Select Committee on Constitution Minutes of Evidence

Examination of Witnesses (Questions 540 - 559)



  540. I do not think I meant that, no.
  (Mr McCarthy) I am sure you did not, but there are some people who are tempted to go down that path.
  (Mr Neilson) But current guidance is very helpful because it says that Ministers must take the decisions on social and environmental matters that involve significant financial expenditure and that, I think, constitutionally is entirely appropriate in setting the boundary between what Ministers are responsible for and what an unelected body like the Authority is responsible for. When the Utilities Act was put through in the year 2000 the two big interventions by Government into the markets that we deal with—the subsidy of renewables and the substantial payments by consumers to help energy efficiency—are both now schemes which Ministers have directly put through Parliament and are responsible for, and that is very helpful in providing the clarity of roles between Ministers and our organisation.

Lord Lang of Monkton

  541. Mr McCarthy, the question of appeals is probably one which you hear a lot in your job and across other industries I sense that it is something which concerns people. In answer to the judge and jury question in your paper and the question "What rights of appeal are there against decisions made by Ofgem?" all of Ofgem's decisions are subject to some form of appeal required, which of course is very specifically true and you have set out the nature, but are you conscious of the unhappiness within the industry? Would you like to see a simpler, clearer and perhaps stronger and quicker process of appeal?

  (Mr McCarthy) I think you have to be quite careful. I must say I was amused listening to the previous witnesses claiming that this was a completely non-litigatious industry. I wish that the evidence completely supported that. If I look at it at the moment there are certain important decisions which I am delighted are appealable on the issues, principally price controls. I think that is principally price controls but indeed any change to a licence condition is appealable and I think that is entirely correct. Where the argument is centring at the moment is in a rather arcane area, which is in relation to modifications to the code governing the balancing settlement in electricity and the comparable code in gas. I think it is quite important to recognise the process there because in both cases this is a process where the right of initiation of modifications does not lie with Ofgem, it lies with a number of people in the industry and, incidentally, energywatch, where there are in fact in electricity two bodies looking at the particular proposals. In some ways Ofgem in that process is the body of appeal. I am slightly torn in terms of the advantages and disadvantages of having a further appeal body on top. I am torn because I am conscious that there is a very large number of modifications that come forward and we cannot control the number of modifications because we do not initiate them. They often involve the transfer of substantial sums of money from on group of people within the industry to another group of people within the industry and it seems to me important that one should not be naive about it—not, if I may say so, that I am suggesting any of the Committee would be naive but some of the arguments, I think, are slightly naive—because if it is in a company's commercial interests to delay one of these decisions for a year or two years and spend a million in order to save 2 million they will do so and that is the way of the world. I think that we would like to think hard about whether there is any further way to establish the clarity of the argument, the reasons for it and in particular to look at those relatively rare cases where we do not accept the view of one of those two industry bodies that I referred to but actually take a different view. When we were proposing a quite contentious proposal which was called the market abuse licence condition—which, incidentally, was appealed against and went to the Competition Commission, which struck it down, which seems a completely proper process—because we thought it was contentious we specially set up an appeals body, which was non-statutory but a group which could look at disputed decisions. I think there are quite a lot of ways of doing this which could be done more effectively than a further regulatory body, which I think would run the risk of increasing rather than decreasing regulatory uncertainty and would run the risk of making the whole of the process more delayed, more cumbersome and more litigatious rather than establishing the clarity and speed which you, I think, very properly referred to as desiderata.

  542. That answer is extremely helpful, but do you recognise that there is a sense of—perhaps grievance is putting it too strongly—unease in the industry? I think they are frightened in some ways to take you on in case it undermines their relationship with you in other areas if they want to challenge a decision of yours.
  (Mr McCarthy) I think that is completely misplaced, if I may say so. I do not dispute that there are some people who feel that but, for example, in my time there has been one judicial review, which was from London Electricity. They won the judicial review. It seemed to me absolutely proper that they should exercise their legal powers and it would seem to me completely improper after that for us to treat them in any other way other than the way we had treated them before or how we would treat any other company. Provided people behave properly, if they win their case, good luck to them because they must have had a good case; if they lose, good luck to them for trying, so long as they are behaving properly. I have very strong views about people behaving properly, but that is nothing to do with exercising their legal rights.

  Lord Lang of Monkton: Thank you very much.

Lord Elton

  543. My first question really is an invitation to summarise quite a lot of what you have said before. I see that in the introduction to the advice issued in November the Government says that in this way the Authority can make a contribution appropriate to its functions and the principal objective and duties, etcetera, without compromising the principle of arm's length regulation. Do you consider that with the advent of this advice the arm's length principle is preserved or in any way compromised?

