Co-operative Energy’s move into the energy supply market last summer was an eye-catching development for those who closely follow the industry. It is encouraging evidence that the market can attract new players to compete for consumers.
But can growing players effectively compete with the larger suppliers? And are the larger suppliers able to effectively compete with each other? Ofgem believes changes are needed in the wholesale market before we can answer yes to both questions.
Between them the larger retailers supply around 99 per cent of British homes, with the remaining 1 per cent served by seven independent suppliers. Our retail market review showed the need for reforms to make the market more competitive. Our proposed remedies for this include simplifying tariffs, setting tougher standards of conduct and new rules for clearer communication with consumers.
We also need the wholesale market to be able to support competitive generation and supply. At the moment, we are concerned that the market does not offer sufficient, reliable trading in key products. Beyond a month ahead and potentially up to three years ahead trading remains very thin – affecting suppliers’ abilities to hedge, and undermining investment signals. Without reliable access to key longer-dated products, they are forced to buy power in the prompt markets, which exposes them to price volatility.
This also applies to the larger suppliers. Gaining customers is less attractive if there are difficulties in buying longer-dated products in the market. As such, low liquidity dampens competition and dynamism overall – to the ultimate detriment of the consumer.
Trading in longer-dated products is not the only important aspect of a liquid market. A liquid, healthy, wholesale market should meet a wide variety of needs. It is a difficult and multi-sided problem for a regulator to fix and, as highlighted in an article in the 24 February issue of Utility Week on energy market reforms (http://bit.ly/yJtboi), intervention carries risks.
To some extent the larger suppliers are engaging in the issue. An effective near-term market is one of our objectives and there is progress in this area. On the N2EX platform there was a fivefold increase in trading on the N2EX day-ahead auction based on monthly volumes between September and December 2011, which is encouraging.
However, this by itself does not address all our concerns. Hence we are now proposing that the larger suppliers sell specific, key products in mandatory monthly auctions. Over the course of a year these will amount to up to 25 per cent of the power they generate. These auctions will deliver a range of products in the forward market to support hedging. We want market participants to work with us to get the details right, but we think reliable and transparent trading could really make a difference for independent suppliers and generators.
Accessibility is also important – we would want the terms and conditions for buying and selling these products to be reasonable. Too often in the past, independent suppliers have found it difficult to know that they were getting a good deal when entering into bilateral trades.
Further, we want to see credible reference prices that reflect the true value for all products being auctioned along the curve. It is only through increased and successive trading that the market can achieve this. This is important because a credible price is what generators want to see if they are deciding whether to invest in new plant, while for the consumer it provides transparency.
We think a well functioning, competitive market is the best way to protect customers, but that cannot be achieved until the wholesale power market is opened up so that independent suppliers and generators can compete on a more level playing field. Our mandatory auctions could be in place in 2013 to achieve that, but there is nothing stopping the larger suppliers from engaging further in our retail market reforms by taking more action themselves to improve liquidity.
Ian Marlee, partner, markets, Ofgem
This article first appeared in Utility Week’s print edition of 16 March 2012.
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