Changes to the regulatory framework used by Ofwat are necessary to allow companies to focus on purpose and public value, Bristol Water has argued in a new report.
In the paper Regulating for Consensus and Trust, the company claims theories underpinning economic regulation are out of date and suggested an ethical and social approach instead.
The document, produced in response to Ofwat’s Future Ideas Lab, questions how the regulatory system should adapt to meet the challenges faced by the sector and the communities it serves and put that community at the heart of decisions.
Iain McGuffog, director of strategy and regulation at Bristol, explained the company’s motivation was to question why economic regulators should be trusted with decisions on the trade-offs made within a price review, and to explore what kinds of processes could help to improve existing frameworks.
“Independent economic regulation is a powerful tool, but as problems get more complex there are more value judgements involved in trade-offs so it’s good to look at different options and how they can be applied in practice,” McGuffog explained.
The report states that company-led social contracts, which Bristol has championed, will allow economic regulation to evolve. It proposes that price reviews should allow companies to build a range of scenarios and seek stakeholder agreement.
Bristol suggests that without establishing that consensus and trust, efforts to make price reviews less complicated or to introduce competition to the market will be hindered.
McGuffog said: “It’s important to have flexibility or there can be a risk that companies can end up focusing on what the regulator wants rather than customers and stakeholders.”
Bristol proposes adding an ethical and societal perspective to the water regulatory framework and to make decisions about trade-offs not solely on cost-benefit analysis but from an ethical standpoint. The report says financing incentives should evolve beyond market data to link to explicit long-term choices on risk and return.
To achieve this, the company recommends even greater consumer input and stakeholder engagement during a price control throughout the process but in an accessible way.
“Customers and stakeholders do want to talk about long term risk and incentives – there are not certain topics that should be reserved to economists,” McGuffog said. “We should have discussions on risk and regulators should consider stakeholders’ views on whole packages.
“The tools of efficiency and comparisons still have power, but when you apply them you need to know how to translate it back to those stakeholders who engaged at earlier stages of the process,” he added.
As the effects of climate change are felt, people’s experience will largely depend on how it is dealt with locally, so the report questions how much of a water company’s agenda should be set out nationally and how much should be left for organisations to consider regionally.
“For the future, we need to look at what we are trying to achieve and how we make sure that there’s as much value gained out of the engagement and discussions at local level to inform the decisions,” McGuffog explained.
He said a slight disconnect exists between the current framework of economics in terms of price reviews and some of the language regulators and government use to talk about the challenges being faced.
“The water sector and Ofwat have a lot to offer but we have to recognise what’s going on in the wider world and test our end processes against it. I would much rather we did that now before getting into the depths of setting the prices for the next five years. It’s not about replacing those, it’s informing them.”
Unless a consensus on the regulatory framework is established, Bristol questions how much consumers will trust economic regulation in a rapidly changing world.
The report says that unless this can be established, economic regulation may fail to keep pace with the societal shift in expectations.