  (Mr McCarthy) I do not think it is compromised because the Authority is a serious group of people who are independent individuals. They know that under the law we have a duty to have regard to this. We also know we have various other duties. We balance them the whole time and we take whatever views we take on a particular issue and it does not seem to me that to have regard to this is a compromising of the independence of the Authority at all.

  544. It would be if it was a direction but in fact it uses words like "invite", "the Authority is invited to do this," and so on, and that is not a polite way at all, in fact it is actually an invitation to do something if it is appropriate?
  (Mr McCarthy) Even if the guidance said, "You shall do that," it is guidance to which we have to have regard, and to have regard is not to slavishly follow.

  545. Thank you very much. You have talked a little about the desirability of regulatory consistency and we have heard that in other fora as well because it does something to give constancy to capital cost. I am interested that in the very first draft of the advice which eventually emerged in November last year, which was published in February 2000, in the introduction on paragraph 2.1 the document says: "However, it is intended without prejudice to this power that the Secretary of State has to issue further guidance that the following guidance shall remain broadly unaltered for a period of around five years." That same sentence occurs in the consultation draft which arrived in May 2001, but it suddenly disappears from the final version, paragraph (b) in the introduction signed by the Minister on 13 November. I would like to know the significance of that, how the change came about and why.
  (Mr McCarthy) I am afraid, my Lord, those are all questions which seem to me entirely proper questions to be addressed to the body responsible for the guidance and it is not Ofgem, it is not the Authority. If I may just comment on the desirability of consistency in governance, I think it would be a huge pity if the principle of a form of guidance which had some coherence and some length of relevance were to be departed from, but I was not responsible for the guidance.

  546. I was not suggesting you were, but you were a party to the consultation on the document at both the stages in which the words appeared and I wondered if in fact they had been the subject of discussion?
  (Mr McCarthy) Not that I remember.

  547. So this is something that just happened?
  (Mr McCarthy) I suspect that one of the things that might have happened is that, not unreasonably, the Government has made clear that it is going to reconsider the guidance since it has published the first White Paper on Energy Policy for thirty-five years, since the guidance was first issued last November, and I think they might reasonably have thought that it would be a little difficult to have said that the original guidance was going to run for five years when there is, I think, a rather good reason for considering making new guidance now in the light of the White Paper.

  548. I do not think the Minister could have done better than that in answering the question! Behind this also lies in my mind a concern as to the actual impact of guidance of this sort. It has been referred to earlier, I think today, as something rather marginal. In your very interesting speech annexed to your written evidence you refer to the difficulty of handling guidance which has no ordination (not in the ecclesiastical sense) and it seems to me that you must have had some fairly clear idea of what was going to emerge the following week into the light of day. Your concern, I think, remains as much as it was before from what you have said already, that this has made your job more difficult?
  (Mr McCarthy) No, I do not think it has made our job more difficult. I think that there is guidance which could be constructed, in some ways not with great difficulty, which would be much more useful for Ministers and much more useful for Ofgem, and that would be guidance which established priorities. I think the difficulty may be that governments and individuals always find it difficult to deal with conflicts when they are pointing in more than one direction and energy policy points in many directions, but the more the Government could actually establish a priority in the guidance the more helpful it would be.

  549. There is a lot of talk about regulatory impact assessments at the moment and of course you are actually subject to this guidance in the form of regulatory impact yourself. Do you have a section of your staff dedicated to the social and the environmental aspects of regulation and is that a response to this liability?
  (Mr McCarthy) We do, but it is not a response. We had it before the Utilities Act. It is one of the things which we have been developing and growing over the nearly five years of Ofgem's existence.

  550. How big is it?
  (Mr Neilson) Approximately 20. Many of them in fact spend their time administering some of the Government's own schemes in the environmental area like the Energy Efficiency Commitment and the Renewables Obligation. So some of them have a task which is sort of administering particular schemes rather than dealing with wider policy matters, in fact probably the majority of them.

  Lord Elton: Thank you very much.


  551. If I could just turn to another aspect of accountability, because we have focussed on legal accountability and there is, if you like, at least a difference of emphasis between the other witnesses and yourself. In terms of parliamentary accountability, you stress in your evidence the willingness to engage with Parliament, indeed what I think you are putting across is the pro-active element of being willing to provide evidence not only to Parliament but to the devolved assembly. So you are keen to engage. I wonder, therefore, do you have a view on the form that parliamentary accountability should take? As you will be aware, there has been evidence before us that it would make sense to have a dedicated parliamentary committee rather than have it spread across several committees. From your point of view, would it make much of a difference if you were really answerable to one particular committee rather than having to deal with several, or would it be the case that whatever is set up would be acceptable from your point of view?

