Select Committee on Constitution Minutes of Evidence

Memorandum by Clare Spottiswoode

What are the legal bases for regulators; what are the nature of their powers and how do they exercise them; how could their powers be revoked; from where do they obtain their financial and administrative support?

  1.  Regulators are creatures of statute. But the legislation rightly allows the regulator a degree of interpretation and judgement. This means that regulators have considerable power but they don't have the full democratic legitimacy of Government.

  2.  Regulators were created to be independent of Government, and this is generally accepted as being a key attribute of a successful regulatory system. Independent regulation is the norm wherever new regulatory systems are set up.

  3.  However, the combination of power and independence from Government means it is essential that the scope of regulators' powers is carefully defined, and that appropriate checks and balances are in place.

  4.  Powers can only be revoked by legisation, unless regulators themselves decide to withdraw from some aspects of regulation. Although there has been some withdrawal as competition has become embedded in some areas, I believe that there is a real case for a regular Regulatory Impact Assessment (RIA) on the Regulatory Offices themselves. As the office would be its own judge and jury on this, there is also a case for an outside body, perhaps a specialist Select Committee, to have oversight of the RIA.

By whom and how is the continuing need for regulators measured; how is their role changed or ended?

  5.  Regulators' roles have evolved significantly since their inception. In the early years consistency was not necessarily a good thing as regulation needed to develop—learning both from other regulatory bodies, and from the differing approaches of successive incumbents. The ability to rectify mistakes, or change when the original approach was not working, was important. Different styles could be seen as being more appropriate for different stages of evolution. The UK was a world leader in this type of regulation, and therefore there were few lessons at that stage to be gleaned from overseas.

  6.  Some years in, competition was introduced, first into Gas. This was a very disruptive innovation which required new rules and new types of institutions. Inevitably this was a huge task requiring much care and planning, and attention to the proper balance of property rights, and losers and gainers.

  7.  Changing the rules so extensively was only acceptable if it had the backing of Government legislation. However, the original impetus for change came from the Monopolies and Mergers Commission (MMC), and then the Regulatory office provided the main engine for ideas, policy and guiding the industry through the complex processes to ensure competition was an eventual success.

  8.  Competition not only changed the industry itself, but also the regulatory office, its tasks, and the skills it needed. It also brought the opportunity for regulation to step back and stop being involved in certain areas completely.

  9.  Given that the UK will continue to benefit from further "disruptive innovation" in regulated industries it is important that the system continues to encourage the possibility of change, rather than ossifying structures and procedures. It is particularly important that Regulators are not tied to precedent, just as the Competition Commission is not tied to precedent. However, departing from precedent should not be done lightly, and needs good justification, and appropriate appeals mechanisms so that decisions can be challenged.

  Examples of possible innovations still to come include:

    —  Telecoms, where true competition has yet to develop;

    —  Environmental permit trading will require significant changes in the workings of the energy markets, and there will be gainers and losers in the process; and

    —  Water competition could be introduced but only with major changes to the current arrangements, and almost certainly unacceptable variations in cost to customers depending on where they live. But overall competition in water would deliver large reductions in costs.

  10.  There are areas where rule based regulation is clearly good and where stability of rules is necessary (e.g. technical codes, contractual provisions). Property rights need to be clearly understood and respected—particularly where money is invested for many years in capital projects.

  11.  There is always a tension between innovation and changing rules, and stability and precedent. Companies need stability, particularly where long term investment decisions have to be taken. The UK needs innovation in the Regulatory area as much as it does elsewhere, if the economy is to thrive.

Who are the members of the regulatory bodies; how are they appointed; are they adequately representative; do Nolan principles operate?

  12.  The approach seems satisfactory. Though some have commented to me that I would never have got through a Nolan process. It is sometimes suggested that committees, and particularly Nolan principled ones, tend to "play safe". In regulation the safe choice is not necessarily the right choice. Some people did not consider my appointment a "safe" choice. If a "safe" choice had been made, would we now have competition in energy?

