But the situation reminds me of the scene in Ocean’s Eleven where George Clooney’s character explains how casinos need to have enough money in their vaults to cover every bet on the table. It ensures that, in the highly unlikely event that the house loses every bet placed, the casino can honour its losses.
In contrast to Vegas casinos, energy suppliers don’t currently have to honour their bets – particularly their customers’ credit balances – should they fail. Instead, the cost of supplier failure is spread across the whole industry via the supplier of last resort levy. GB Energy’s collapse, for example, cost the industry more than £14 million.
While such protection is good news for the customers impacted, it’s less good for the customers of all other suppliers, as they ultimately end up footing the cost via their energy bill. In effect, the actions of less robust suppliers are insured by the customers of more responsible providers – who, incidentally, typically have a higher number of vulnerable or lower income customers – the CMA enquiry showed that those who are more well off are typically those who switch to cheapest deals.
And it’s not just credit balances that impose a cost on the market; on some occasions, unhedged energy positions, the result of the new supplier being unable to honour the failed supplier’s (often loss-making) tariffs, have also been claimed against the supplier of last resort levy.
To be clear, we want to see competition, innovation and different business models – that is what delivers a better experience for customers on the whole. And it’s okay for companies to fail, that’s the nature of a competitive market. But it can’t be right that consumers ultimately underwrite the debts of those failures – especially when they’ve not even chosen such suppliers.
Ofgem has committed to looking at its rules on market entry and exit later this summer, following calls from Citizens Advice, Martin Lewis, and many other groups. This is welcome. Protection for one group of customers must not come at the cost of a blank cheque from all others.
As part of this review, First Utility will be proposing that all suppliers should post a bond to insure the excess credit balances of their customers should they fail. It’s not overly onerous on small suppliers, so shouldn’t stifle competition, but it doesn’t punish others for failure and should also ensure more financial prudence.
In fact, a bond – either a letter of credit or insurance against a failure – was a feature of the retail market in the UK until 2001 when Ofgem removed its requirement as it couldn’t foresee a situation when it would be used. Clearly the market has changed considerably since then so it’s time for a review.
There is further precedent. Texas in the US has one of the most competitive energy markets in the world, with over 100 suppliers and a switching rate of over 90 per cent since the market opened in 2002. And yet each of these 100 suppliers is required to post a bond to protect their customers’ credit balances. Here in the UK, other industries also employ this approach. For example, to be a member of the package holiday protection scheme ABTA, travel operators need to prove solvency and again post a bond to guard against the risk of failure.
Such measures have an important dual benefit. By instituting a system of security cover, domestic consumers as a whole would no longer be liable for the cost of irresponsible behaviour. Secondly, they would have a self regulating effect as suppliers are more accountable to the organisation supplying a bond, forcing greater fiscal responsibility, more robust and sustainable business models (which should lead to better customer service) and reducing the chance of failure in the first place.
Ofgem’s “safety net” has once again kicked swiftly into gear to rightly protect Iresa’s customers. But with this safety net being used three times in just over two years, it is now timely to debate how best this protection should be funded.