  (Mr McCarthy) I think that inevitably we are going to be accountable to a large number of committees because there will always, I suspect, be an environmental committee of either or both Houses which may very properly want to ask questions of Ofgem. So I think the idea that there will be one committee looking at Ofgem is a false idea. There is, of course, one committee in the Commons which repeatedly looks at Ofgem and also looks at the telecoms regulator and the Post Office. So it looks at a number of regulators. I happen to believe that the Trade and Industry Committee is a rather expert committee, I think it is generally recognised to have a particularly skilled chairman and I do think there are benefits in looking at the regulation of electricity and gas in the context of also looking at other issues affecting electricity and gas as well as in the context of just questions affecting regulation. So I am very keen to develop and make easier the interrogation of the regulatory organisation and for us to explain our actions better. I find that the argument for having a particular committee just looking at regulators is an argument which does need teasing through.

  552. Would it not be the case—and it does tie in some aspects of the accountability transparency point being made—that the problem with a departmental Select Committee is that therefore the department is covering things other than simply aspects of regulation and therefore the committee will be turning its attention to other matters and may be devoting a good part of its time to a particular inquiry which is not focussed on that? There is always the danger that some aspect may, if you like, fall between the gap and if you have got a dedicated committee you have got some element of consistency as well as the horizontal element of being able to look across all regulators and perhaps explore aspects of best practice, and so on. I wonder whether that would complement the existing departmental Select Committees rather than conflict with them?
  (Mr McCarthy) That is exactly the sort of analysis that I described as teasing out the argument. That is clearly the argument for it. The only thing I just want to make clear is, first of all, the idea that regulators will only respond to one committee is not true. Secondly, I do think there are some benefits on the horizontal as well as the vertical.

  553. Indeed, yes. I was not questioning the not being willing to respond to different committees, it is just what would be involved in responding and whether there is a case for actually carving out a separate role for committees. It was not, if you like, the regulators feeling that they should not be involved in or anything of that nature.
  (Mr McCarthy) It is implicit if this is not explicit in the Ofgem evidence that we would actually prefer to have further conversations, interrogation, an opportunity to explain, so that any institution which facilitated that is an institution that we would support.

  554. Fine. Yes, as I say, if the committee was seen as complementary to rather than replacing the existing mechanisms. There is parliamentary accountability, but there is another aspect, if I could just quickly raise it, which is nothing to do with accountability but is to do with structures because in your paper—and I suppose a sort of Mandy Rice Davies quote might come into it—you do make rather a robust case for boards as opposed to individual regulators. You make the point of course that there is that aspect of consistency through having a board that is of particular benefit, but is there a downside? One point which has been put to us is that when you get a board structure in place that might encourage a tendency to play safe. Do you give any credence to that at all and is it not the case, countering the point in your evidence, that individuals are just as likely as boards to pay careful attention to the provisions of the Act that stipulates their powers and functions? You seem to ascribe to saying that a board will pay particular attention but I would have thought an individual regulator would have a well thumbed act as much as a board would. So is the balance quite all one way in the way that you are suggesting?
  (Mr McCarthy) I actually do believe it is, is my simple answer. I have absolutely no doubt that one of the things which has been a weakness in sectoral regulation in Britain has been the degree of personalisation. It has been deeply damaging, it has trivialised questions which are important questions and it has been a contributor to regulatory uncertainty. I was horrified when I came to this job at the extent to which people commented as if replacing (as it happened) two regulators by another individual was going to completely change a whole series of policies. One of the great benefits when I stop doing this job in October is that there will be two new people on the Authority but there will be twelve existing members of that Authority. There is every reason for people who are coming and discussing things with us—I have just come from a discussion with a representative of a foreign company which is considering making an investment of many billions in this country and one of the things which is a good thing is that when they talk to a representative of Ofgem at the moment, the fact that that individual is going to disappear in October does not mean that the undertakings that have been given fall with him. So I think there are very big benefits. I think Stephen Littlechild made the argument that individuals will be more brave than boards. I think you can have brave individuals and cowardly individuals and you can have brave boards and cowardly boards. I do not believe there is any basis in that. I would not argue that good boards are going to be more careful in observing their statutory duties than would individuals. When I was an individual regulator (as I was before the Utilities Act) I did pay quite a lot of attention to my statutory duties.

  555. So the core argument—there are other benefits you are ascribing to boards—is that avoidance of regulatory risk essentially because depersonalisation then feeds into it?
  (Mr McCarthy) Also I think we make better decisions. These are difficult judgment calls which have to be made. I am very sorry, I did try to get some of the non-executive members here but because we are appearing before you at short notice I very much regret it was not possible. I think you would have found it extremely interesting to have heard their views. One of the things is that we do make better decisions and quite contrary to the view which is often expressed that the Authority, as it were, rubber-stamps the executive's conclusions, often the discussion in the Authority moulds and change them. I am glad to say it is very rare that the Authority as a whole says to the executive, "Look, you've done a terrible job. We think this is completely wrong," but they do mould and change it and I think that is very helpful.