  13.  There has been significant debate about the merits of an individual regulator vs. a board. Board structures work very well in the corporate world, and I agree with the Hicks's recommendation of not only separating out Chair and Chief executive, but also that the Chair is not the previous CEO. Does this same model work for Regulators? It is not so clear cut.

  14.  Regulatory jobs are semi-academic and there are a number of complex issues which are difficult to get to grips with unless one is full time in the job. The real power on detail will always lie with the full time person. If that person is the Chair, the CEO effectively becomes a COO, and it is not clear what advantage one is getting from splitting the roles—the Chair will, in effect be equivalent to the current DG. If the Chair is part-time and comes from a purely business background it is unlikely that that Chair will ever get to grips with some of the technical detail. The Chair is more likely to understand the issues if the Chair (like David Currie) has some economic academic background. As discussion about NETA shows, the technical issues can be critical to good decisions and it would be difficult to contribute appropriately as a Chair without understanding these technicalities.

  15.  The same questions arise of how far Non-Executive Directors can contribute if they do not understand the technical issues, however NED's can valuably bring a broader perspective even if they cannot contribute on every issue. NED's and Chairs can also be a valuable conduit for getting questions raised within the boardroom providing a useful challenge to the executive.

  16.  I am agnostic on whether boards enable organisations to be more or less bold, or more or less likely to make good decisions. It depends on the dynamics of any particular board. What clearly causes committees to become a sclerotic is when the board has to have "representatives" of various interest groups rather than choosing individuals for their respective skills and talents, and their ability to add to the rest of the board.

  17.  I sometimes think the real heart of the argument about individual regulators vs. a multi-person regulator is really about the distaste of giving so much power of discretion to an individual. It is not about what organisational structure is most likely to take the best decisions. Excess power vested in one individual becomes more of a problem the more discretion the regulator has. As the regulator is expected to decide and adjudicate in areas that go beyond the economic arena, the level of discretion increases.

What are regulators set up to achieve; to what extent do regulators achieve their purposes without adverse consequences; how is their effectiveness assessed?

  18.  A simplistic definition of the respective roles for Government and regulators is that regulators' jobs are about the economic efficiency of their industry and creating wealth for the country, while the Government's role is to redistribute that wealth (for social, environmental or other police reasons). A regulator with the right technical and economic strengths should be well placed to design and deliver that redistribution (examples include Permit trading, enforcing standards of service for disabled customers through licence conditions).

  19.  If the role is defined as economic efficiency, and if the industry structure is not providing that efficiency, by definition the regulator has to be instrumental in changing the structure (with appropriate checks and balances). There will then be losers as well as gainers.

  20.  The Government's view of the role of the regulators has probably changed over the years. In the early years, although the Secretary of State and the regulator had the same duties, the functions were clearly differentiated. The regulators were economic, and were not expected to be involved in other areas unless this could be done without affecting significantly the main role of creating an efficient industry. This is much less clear cut these days. regulators do appear to be expected to be an arm of Government policy, which inevitably brings them into the political arena. The Government publishes "guidance" to regulators as to how to deliver some of the Government's policy aims.

  21.  Guidance is a good way in theory to deliver policy through the regulatory system. The deeper this guidance goes, the more conflict there is likely to be between the original efficiency goals, and broader policies with complex alternatives which regulators are not necessarily best placed (and don't have the democratic legitimacy) to adjudicate.

  22.  For example, location charges disadvantage power generators which are far from demand centres. Renewable generation tends to be in less populated areas, and therefore any location charge is likely to disadvantage renewable generation. Who should adjudicate this dilemma? The regulator, the Government, or some combination? Is it for the regulator to decide how much to subsidise renewables, or for the regulator to decide not to introduce location charges (which has wider incidence than just renewables). [In fact in this decision it is not clear that a RIA would support location charging anyway, so the problem might partially resolve itself]. These issues are still far from resolved.

  23.  My personal view is that regulators should go back to the original approach. The office should be for economic regulation, and the Government should take responsibility for making environmental and social policies. Where these conflict with what the regulator is doing (as in the location charge dilemma above), the Government should decide how to resolve the conflict, consulting and giving its reasons as it makes that decision.

