Lord Teverson
“(f) to give priority to demand side management and demand reduction measures in preference to increased generating capacity whenever and wherever this is economically appropriate;(g) to progressively increase the energy efficiency of the United Kingdom as measured in terms of quantity of energy used per unit of GDP”
Lord Teverson
My Lords, I shall have to be brief, as we are supposed to finish the Bill today, I think it says, so we will need to set quite a pace. The target for the day: to complete. The easiest way to do that is for the Minister to say yes—perhaps not; I suspect that will not happen.
I tabled Amendment 51N specifically under Part 2, Electricity Market Reform, under Chapter 1 entitled “General Considerations”. This is not just about the capacity payment or all the other bits that make up energy market reform; it is about energy market reform as a whole. Clause 5(2) contains a number of general considerations and it goes through those very carefully. Clause 5(2)(c) refers to,
“ensuring the security of supply to consumers of electricity”.
Clearly that is very important. It also mentions a number of things around cost.
One thing that everybody has agreed, particularly the Secretary of State and Ministers at the Department of Energy and Climate Change, is that as this Bill has been considered in its draft stage and by the informal group of this House, it emerged that it had a bias towards supply. That may have come from old thinking from many years ago and had not caught up with a new way of looking at the overall issue of energy provision within the United Kingdom. I very much welcome the fact that the Secretary of State and the Government have started to take this on board and there are a number of mentions within the Bill of the demand side of the equation, in terms of both demand reduction and demand-side response. Of course, the previous Energy Bill was all about energy reduction in terms of the Green Deal so this is an agenda that is live.
I still think it is really important within this Bill to put down as part of these general considerations the fact that the demand side must be taken into consideration in terms of the exercise of the various functions to do with electricity market reform. That is why I seek to add these two additional paragraphs; first,
“to give priority to demand side management and demand reduction measures”.
I have put very strongly,
“in preference to increased generating capacity”,
but I have made the constraint, which ties in with the whole cost area,
“whenever and wherever this is economically appropriate”.
We need to move our mindset on from being dominated by the supply side to ensuring a much more level playing field in terms of how the Secretary of State and future Secretaries of State have to look at the way in which electricity market reform is implemented. So it is a reminder. It is exactly the thing that needs to be in the Bill to make that clear so that in the future civil servants know that when they are advising Ministers about how this Act is applied, these issues have to be taken into consideration.
We had a long debate on the first day of Committee on decarbonisation targets but we never mentioned energy-efficiency targets. In many ways, this is equally if not more important in terms of the way that we plan our electricity usage and our energy usage within the economy more generally as we move forward.
Clearly, I understand that some of this comes within a European Union context, in that we have the energy efficiency directive, the non-statutory target of 20% energy efficiency for the EU as a whole by 2020—one of the three major targets to be met by that time. It is also important to bring that requirement into this Bill.
The Minister might say that I am absolutely right, and that the United Kingdom is one of the most energy-efficient economies in Europe and indeed the world. Part of the reason is that we have a relatively small but, I hope, rebalancing manufacturing sector. We do not have many energy-intensive industries, but we rely on our service sectors—commercial and retail—which are not energy efficient.
On the other hand, we have a housing stock and a building stock which are still very inefficient: in fact DECC estimated in its energy-efficiency strategy, which came out towards the end of last year, and which I welcomed at the time, that 14 million homes were not insulated to an acceptable standard, from a stock of 27 million. For those of you who can do maths—even if they could not do the equation we dealt with earlier this week—that is just over 50% of total housing stock. In fact around 40% of total housing stock was built before the end of World War II, and a significant proportion of that before the end of World War I. That shows the issues we have around energy efficiency in this country, some of it being dealt with, we hope, as the Green Deal becomes more effective as time goes on.
What I intend to do here is to rebalance this Bill in a key area of electricity market reform, where we set out what we are trying to achieve. We are not removing the supply side; we are adding demand as an equal factor. We are saying that there should be a preference for not spending rather than spending, but only where that makes economic sense. In the cost abatement curves shown in the many multicoloured DECC documents, energy efficiency always comes out on the left-hand side of the graph, which means it is the most cost-effective way to attack our energy needs and to shape how the energy market works in the future. I beg to move.
Lord Davies of Stamford
My Lords, I agree with the second part of the amendment proposed by the noble Lord, Lord Teverson, and the noble Baroness, Lady Parminter. It would be rather strange if nothing at all were said on the face of the Bill about the importance of energy efficiency, as it is quite clearly one of the criteria the Secretary of State must always have regard to in conducting a sensible energy policy.
