Bombshells, vandalism and stand by generation

Last week was certainly an eventful one in the world of UK energy policy and given the last few years that we have had that is certainly saying something. After a quiet start Ed Milliband dropped his bombshell of a twenty month retail energy price cap. This strikes me as policy making at its worst. There are three problems with it.

 Firstly, it seeks control of the end user price of a commodity without doing anything about the underlying costs and leaving retailers at the mercy of trends outside their control. We are obviously all concerned about high energy prices but attacking retailers fairly low profit margins is missing the target by a long way. By my reckoning over the last few years retail margins have been, at the most, the fifth biggest contribution to rising energy prices, if that. They certainly rank well behind 1) the global and well documented rise in wholesale energy prices; 2) increases in network charges which are the subject of independent price control regulation; 3) the relentless rise in government imposed costs on clean generation and energy efficiency; and 4) upward pressure on overheads as suppliers prepare for smart metering and the green deal. Government directly controls one of these (number 3) and heavily influences another (number 4) but Miliband decided to target all his guns on the margins.

Secondly, Governement mandated price freezes don't work as all the evidence from the 1970s suggests. How soon we forget. They produce distortions in the market, create sub optimal behavior on the part of both customers and suppliers and only delay the inevitable. King Canute springs to mind. They are notoriously difficult to implement. Let me illustrate with a simple example. Industrial customers typically sign multi year energy contracts which frequently have price variation clauses in them to deal with the uncertainties facing both sides. Is Government simply going to tell willing buyers and sellers that they can't trade the ways they want to.

Thirdly, whatever politicians may think and assert, there is, and always has been, a link between levels of investment and levels of profitability. If Mr Miliband thinks that he will get the investment needed to largely decarbonise the UKs electricity industry by 2030 (I happen to believe this is a good goal by the way) and at the same time drive a substantial segment of the industry into artificial losses then he is living on a different planet than the one I occupy. The businesses of the production and supply of energy are largely owned by the same companies and are certainly financed by similar investors. What affects one part of the energy industry naturally affects the other bits. Politicians seem incapable of understanding that the investment climate is a fragile thing and the ructions of last week will have undermined confidence throughout Board rooms of Europe.

I don't know how it will all play out but the energy supply business will become even more dysfunctional and  the UK's generation capacity crunch will be deeper and longer than we thought a week ago. If Mr Miliband gets his heart's desire and is given the keys to Number 10 Downing Street in 2015 his first task should not be to hold a press conference or appoint a cabinet but check the stand by generators work.