ofgem recently estimated that the Big Six make 26 per cent of their gross profit on SVT customers, as opposed to 14 per cent from fixed-term tariff customers.66 This led the regulator to conclude that

if SVT prices were reduced so that they provided the same gross profit margin as fixed tariffs, then suppliers would have made a 6 per cent loss, unless suppliers could significantly reduce their operating costs.67

32.The Authority estimated that a “normal” level of profits for suppliers who operate efficiently is 1.25 per cent. We were therefore concerned to learn that the Big Six made profit margins well above that benchmark in recent years.68 The same suppliers also defied Ofgem’s warnings69 against unjustified tariff increases by raising their prices in 2017.70 Dermot Nolan told us that “in a competitive market that is working effectively, you would not expect to see huge differentials”71 between the highest and the lowest tariffs available in the market. The Government said this market “is not working for all consumers”.72 We share the Government’s view that the energy market “is not working for all consumers” and is yet to demonstrate effective competition and fairness. We agree with Ofgem’s view that in a truly competitive market that works for all consumers and is fair, the differential between the highest and lowest comparable tariffs should be smaller.

The Big Six

33.Ofgem recently published its standard variable tariff league table in which SSE, Centrica and E.ON had the largest number of customers on SVTs.73 Between April and September 2017, at the height of political discussions around price caps, the Big Six have only seen the number of customers on SVTs fall by three to nine per cent, some not at all.74 Data compiled by Ofgem (see chart below)75 shows that the largest suppliers still have a long way to go in reducing the share of their customer bases on poor-value tariffs.

34.Some of these suppliers recently announced that they would take steps towards reducing the number of SVT customers in the future:

35.We assessed the suppliers’ announcements about the steps they intended to take to reduce the number of customers on poor-value tariffs and concluded that they were insufficient to address the scale of the problem. We also noted the lack of any announcements on the part of the other three Big Six suppliers (ScottishPower, EDF Energy, npower) who still have large numbers of customers on poor-value tariffs. We believe the feebleness of these announcements shows a clear lack of will on the part of the Big Six to take the necessary steps towards redressing existing customer detriment.

36.We conclude that the Big Six have brought this policy intervention upon themselves by raising their prices in 2017 and by failing to take effective action against the overcharging of their customers on default and standard variable tariffs. 

37.Stakeholders opposed to price cap policies argued that customers who do not engage with the market should expect to pay more for their energy.84 We were also told that consumers in the UK were already “getting a fair deal” and prices reflected the time they were willing to spend looking for better deals, as in many other markets.85

38.The Secretary of State told us otherwise: in his view, even “lazy” or “busy” consumers should not have to go through the process of “defending themselves against what the CMA has found is an excessive price.”86 In the Government’s view, “this is why this intelligent intervention is required.”87

39.The Committee agrees with the Secretary of State’s view that customers who are not able to shop for better deals should not be overcharged unfairly and that even customers who are able to switch tariffs but fail to do so should not be penalised disproportionately.

40.Energy is “special”: consumers should not be expected to constantly defend themselves from excessive prices. We conclude that government intervention is justified when markets fail to deliver fair outcomes for consumers and have a disproportionate impact on consumers who are the least able to protect themselves from overcharging.

41.There is a strong case for the Government’s Bill and the policy of introducing an intelligent, effective price control policy that will have the immediate impact of lowering the highest prices for millions of consumers and improve fairness in the delivery of an essential good.

15 Q425; Department for Business, Energy & Industrial Strategy, Impact Assessment: Draft Domestic Gas and Electricity (Tariff Cap) Bill, 29 November 2017, 11 December 2017, para.2

16 Department for Business, Energy & Industrial Strategy, Impact Assessment: Draft Domestic Gas and Electricity (Tariff Cap) Bill, 29 November 2017, 11 December 2017, para.19

17 House of Commons Library, Energy bills and proposals for reform, 5 October 2017, p6; Chart from House of Commons Library, The Current Energy Market Reforms in Great Britain, 15 March 2017, p7

18 Ofgem, State of the energy market 2017, 31 October 2017, p9

19 As above, p3

20 As above

21 Ofgem, Retail energy markets in 2016, 3 August 2016, p3

22 Ofgem, Data portal, Retail Market Indicators, Retail price comparison by company and tariff type: Domestic (GB), accessed 29 January 2018

23 Citizens Advice PLS0021, Scope PLS0025, National Energy Action PLS0037, Care & Repair Cymru PLS0040; Qq430-431 [Claire Perry]; Ofgem, Vulnerable consumers in the retail energy market: 2017, 16 October 2017

