Ofgem has raised fears over monopolies emerging among flexibility platforms due to the kind of winner-takes-all network effects that have helped tech companies such as Google and Facebook to secure and maintain market dominance.
The regulator made the comments in the sixth of its series of Future Insights papers, this time exploring issues around flexibility platforms.
“Flexibility providers may want to trade on the same platform as other providers they know – for example, because they trust the judgement of those in their network,” it explained.
“Moreover, buyers of flexibility may end up forming business relationships with certain sellers on a platform that they want to maintain because of convenience or because they have compatible processes in place.”
“However,” it added, “these network effects can lead to inefficient decisions by users in some cases. Network effects could also become a barrier to entry for new platform operators.
“Over time, network effects are likely to contribute to a tendency towards a more concentrated market structure and monopoly power.”
The paper said there may be instances in which distribution network operator (DNOs) are “uniquely well placed” to perform the tasks required of flexibility platforms due to synergies with their “core monopoly role”, such as access to vital network information.
However, it also warned that their monopoly position presents risks as well: “Conflicts of interest could arise, in the absence of correct incentives, where the DNO (or another party), is carrying out platform tasks and at the same time is a purchaser of flexibility or owner of flexibility assets.
“A DNO, or any participant who finds themselves in this position, may have the incentive to apply procedures or rules which are more favourable – either towards assets that they own or towards their own flexibility requirements.”
It continued: “Even if DNOs are not engaging in anticompetitive behaviour, the perception of them having a conflict of interest may dissuade other market participants from using DNO-run platforms.
“This could engender distrust in the market and reduce participation in it, especially as it may take time for rival platforms to emerge.”
The report further highlighted concerns over poor coordination between stakeholders leading to “duplication and a lack of interoperability”.
It said an absence of regulatory clarity could “leave a vacuum in which participants achieve their own short-run interest at the expense of more efficient outcomes.
“In theory, self-regulation of flexibility platforms and market participants through voluntary codes of conduct is an alternative, but the wider literature identifies that unless well-defined, self-regulating platforms may experience rent-seeking and price manipulation problems.”
Ofgem said beneficial standards could include a common protocol for sharing data on transactions, universal definitions of asset and product characteristics and standards for the format and content of flexibility bids and offers.
At the same time, the regulator said there was also a risk of “locking in a specific regulatory approach too early”. It said this could affect choices of technology and innovation opportunities.
It said a careful balance would need to be struck: “Keeping open multiple paths for future development but with common principles in place should reduce barriers to innovation and potentially avoid costs of path correction at a later date in wider roll-out.
“Implementation of standards or principles may narrow potential technology, process or organisational innovation yet, conversely as the sector matures, the confidence provided by relevant standards can support innovation from new entrants into the market by providing certainty of requirements.”
The report made a series of specific recommendations including that a data-sharing framework be implemented to allow access to network data and encourage competition and that industry groups such as the Energy Networks Association develop a shared vocabulary around flexibility.