However, I have a problem with the first half of this amendment, which reads:
“to give priority to demand side management and demand reduction measures in preference to increased generating capacity whenever and wherever this is economically appropriate”.
In improving this Bill we are drafting the law. The law has to be unambiguous. The law places obligations on the citizen; the citizen needs to know precisely what those obligations are if the law is going to be effective, dignified and respected. This provision could not possibly from part of a law in that sense. The phrase “economically appropriate” is so vague that it is almost impossible to know what it might mean and where one would need to decide, using this principle, between an energy-saving investment and an energy-generating investment. I notice that the noble Lord, in introducing this amendment, did not actually refer to “economically appropriate”: he used the term “economically sensible”, which he perhaps feels is a synonym. However, the use of a different word only adds to the vagueness and uncertainty, which should not come to rest in the corpus of the law of the land.
I suppose that what the noble Lord might have had in mind with the phrase “economically appropriate”, or even “economically sensible”, is the solution that has the highest economic return, but even that would be a very vague phrase to place in a Bill in the corpus of law. After all, in choosing between one particular project with a relatively high capital cost and a relatively high return and another with a lower capital cost and a lower return, or between a project with a high capital cost and a long payout period and another with the same capital cost and a different payout period, which one to be chosen would depend on the cost of capital, on which one was discounting the projected cash flows. If you wanted to make this a precise obligation, you would have to specify what the cost of capital would be. It would be and should be, of course, different according to the different risks for different types of energy projects, because they would have different risks. Therefore, I do not see any prospect here of reducing the unambiguous guidance that is necessary in law so that the citizen or, indeed, the Secretary of State would know precisely whether he was observing the law or not.
Lord Roper
My Lords, Amendment 55ZA in this group is in my name and that of the right reverend Prelate the Bishop of London. As has already been mentioned, when the draft Bill was published in May last year, there was a great deal of criticism that there was nothing in it on electricity demand reduction. Indeed, those of us who sat on the informal group with the noble Lord, Lord Oxburgh, drew attention to this in the document that we produced and suggested that it ought to be included. When this Bill was published last November, there was still no reference. Fortunately, at the same time, the department started a consultation into demand reduction, and on 21 May it published its response to that consultation. At the same time, it tabled an amendment, which was then proposed new Clause 12 and is now Clause 37 in this Bill, the clause that I wish to amend.
The interesting point in the response to the consultation is that the department suggested that its preferred route to delivering reductions in electricity demand is via a capacity market—I am talking here not of a demand-supply response but of permanent reductions in electricity demand. I have always had some difficulty in seeing how that could fit in to a capacity market. I therefore grabbed the delivery plan last night to read the section on the capacity market in order to discover how it should occur. I am extremely sorry to have to tell your Lordships that, having read that whole section overnight, I found no reference at all to electricity demand reduction, not even to demand-side response. I sometimes wonder whether there are two DECCs, one writing one thing and one writing another. I hope that I am not misleading the Committee in that view. The important thing is that Clause 37, which was introduced in the other place, suggests that a pilot scheme should be developed to look at it.
In our amendment, the right reverend Prelate and I suggest that we should aim it rather more widely. There ought to be a number of different pilot schemes and, if it is possible to envisage how it could be done, they ought to be included within the capacity market. Alternatively, we could look along other lines, including those discussed in Committee in another place, of finding some sort of premium for this. There are quite a number of problems with the use of the capacity market in dealing with the permanent reduction of electricity demand. There is of course uncertainty as to how big a capacity auction will be. Therefore, people who invest in permanent reductions are unclear from time to time as to what sort of return they will get for that reduction.
Lord Cameron of Dillington
My Lords, I support the theme of these two amendments, particularly the latter one. It is widely recognised that energy demand reduction is one of the cheapest ways to achieve decarbonisation of our economy. I have seen figures—I am not sure whether they came from DECC—which state that energy saving could reduce demand by 26% by 2030. I imagine that that 26% is not from where we are now but from where we would be if we did not have any form of energy demand reduction schemes in place.
It worries me, as the noble Lord, Lord Roper, was saying, that DECC originally said that it would be implementing energy demand reduction via the capacity market. Perhaps I am quite glad that the noble Lord did not find any reference to it in his reading last night because maybe we have got that wrong. To be honest, it makes absolutely no sense. Why wait for the capacity auction next year and implementation in four years’ time before introducing demand reduction schemes? Why wait for a capacity crunch before introducing them? We need these schemes to start now or as soon as possible. As the noble Lord, Lord Teverson, said, we are not talking about energy security or even capacity margins; we are talking about emission reductions across the economy.