24 Ofgem, Financial protections for vulnerable consumers, para. 2.6, 11 October 2017

25 Citizens Advice PLS0021, Scope PLS0025, National Energy Action PLS0037, Care & Repair Cymru PLS0040, Ofgem PLS0045; Qq430-431 [Claire Perry]

26 Ofgem PLS0045; Q334-336 [Dermot Nolan]

27 Business, Energy and Industrial Strategy Committee, Letter from Ofgem Chief Executive to the Chair relating to energy price cap inquiry, 1 November 2017, published 22 November 2017

28 Cabinet Office, Digital Economy Act, part 5: data sharing codes and regulations, closed consultation, accessed 31 January 2018

29 Business, Energy and Industrial Strategy Committee, Letter from Secretary of State (BEIS) to the Chair relating to Tariff Cap Bill, 29 November 2017, published 5 December 2017

30 Qq498-499 [Claire Perry]

31 Ofgem, Who we are, accessed 31 January 2018

32 Department for Business, Energy & Industrial Strategy, Letter from Rt Hon Greg Clark to Dermot Nolan, CEO Ofgem, 21 June 2017; Oral evidence taken on 1 November 2017, HC (2017–19) 470, Q145 [Greg Clark]

34 Oral evidence taken on 17 October 2017, HC (2017–19) 470, Q62 [Dermot Nolan]

38 Ofgem PLS0045

39 Q389 [Dermot Nolan]

43 Oral evidence taken on 1 November HC (2017–19) 470, Q150 [Greg Clark]

44 Oral evidence taken on 1 November 2017, HC (2017–19) 470, Q151

45 Or ‘CMA remedies’ refers to a set of measures ordered by the Competition and Markets Authority following a two-year Energy Market Investigation to address some of the market failures identified by the Authority. Some of these remedies were specifically targeted at encouraging customer engagement and switching suppliers. In short, the Authority ordered for a database of disengaged customers to be created and shared with suppliers; a cap on prepayment prices; and a strengthened role for price comparison websites. For a more extensive overview of the investigation and its remedies, see House of Commons Library, The Current Energy Market Reforms in Great Britain, 15 March 2017.

46 Q388 [Dermot Nolan]

47 Centre for Competition Policy PLS0049

48 Chart and data from House of Commons Library, Energy bills and proposals for reform, 5 October 2017, p6

49 Citizens Advice, Energy Consumers’ Missing Billions, 12 July 2017

53 As above, p6; see also oral evidence taken on 17 October 2017, HC (2017–19) 470, Qq46-50 [Sarwjit Sambhi]

54 Octopus Energy PLS0035

55 Ofgem, Data Portal, Retail market indicators, Switching and consumer experience, Number of domestic customers switching supplier by fuel type (GB), as of December 2017

57 Department for Business, Energy & Industrial Strategy, Impact Assessment: Draft Domestic Gas and Electricity (Tariff Cap) Bill, 29 November 2017, 11 December 2017, para.17

58 Business, Energy and Industrial Strategy Committee, Letter from Citizens Advice on the pre-legislative scrutiny of the gas and electricity bill, 20 December 2017, published 10 January 2018

59 E.ON UK, Centrica, SSE, npower, EDF Energy, ScottishPower are commonly referred to as ‘the Big Six’ as they are the six largest suppliers in the domestic GB energy market.

61 Competition and Markets Authority, Energy market investigation, Summary of final report, para.194

62 Qq46-51; Competition and Markets Authority, Energy market investigation, Final report, Chapter 10. Analysis of detriment and Appendix 10.2: Benchmark analysis of domestic energy bills, 24 June 2016

63 Q47 [SimeonThornton]

64 Qq2-6 [Stephen Littlechild, Stephen Smith]; Octopus Energy PLS0035; Professor Stephen Littlechild PLS0003; PLS0033; ScottishPower PLS0034; Centrica plc PLS0022

65 Competition and Markets Authority, Energy Market Investigation, Final report, para.10.29

67 As above

68 Ofgem, Understanding the profits of the large energy suppliers, Aggregate profits in %: supply segment, as of August 2017

70 House of Commons Library, Energy bills and proposals for reform, CBP 8081, 5 October 2017, pp6-7

72 Draft Domestic Gas and Electricity (Tariff Cap) Bill, Department for Business, Energy & Industrial Strategy, 12 October 2017, Foreword

74 As above

75 Ofgem, Data Portal, Retail market indicators, Number of non-prepayment domestic customer accounts by supplier: Standard variable, fixed and other tariffs (GB), accessed 29 January 2018

78 Q234 [Chair]

82 Q128 [Ed Kam]

84 Q127 [Michael Lewis]

85 Q7 [Stephen Littlechild]

86 Oral evidence on 1 November 2017, HC (2017–19) 470, Qq127-128

87 Q426 [Claire Perry]

9 February 2018