  24.  Government override of the regulators' decisions in these circumstances would be very uncomfortable for the regulator, but at least it would be clear who was to take the decision, and the effect of the decision on the various interested parties would have been part of the process and the debate, and so would be in the public domain.

  25.  Unlike in other spheres, there is no shareholder to hold the office to account, and no electoral process. There are a series of ad hoc Select Committee investigations and National Audit Office investigations, but there is no focal point for an institutional ownership of the effectiveness of the office. As suggested elsewhere, there is a strong case for a (House of Lords) specialist committee to provide this institutional ownership.

To what extent are regulators both prosecutors and juries on an issue; what rights of appeal are there against decisions made by regulators?

  26.  The judical review system was chosen deliberately with the intention of not duplicating the American approach where lawyers predominate, costs are high, and changes in structure very difficult to achieve. It was intended to give some redress to the power balance between a tiny regulator with limited resources and a large monopoly company with huge sums of money to spend on lawyers and appeals. Many regulatory bodies are no longer the minnows they once were. But the absence of numerous legal disputes is a healthy aspect of UK regulation.

  27.  However the judicial review system deliberately does not address the merits of the case. This can be unfair, and it should in principle be possible to appeal all key regulatory decisions, not just licence terms. To avoid the legalistic approach we see in the US, and to ensure that the appeal system incorporates the relevant skills, appeals should be taken by the Competition Courts. The use of the Competition Commission could be extended from licence condition decision to any significant policy decision.

  28.  If the ability to appeal key regulatory decisions was made available, it would be very important that frivolous actions were deterred. One way to ensure this would be if the Appeals Courts regularly went beyond the bounds set by the original position of the regulator or the Company. This would mean that there could be a real cost of making an appeal.

  29.  The cost of appeals should not be allocated by regulators, but decided by the appeal body.

  30.  The regulators are by their creation both prosecutors and juries, as they both investigate and enforce licences. This is why a credible appeal mechanism is so important.

  31.  When I received the MMC's reports, it was in my power to decide how to implement the MMC recommendations (and indeed I had the theoretical ability to ignore them—as was done on one occasion elsewhere). That has now changed for some situations but not all. It is very uncomfortable to be in a position where you are making a decision where the other party has no redress. I feel strongly that it is important for regulators, as well as the counter-parties, that there is ultimate recourse to an appeal system.

How are the regulators held to account by Parliament; what other accountability do regulators have to auditors, Government departments or other public bodies?

  32.  Regulators' accountability to Parliament should be strengthened. Select committees can be very effective, but there are often a number of different committees with an overlapping interest, and it is not unusual for them to come out with different conclusions.

  33.  There is a strong case for a single select committee on regulation as the focal point for institutional accountability. It would be desirable for this to be a committee of the House of Lords, where members may have a professional background in the relevant areas, and where politics is less of a driver.

  34.  In my view there are not enough checks on the costs of the regulatory body itself. It is in practice very difficult not to give the regulator the budget they request. I found that the pressure on my office was for all questions to be answered. This means heavy work loads and growing budgets, but it does not necessarily mean effective regulation. It certainly does not lend itself to proper priority setting, or to "efficient, targeted and proportionate" regulation. There is a case for a RPI-X budget for regulators, and a RIA of the office itself.

  35.  This budget (and associated work plan with priorities) could be reviewed periodically by a Select Committee, and the regulator could offer up the activities it would have to abandon/postpone to meet the reduced budget. With help, a committee should be able to ask penetrating questions. The industry and consumer bodies would be able to comment on those areas to be abandoned, and once agreed would have to accept that that area was no longer covered by the regulator. I personally would have welcomed this.

How are regulators accountable to those whom they regulate; what is the impact of regulation on the economy; how transparent are their methods of working?