  556. Fine. And the very nature of the structure itself facilitates that, so it is not simply a question of the individuals involved?
  (Mr McCarthy) I think you have to work at it very hard in the sense that we work very hard at getting a proper process of induction for new members. We encourage those people. Any non-executive member on any issue which is raised can go to the individual member of the executive, completely without any reference to me, to raise a question. We discuss as an executive team all policy issues and sit on a committee called the Policy Development Committee, the minutes of which go to all non-executive members of the Authority so that they have advance warning of the things that are likely to come to the Authority in a month, or three months, or six months' time and if they have got views they can come and pursue them. So I think you have to put all those things in place. Just having an Authority with the non-executive members by itself is a necessary but not sufficient condition.

  557. If we then move on to what the board does, you are arguing—and this is a fundamental point—that this makes for better decision-making. On the point about the material which the board then puts into the public domain, you stress the lengths to which you have gone to in terms of consultation and increasingly putting things out into the public domain. In the light of the evidence we heard earlier, do you think there is more that could be done from the perspective of transparency, of making material available?
  (Mr McCarthy) If I take the specific proposal of publishing the agenda and minutes, I think that is a dreadful idea, and I think that is a dreadful idea not because I am opposed to enhancing transparency because I am absolutely determined to do everything we can on that but because where that process is followed elsewhere (which is the process in many of the public utilities commissions in the United States) I think the results are terrible. The result is that meetings of the commission (in our case the Authority) become highly formalized. All the work is done by staff members who do deals in hugger-mugger beforehand. I am often amused by the references to the Monetary Policy Committee. The Monetary Policy Committee has got one decision and only one decision, which it makes in a repeated way month after month. The range of things which Ofgem has to deal with range from some very long-term things to some very immediate things—what do you do when Enron goes bust this afternoon?—and I think it is very important for the Authority if the members and the non-executive members are to be briefed, have time to think about things as they evolve, are able to have frank discussion, that there should be a means of doing that. It is for those reasons that I actually think the idea of an agenda and minutes being published is not the appropriate means of achieving transparency. I repeat that I say that as somebody who has, I think, actually demonstrated in the way that Ofgem has evolved that we are really determined to improve transparency.

  558. Is there therefore anything more that could be done to improve transparency or do you think you have reached the limits of what is possible in terms of that which you feel you can legitimately put in the public domain?
  (Mr McCarthy) We keep on experimenting with ways of doing it better. For example, we published a plan in draft. It was, if I may say so, a revolutionary act for any energy regulator in this country to do when we first did it. The first year we did it we had one general meeting. We thought that we could do much better and now have a series of meetings which bring together consumer groups, industrial groups, commercial groups, we have meetings in Scotland and that has, I think helped matters. We have, I think, developed things well in terms of specific consumer reference groups that we use.
  (Mr Neilson) We have groups both of large industrial consumers and medium size consumers and we meet them quarterly so that they can raise any subjects of interest to them. These meetings are principally about issues that we are starting to consult on well before final decisions are taken so that we educate both sides. We also cultivate not only our relationship with energywatch but with a variety of other organisations that represent domestic consumers, because we think there are several such groups where it is valuable that they are well-informed about what we are trying to do.
  (Mr McCarthy) We have invested quite a lot in developing what I think is generally recognised to be a good website. About 80,000 people a month access it. We are constantly trying to do things. I think the thing that we can do to improve matters is to constantly battle to produce better consultation documents because the things that we deal with are complex. There is always the problem, if you are working hard, that it is easier to produce a long document than a short document and I think that my answer to what could we do better is that we should produce a shorter, clearer document.

  Chairman: Thank you.

Lord MacGregor of Pulham Market

  559. I apologise in advance for the fact that I had a meeting a quarter of an hour ago which I have not attended because I was very anxious to hear you, but if I walk out immediately after you answer this question you will know it is nothing to do with your answer! I wanted to turn to one other aspect of parliamentary control. Some witnesses have suggested, I think not so much in relation to Ofgem actually but perhaps to other regulatory bodies, that there is a tendency for them simply to grow and grow and develop an empire of their own and not necessarily look at the priorities and whether they are being cost-effective themselves. In that context, how rigorous is the scrutiny of the NAO and the PAC? I do not know whether you have ever been in front of the PAC. Is that the best way of testing whether you are being effective or are there other ways?

  (Mr McCarthy) Could I simply say that one of the things in terms of the Ofgem record is that we have managed to reduce our numbers from 380 to just under 300. We have managed, despite additional responsibilities and duties being put upon us, to keep our costs flat in terms of money of the day, i.e. in nominal terms. So the evidence in terms of "You are like all bureaucracies and are just interested in self-perpetuation and growth" does not support that claim.

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