I think that I am happy to accept that the Government might want to run pilots here, although the noble Lord, Lord Roper, was absolutely right that we need to put details in those pilots; for example, when the results will be, what will happen afterwards and so on. We have seriously to get on with this.
Lots of opportunities are available. Smart meters are the first that come to mind. A supply company can run machines within a business or a household that are very expensive on electricity—tumble dryers and even dishwashers can wait until the smart meter tells it to turn itself on. Obviously, it should be allowed to be overridden by the householder but the householder must know exactly what cost there will be if he or she overrides the meter. There will be certain times—obviously, when people come home from work and turn on the kettle, or when they get up from watching a film or “Coronation Street”—when the electricity companies know intimately when the peak demand will be. The prices should be allocated accordingly.
I should also say that in future, smart meters could—nay, should—be sensitive to the amount of supply available. If a large proportion of our supply such as photovoltaics or wind turbines is dependent on the weather, a smart meter should know what the weather is to be tonight at 6 pm when the peak demand is coming and therefore what the capacity margin will be. For instance, in Germany last week—and probably this week as well—at certain times, 33% of the national electricity supply came from photovoltaics. Clearly, at those times there was no shortage of power in the country and no need to restrict demand at all by cost.
The noble Lord, Lord Teverson, also said that demand reduction could be encouraged by better energy rating in housing. I could not agree more. Again in Germany, 360,000 homes have been brought down to near zero emissions by lending money to householders at 1%. Perhaps a pilot could be encouraged on those lines; as we all know, the Green Deal has not been very effective as yet.
However, the most important move, because it throws down the gauntlet to the entrepreneurial flair of industrialists, business people and householders themselves, is to pilot and introduce as soon as possible energy efficiency premium payments. Those schemes have worked very well in the USA and, I believe, could work in the UK if bundled together with grants for capital investment. That could, incidentally, include hundreds of household or office-based batteries linked to the smart meter—so electricity is going in and out of those batteries. Obviously, some help would be needed with the capital expenditure in those circumstances.
The main point is that the Government have to drive that agenda, not just sit back and let it happen via the rather clunky capacity mechanism, which was never really designed for electricity demand reduction in the first place.
Viscount Hanworth
My Lords, I, too, express my appreciation of the intentions of the noble Lord, Lord Teverson, and the noble Baroness, Lady Parminter, but I should like to pick holes in the amendment in much the same way as has my colleague, my noble friend Lord Davies. Whereas he considered proposed paragraph (f), I shall concentrate on proposed paragraph (g). It may well be that the amendment is more sophisticated than it seems, because it is possible that the noble Lord, Lord Teverson, is trying to strike a judicious balance between saying something felicitous and saying something that will get past the Minister.
Let me try to deconstruct what is being said in paragraph (g). It is an injunction,
“to progressively increase the energy efficiency of the United Kingdom as measured in terms of quantity of energy used per unit of GDP”.
That is most unlikely to impose a binding constraint. The fact is that the ratio has been decreasing monotonically since 1950, at least, so that in 2010, we used about half the quantity of energy per unit of real GDP as we did in 1950.
I want to make a bigger point than that. I think that we should approach most of what we read in the Bill in a spirit of cynicism and scepticism. I am sorry if that sounds strong, but if we analyse a great many clauses in detail and think of the circumstances in which they would be applied, we realise that they impose non-binding constraints and impose no particular behaviour by the Government that might staunch emissions, improve efficiency, or whatever. I do not fully understand the motives of the noble Lord, Lord Teverson, and they may, as I said, be more sophisticated than they seem but, if I may be forgiven for saying so, his amendment would perpetrate exactly such an ineffective provision. I hope that he will forgive me.
Lord O'Neill of Clackmannan
I follow on from my noble friend’s remark and say that Amendment 51N is pretty vacuous. It is giving us the excuse to have a debate, but it will not come to anything. It is certainly the case that the Government have been reasonably successful in demand reduction because of their economic incompetence over the past three years. We have been in recession, we have seen emissions fall and we have seen the demand for electricity change. That is the first point which has to be made.
Sooner or later, we will come out of this recession—and when we do, we are going to need far more than Amendment 51N would do regarding capacity changes. We are, I hope, going to have an economy growing in a manner which, in its early stages, will probably not be the most attractive for energy efficiency. In some respects, we want to get out of the recession as quickly as possible. Having to chase around for the most energy-efficient way of doing that when we are trying to find economic prosperity for our people would be questionable in the eyes of the public and their sense of priorities. Frankly, the quicker we move on from this amendment the better, because it is a waste of time, although the other amendment has a degree of merit. I am also always dubious about split infinitives in law at the best of times.
