Thursday 8 December 2011 saw the publication of the long-awaited Water White Paper, “Water for Life”.

Introduced by Secretary of State Caroline Spelman MP as, “a vision for future water management” the White Paper covers a range of topics spanning environmental sustainability, affordability, water efficiency, infrastructure planning, and developing a competitive marketplace for business customers.

Quite rightly the Paper recognises that the water sector has been a success since privatisation in 1989, having invested over £90 billion in new and improved infrastructure.

The Paper also acknowledges that the strengths of the sector must now be captured and built on, meaning that change should be evolutionary rather than revolutionary. The sector’s stable regulatory regime has allowed investor confidence to remain strong; the level of investment required in the coming decades will be significant, and therefore confidence must be maintained if water companies are to continue delivering their capital programmes at acceptable cost.  To achieve this, Government has decided not to introduce fundamental structural change, so as not to undermine investor confidence.

The Paper emphasises the extent of the issues facing the sector if water supplies are to be sustainable, capable of coping with the impacts of climate change whilst minimising environmental impacts. One of the enablers to achieve this will be an increased awareness and understanding of the value of water resources.

So what are the indicators as to Government strategy for the water sector, what are the key messages within the White Paper? This note provides a short summary of the content of the Paper’s 100 pages.           

Sustainable water resources & protecting rivers

The White Paper tells us that Government plans to introduce a reformed water abstraction regime, resilient to the challenges of climate change and population growth. A consultation on proposals to achieve this will be undertaken in 2013, with the aim of introducing legislation early in the next Parliament.

The Paper states that abstraction charges do not send the right price signals, in that  the cost of an abstraction licence does not reflect the relative scarcity or abundance of water. The current process for licence changes is not sufficiently flexible, and does not deal effectively with “the legacy of unsustainable abstraction”.

All existing licences will be changed, in a phased way. Transitional provisions will seek to ensure continued access to water resources, but any losses suffered by individual abstractors in the move to a new licensing regime will not be compensated.

Government intends that the new abstraction regime should be in place by the mid to late 2020s.

When other steps to minimise water use have been taken, the White Paper recommends that we consider steps to collect and reuse rainwater and recycle grey water, particularly in new buildings. In addition we should consider how best to reuse treated water from sewage works.

As well as reform of the abstraction licensing regime, the White Paper announces plans to increase interconnection in the water supply system, enabling more bulk transfers.

Whilst water is heavy and therefore expensive to move, increasing water scarcity may alter the economic case for long distance transfers. At this stage however the transfers which are envisaged would be short distance ones, joining up water supply zones within and between company networks.

Ofwat estimates that the savings to be made from improved interconnection could be as high as £960 million over the lifetime of the assets.

Government will look to Ofwat to support the drive for greater interconnection and bulk trading through use of incentives for water trading in the next price review. The Paper also states that Government will expect to see clear evidence that any water company proposing to develop a new source of supply has fully considered and costed raw water trading with neighbouring companies.

The White Paper recognises that reform of water abstraction will take time to achieve, but that in the meantime there are a number of changes that can be made more quickly, in order to provide better protection for rivers.

These will include moving forward with a catchment-based approach to improving environmental water quality, with intensive support of 25 catchment pilots.  These will seek to mitigate the impacts of diffuse pollution, for example by implementing agricultural uses that protect water sources and continuing to tackle other sources of diffuse pollution such as septic tanks.  A consultation on a national strategy on urban diffuse pollution will take place in 2012.

Working with and through the Environment Agency, Government will develop an action programme for addressing unsustainable abstraction in River Basin Management Plans up to 2027, and beyond.

The EA will consult in 2012 on changes to its charging scheme, aimed at altering that part of its scheme that deals with compensation payments.

The EA will also pilot using reverse auctions of licences as a tool to restore catchments to a sustainable balance at least cost.  This approach, recommended in the Cave review, would allow a licensee whose abstraction was damaging the environment to bid to sell back part or all of the licensed volume to the Agency.

From 2012, a power contained in the Water Act 2003 will be used, enabling licences causing damage to watercourses to be removed or varied without compensation – a consultation will take place before hand.

The EA are to examine large unused licences to consider whether there is a need for them, and whether it should use its powers to revoke them. The assessment of “reasonable need” might include holding a reasonable contingency in reserve, although the White Paper provides no detail as to how this might operate.