  36.  Whilst consultation has become something of an industry, it is very important for the legitimacy of the system. Its purpose should be to approve the decision making process, although in practice this has not been wholly successful as demonstrated by the decision of some organisation to opt out because of the expense involved. The larger ones put a lot of energy and effort into the process, and therefore tend to benefit more than they should.

  37.  At times industry feels that the consultation process is not genuine, that the decisions have been made earlier, and whatever they say will make no difference. Often they feel that the questions being asked are too far down the decision making process, and what they really wanted was an input into the questions, not feedback on a process which already has its own momentum.

  38.  The new Ofcom has a huge task in how it will address consultation. The volume of documents produced by all the existing bodies which Ofcom will supplant is enormous. Ofcom may, in finding better solutions to consultations for its situation, help other offices find a better way.

  39.  We consulted at Ofgas by mixing methods—paper, industry meetings, smaller sessions. The office was open to anyone with a legitimate interest in our decisions. We would put opposing views in the same room so that we could hear the arguments and the counter-arguments clearly. The key is making people feel they will have an opportunity to contribute, that when they do contribute they will be listened to, and given a fair hearing. Explaining why a different route has been taken from the one they wanted is therefore very important to this process.

  40.  At present regulators suggest licence changes. These suggestions may have come from outside the regulatory body, for example from companies or consumer groups. There is no mechanism for Companies to suggest licence changes—for example, for removing out-of-date licence conditions. Giving this ability to Companies should not be done lighty, and should be only given for material substantive issues. But I believe it should be considered. The Competition Commission is well placed to adjudicate, as it does on any current proposed licence changes that is not agreed between the parties.

How are regulators accountable to the public other than through Parliament; what opportunities do the public have to express concerns to regulators; how do regulatory bodies relate to their associated consumer watch-dogs?

  41.  Clearly the activities of regulators are followed by the press, sometimes intensively. This provides general accountability.

  42.  The consumer watch-dogs provide a very valuable service, but I have always felt there was a tension between the regulatory bodies and their consumer watch-dogs that is institutional.

  43  Both organisations have a consumer remit. Both have significant resources applied to dealing with customer complaints. Although there is agreement on how to allocate this responsibility on a day to day level, there is some tension, and always will be, about the boundaries of what each body is responsible for.

  44.  The regulatory body has the legal powers to implement licence conditions and other consumer issues, and it has the policy tradition and staff and customer duty to think these through. It tracks the way in which companies adhere to their licence conditions, which means that the organisation is always very close to such issues as mis-selling, billing problems, customer transfer problems. So is the consumer watch-dog.

  45.  If the consumer watch-dog wants to get noticed, it is tempting for it to go head-to-head with the regulator in a public spat, although thankfully this approach is rarely taken.

  46.  Different watch-dogs take different approaches to their remit. energywatch has a tradition of looking after the interests of the less well off and disadvantaged customers, where as the water customer watch-dog uses its remit to cover all customers. If the watch-dog is not covering all customers, particularly small business, the Regulatory body tends to naturally fill in the breach.

How effective is public consultation by regulators; what opportunities do the public have to contribute; to what extent do the public make use of these opportunities?

  47.  It is very difficult to get the general public involved. Most consultation papers are on technical detail that are of no interest to the general public. Usually the involvement comes through committed consumer groups such as energywatch and the Consumers Association.

To what extent do the needs or concerns of the public guide the work of regulators; are regulators instruments of Government or representatives of the public?

  48.  Regulators are representatives of UK plc. Just as with the Competition Commission, I believe they should not have a public interest duty. They should not be instruments of public policy—that is for democratically elected Governments. Sometimes what they do may be unpopular. Many competition actions can be unpopular in the early days. Nonetheless, it is very important that regulatory offices remain legitimate in the eyes of the public and the industry.

How independent are regulators of Government; what factors do or might compromise their independence?

  49.  I was surprised at how independent I was allowed to be. The Minister for most of my time at Ofgas took that independence very seriously.

  50.  Choosing a career Civil Servant as head of a regulatory body could compromise the appearance of independence.

  51.  Using mechanisms for "guiding" policy that are not public would compromise independence.

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