Lord Dixon-Smith
My Lords, I do not know whether my noble friend Lord Deben is getting up to speak or walking out. I did not realise that the noble Lord who just spoke would have such a potent effect that he would drive my noble friend nearly out of the Room.
I am bound to say that it is very dangerous to blame the state of the economy in the past three years for what has gone wrong. That is a bit like trying to compare last week’s weather with the global climate. When you look at matters affecting the global climate or, indeed, the national economy in the wider scale, the blame lies rather more out of the three years that we are completing. It has a great deal to do with what went on before, but that is not what I really rose to speak about.
I should perhaps explain that there was a time, quite a number of years ago, when I had the ultimate responsibility for the complete built estate owned by Essex County Council, which is a major operation. Among the things that we had to do, there was the little matter of energy efficiency. There was also the question of the quality of buildings, because there were some truly appalling buildings around in those days. It was a constant balancing act as to what we did. Two factors were vital. In those days interest rates, which fortunately we do not have to consider today, went up and down rather like a yo-yo so that schemes went into and out of our plans depending on those rates. The other factor was of course the price of energy itself. If your Lordships want people to take an interest in economising on energy, the quickest way to do it is to put the price up. That is a brutal reality and we should not forget it. Price will always be an important factor.
When we get into the question of demand management, I have my own view on smart meters. First, they are not very good at demand management; what they do is to move the demand around so that you can reduce the peaks and troughs on the supply side, to a certain degree. However, they do not actually reduce demand in total. We may as well bear that factor in mind. Secondly, we have to bear in mind that the idea that we might somehow reduce demand for electricity is unreal in the present context. We are looking at a period when we have to decarbonise the whole economy, in effect. That means that everything has to go down to zero emissions at the end of this period. In order to do that, we will be obliged to have an electricity generating market which is probably twice as big as it is today, if not even bigger. The idea that we are going to reduce demand for electricity, bearing in mind this evolution, is completely unreal.
My last point is that the same person has to pay, whether it is for energy or for the economy measures. There is only one customer. We do not want to fool ourselves that the Government have a fund of money to do this with. The Government have our money, and one way or another the customer is going to pay. It is a question of balance. I am all for getting all the efficiency that we can into the generating system and into the demand system. However, we should not fool ourselves—whichever way the equation goes, it is still the case that one person is paying. I am slightly pleased about the initial criticism of these amendments, because introducing a phrase such as “where economically possible” into the equation puts a bit of sense into it. If it were not there, you could start taking some very rash decisions which in fact were not economically sensible.
Lord Grantchester
I am grateful to the noble Lord, Lord Teverson, for his introduction to the debate on the demand side of energy. He is quite right to draw attention to this. Although other noble Lords may have been teasing in their remarks, the Second Reading debate highlighted that the Government are coming rather late in their thinking to these subjects, and our later amendments will explore all the different technicalities on the demand-side responses. Therefore, we are happy to support the wider recognition of the importance of demand-side response.
I turn to the proposed new paragraph in his amendment on making the efficiency measures EU-compliant. Again, we note the position that we are in at the moment and that the directive requires member states to set an indicative national energy efficiency target based either on energy consumption or on energy savings, or indeed on energy intensity, as the noble Lord, Lord Teverson, suggests in the amendment. We wonder how that might take account of the decarbonisation challenges that we will be facing. Also, we will be monitoring more than one change at a time to take into account GDP changes. Therefore, we would be very interested in knowing how the Government view this measurement of energy efficiency.
Turning to Amendment 55ZA, which concerns pilots, once again we note that the Government are coming rather late in their thinking to the demand side and that they therefore want to make provision to help their thinking to progress by running a pilot scheme. Clause 37 gives the Government powers to run a pilot scheme for electricity demand reduction. While the clause does not specify that this pilot scheme should take the form of a pilot capacity auction, it is clear from the consultation response that that is what DECC is considering.
However, the capacity market is primarily designed to ensure capacity throughout troughs in supply, and it will therefore reward only demand reduction projects that reduce the amount of generating capacity that is needed at such times and not those that reduce demand at other times. A capacity market therefore rewards energy efficiency only for its security benefits and not its other, much larger benefits in terms of emissions reductions and affordability. Therefore, we are aware that an additional policy is needed to enable small businesses and households, and not just large infrastructure projects, to be rewarded for saving energy.