In relation to trading of licences, the EA will improve market information by publishing information on average trade prices, volumes and locations, to create an understanding of the value of abstraction licences. It will also publish data on abstraction licences, in order that interested parties can approach potential sellers, facilitating the emergence of market brokers.

Infrastructure/regulatory planning

Very much in line with one of the key themes in the Gray report, the White Paper announces that Ofwat, the EA and the Drinking Water Inspectorate are to strengthen their working relationships to provide clear signals to companies on delivering outcomes in relation to water resource management planning.

The White Paper tells us that Government will take a strategic overview of the quality and capacity of water and wastewater infrastructure, and the robustness of the sector’s plans for future service delivery.  With the EA and the industry, Government will consider whether there are strategic national projects necessary to ensure water supplies remain resilient.

In relation to wastewater, Government will consult on national standards for SuDS and a new approval system for sustainable drainage.  The Water Industry Act 1991 may be amended to ensure that companies are able to build SuDs to meet their duty to provide effectual drainage.  Government is also to consult on mandatory build standards for new sewers.

Affordability

In October 2011 Government published a consultation paper on draft guidance to water companies and Ofwat regarding the introduction of social tariffs. Final guidance to companies will be published early in 2012.

Government wants water companies to do more to promote metering to those who would benefit, and make switching as easy as possible.

Recognising that bad debt places additional cost on the majority of water customers, Government is to consult on different approaches to helping water companies to access occupier details, in order to reduce bad debt.  A decision on the way forward will be taken in 2012 in the light of the evidence gathered from the consultation.

Recognising that water customers in the south west of England face higher water bills than in any other part of the country, South West Water is to be funded to enable it to cut bills for household customers by £50 per year from April 2013 until at least the end of the next spending review period.  This proposal, announced earlier this year in the Chancellor’s autumn statement, is somewhat controversial – objectors claim that the rebate should be used nationally to assist those in greatest difficulty with paying water bills.

Competition

This section of the White Paper was perhaps more keenly awaited than any other.  Not afforded a chapter to itself, but included within “Developing a customer focused water industry”, the Paper announces that Government has decided not to introduce fundamental structural change within the sector, but instead to build on the strengths of the existing regime. This means that change will be evolutionary.  There will be no retail separation.  The new regime will apply only to business customers. It is clear from the White Paper that Government has heeded the messages from investors, and is intent on maintaining  stability within the sector and its regulatory regime,  so as not to undermine investor confidence.  Government recognises that this confidence is critical in enabling the sector to continue delivering its capital investment programme at acceptable cost.

Notwithstanding this cautious approach to change, Government believes that gains will be made from increased competition, and the Paper therefore outlines a package of reforms aimed at improving the deal for customers as well as driving innovation and less risk-averse behaviour.

Even without retail separation, the Paper proposes the development of a retail market for water. To achieve this, Government will introduce deregulatory changes to legislation to make the existing competition regime – both water supply licensing (WSL) and inset appointments – work more effectively. Legislation to achieve this will be introduced, “…at the first opportunity…”

Regulations to reduce the eligibility threshold under the WSL regime in England from 50Ml to 5 Ml had previously been published, and took effect on 15 December 2011. The threshold will be further reduced to zero (although not in Wales).

Government plans to establish a new market for retail water and sewerage services in partnership with Scottish Government. Ofwat and the Water Industry Commission for Scotland will mutually recognise each others’ licensees, meaning that eligible customers will be able to contract with a single supplier for England, Wales and Scotland.

In order to facilitate market entry, legislation will enable Ofwat to establish statutory market codes.  These will incorporate standard terms and conditions; there will be no need for a new entrant to negotiate contract terms separately with each incumbent company.

The WSL regime is to be extended to sewerage.  The in–area trading ban is to be removed. These changes will enable eligible customers to deal with a single supplier for all services in all parts of the country.

Government is to work with Ofwat in reforming the wholesale access pricing regime. This reform will enable, “…integrated water companies operating their business in an efficient manner to earn an appropriate return on their assets…”  The White Paper does not tell us who will interpret and police this new pricing regime once it is established.  A similar wholesale charging mechanism will be introduced for the inset regime.

The costs principle, enshrined in section 66E of the Water Industry Act, is to be repealed. This will be welcomed by some, but certainly not by all participants in the sector. Indeed, commentators argue that an analysis of the decision of the Competition Appeal Tribunal in the Albion Water case reveals that the problem lay not with the costs principle itself, but with Ofwat’s interpretation of it. Clearly then it will be important to ensure that the new regime on wholesale access prices is to be interpreted appropriately.

