ANOTHER ENERGY MARKET REVIEW – BUT WITH POTENTIALLY IMPORTANT CONSEQUENCES

The OFT, along with the CMA and Ofgem are investigating the state of competition in the gas and electricity markets and a report is due in March 2014 .

Calls for market investigations or Market Investigation References (the latter under the Enterprise Act 2002 and carried out by the Competition Commission) have been commonplace in recent years. Yet Ofgem has normally used its own investigatory and other powers – for example in both the Energy Probe and the Retail Market Review - to investigate and put in place remedies. The references to the former MMC leading ultimately to the break up of the former gas and electricity monopolies were some 20 years ago.

Many of the recent Ofgem remedies are still either taking effect or about to be brought into force. A strange time, one might think, for the Secretary of State to call for this report, let alone for ED Davey (current Secretary of State for Energy and Climate Change) to also then call for an MIR following this review (as he did in February 2014, during the investigation/reporting phase).

WHAT IS DIFFERENT ABOUT THIS INVESTIGATION?

First, it is the first investigation to be carried out jointly by Ofgem and the OFT (and the CMA, currently in nascent form but due to replace the OFT and Competition Commission in April). Secondly, it is arguably a political ‘animal’: true it may be that Ofgem has responded to political ‘pressure’ previously (it is after all accountable to Parliament and Select Committees), but it has never worked so directly with other competition authorities at the behest of others. Finally, the timing is ‘interesting’: the report will be made just before the CMA comes into full existence, and it may be thought that a full MIR (a 2 year investigation, with potentially dramatic remedies such as the breaking up of companies) could be an attractive part of its agenda given the importance of the energy sector to the economy.

POSSIBLE OUTCOMES

In my view, there are 2 most likely outcomes possible, which are not necessarily mutually exclusive. Before turning to them, I should mention that in its ‘Assessment Framework’ published in mid-December 2013, the 3 parties (OFT/Ofgem/CMA) largely adopted the pre-existing Competition Commission framework for assessing competition, tweaked to the energy sector so that the focus will be, for example, on consumer engagement and levels of complaint, on pressures to compete between suppliers (and thus a look at pricing strategies and if possible margins), and barriers to entry (in this instance, liquidity will likely be a focus).

As the same assessment framework referenced the numerous problems already found by Ofgem, and subject in most cases to action, one cannot expect a ‘clean sheet’. Recognition of certain problems is already there. This leaves the following two main alternatives:

  1. A REPORT EFFECTIVELY SUPPORTING OFGEM’S WORK - AT LEAST PRO TEM

A report along these lines would endorse and perhaps build on Ofgem’s own findings of elements of market failure. Further proposals for action may be made, but the general gist will be that Ofgem has the necessary powers to deal with the issues identified, or at least that the measures it has or will pursue need to be given time to work.

  1. THE MAKING OF A MARKET INVESTIGATION REFERENCE

A market investigation reference is an in depth investigation of up to 2 years (though 18 months is the stated administrative target), which may lead to remedies including ‘structural’ remedies such as the breaking up of companies. The terms of reference can be set as broadly or as narrowly as possible. If this avenue is to be pursued (as Ed Davey would like), then the money is on a reference focussed on issues arising out of vertical integration of the ‘big six’: the fact that these companies sell gas and electricity to their supply arms, it would be argued, may have led to a lack of transparency, to huge but effectively hidden profits, and (importantly) to a lack of liquidity which deters new entry – a bugbear which Ofgem has struggled to resolve for years.

CONCLUSION

The timescale of the reference is extremely short given the size of the market and the number of complex and interwoven issues. It has also been made when, for the first time in history, not only politicians and new entrants are calling for a Market Investigation Reference, but so too has at least one of the ‘big six’ (SSE – 29 October 2013). On top of that, the CMA will ‘go live’ in April, and Ofgem itself has a recently appointed new Chairman and CEO – one can only speculate whether they would be quite as adverse to ‘handing over’ an aspect of the markets to third party investigation by the CMA, if only because any flaws identified would not have occurred on their watch. A ‘vertical integration’ reference impinges on certain aspects of Ofgem’s role, but it need not lead to stasis.

A heady mix of politics and economics indeed.