A new form of licence, “self-supply”, is to be introduced. This will enable a suitably qualified customer to become its own new entrant, buying water direct at wholesale prices and removing the need to utilise a retail licensee as middleman.

In respect of upstream competition, new entrants are to be encouraged to sell surplus water into an incumbent’s network. The WSL combined licence will be unbundled – this will allow a new entrant to input water resources without undertaking retail services. New entrants will be afforded the ability to access the treatment and storage systems of incumbents, as well as their pipes, to allow a new entrant with surplus water to input water to a reservoir for example. The White Paper does not expressly clarify whether this extended right of access is to apply equally to sewerage and sewage treatment assets as well as water supply.  A new network licence is to be introduced, allowing a new entrant to own and operate its infrastructure which is connected to an incumbent’s network. The DWI will be involved in approving new applicants for a water supply network licence, and the EA will perform the same role for sewerage licences.

Alongside (or perhaps as a result of) this evolutionary approach to competition reform, the White Paper heralds firm action in the event of discriminatory pricing or behaviour. Furthermore, a future Water Bill will allow Ofwat to impose financial penalties for infringements over a 5 year period, as opposed to 1 year currently.

Perhaps mindful of lessons from the energy sector, the Paper points out that small and medium sized businesses will be protected from mis-selling by a statutory code of practice.  A cooling off period will be allowed for customers considering a switch of supplier.  These steps seem more appropriate as a measure to protect domestic consumers (to whom the competition regime does not apply) rather than business customers.

Merger Control

The Cave review had recommended that the special merger regime for water be reformed. In the White Paper Government states that it plans to consult on increasing the referral threshold from £10m to £70m, but does not include other recommendations from Cave, such as the publication of guidance on the approach to assessing the loss of a comparator.

Government intends to legislate to introduce a two tier referral system, whereby a water company seeking to take over another water company might give undertakings  in lieu of a referral. The White Paper tells us that such undertakings might include continuing with separate price controls or divesting part of the business.

Licence reform

The Gray review made reference to the lack of uniformity of water company licences, and their overly complicated format, requiring a modernisation review to achieve clarity and transparency.

Ofwat is undertaking a project to modernise and standardise licences. Once that has been completed, Government intends to work with Ofwat to explore the case for licence modifications to be agreed by a majority of companies.

Consumer protection

Also consistent with the Gray review, the White Paper confirms that the Consumer Council for Water is to continue as the body representing consumer interests in the water sector.

However, this will only be until 2014. Before then, Government will consider moving CC Water to a new single consumer body, with any change taking place after the next price review.

Water efficiency

The White Paper advises that, “If we are to deliver our vision for the future we must change the way we value water.”  It continues that this will not be quick or easy, and requires action across society, not just from water companies, regulators and Government.

As one way to encourage more efficient use of water, companies are to be encouraged to offer a greater variety of tariffs, for example seasonal tariffs which reflect the extra costs of summer water supply and reduced costs of winter use.

Government also expresses interest in the potential of smart water meters to improve water company network management, and encourage more sustainable water use by consumers.

Innovation

Following one of the fundamental strands of the Cave review, Government states that it wants to create a water sector in which innovation can flourish.

Water companies have a key role to play, in continuing to provide a sustainable, secure water supply and wastewater service at affordable prices.

Ofwat is to change the way it regulates (which has contributed to the sector’s risk averse nature).  Companies are to be given the incentive and the freedom to try novel approaches, benefitting from success rather than being penalised for failure.

Regulation

Government acknowledges that it must provide greater clarity on the longer term objectives for the sector, setting a clear direction for regulators and taking a lead on contentious policy issues such as the extension of competition.

Next steps

The White Paper identifies a range of immediate steps that Government will take in implementing the Paper.  These include -

  • Publication of a draft Water Bill in early 2012.

Introduction of a Water Bill as soon as Parliamentary time allows.

  • Production of a strategic policy statement and social and environmental guidance for Ofwat during 2012.
  • Arrangements for work on the design of a new abstraction regime to be in place in early 2012.
  • Social tariff guidance to be published in early 2012.
  • A consultation to be published in spring 2012 on revised draft guidelines for the next round of water resources management planning.