Such “premium payments” were favoured by the majority of respondents to DECC’s consultation but were then dismissed by the department. A further explanation in this regard would be welcome. Therefore we support the call on Her Majesty’s Government to clarify whether DECC should bring forward multiple pilot schemes to include premium payments, a capacity market and perhaps other forms of incentives. This would demonstrate which scheme or schemes were most effective in delivering permanent demand reduction in practice.
Amendment 55ZA also mentions how these pilots might be financed. Clause 37 states that it will be paid out of government funds rather than through consumer prices. However, following the spending review, a figure of £75 million for investment in innovative energy projects was mentioned. I understand that DECC suggests that only about £25 million of this will be available for the pilot. In any event, those sums are dwarfed by DECC’s own assessment of the cost for full capacity auction. Amendment 55ZA would allow pilot reduction schemes to be funded at least in part from capacity payments either in advance or during a capacity auction period. Will the Minister clarify to the Committee where the Government have got to in their thinking?
Baroness Maddock
My Lords, I support my noble friends in trying to highlight the importance of demand reduction and the fact that this Bill came rather late to it, as has been said by others. I was somewhat confused by some of the earlier comments from those who said that they were in favour of energy efficiency but were not sure about demand reduction. If you increase energy efficiency, you reduce demand. That is fairly logical. I find some of the comments a little curious.
I emphasise the fact that if the Government are having only one pilot that will be only around the capacity market, that will not be good enough, which is why we have tabled these amendments. As regards the amendment in the name of my noble friend Lord Roper, if the Government were to take something like that forward, we could have a demonstration about which scheme or schemes are the most effective in delivering permanent demand reduction. In a sense, that ties in with the amendment of my noble friend Lord Teverson. There was a lot of criticism of my noble friend and talk about the difference between demand management and demand reduction. They are two different things. We have had some strange logic in today’s debate.
Unless we have several pilots, there will be no meaningful comparison and we will not be able to decide which are the most cost-effective and the most effective in reducing demand. I support my noble friends in their efforts to make demand reduction more of a priority in this Bill.
The Parliamentary Under-Secretary of State, Department of Energy and Climate Change (Baroness Verma)
My Lords, I thank my noble friends for enabling me to lay out further a response to the amendment of my noble friend Lord Teverson, which aims to make energy efficiency a general consideration when carrying out key functions of electricity market reform. I also welcome the cross-party support expressed in this House for electricity demand reduction measures and energy efficiency generally.
While I support the sentiment behind the amendment, we consider energy efficiency to be more than just about the efficient use of electricity, on which the amendment appears to focus. Therefore, the danger of this amendment is that, in focusing on efficiency of electricity use, it risks diverting attention from the wider importance of energy efficiency, on which we are already committed to progressing. When exercising capacity market functions, proposed new paragraph (f) would require the Secretary of State to give priority to demand side management and demand reduction measures over increased electricity generating capacity wherever this was economically appropriate.
The capacity market is being designed to allow demand-side response and permanent electricity demand reduction measures to participate in the capacity market. This is a proven way of delivering electricity demand reduction and is already working successfully in the United States. The auction process is a fundamental pillar of the capacity market and all resources that can contribute to security of supply. Demand-side response, permanent demand reduction and generation are able to compete against each other for support in the long term. This will ensure that demand-side measures that deliver the same level of security of supply benefits as generation at a lower cost will always be rewarded at the expense of generation. Accordingly, I hope that my noble friend will see that proposed new paragraph (f) will not add to the practical effort of what is already envisaged for the capacity market.
Proposed new paragraph (g) of Amendment 51N would require the Government to measure the energy intensity of the UK economy per unit of GDP and to improve this progressively. Again, while I recognise the intention behind this amendment, it would duplicate the existing domestic and European policies, to which my noble friend referred, in the recently adopted EU energy efficiency directive, which is aimed at driving improvements in energy efficiency across the EU and contains, among other measures, two key targets for member states, to which my noble friend also referred. The first is a non-binding national energy efficiency target for 2020, which is equivalent to reducing primary energy consumption by 20% by 2020. The second is a binding target to save 1.5% of additional energy per year, to be achieved between 2014 and 2020, through the deployment of an energy supplier obligation and/or equivalent policy measures.
The UK recently submitted its target to the European Commission under Article 3 of the directive. Under the target, the UK is projected to reduce final energy intensity by 26% between 2007 and 2020, maintaining our position as one of the least energy-intensive economies in Europe. In terms of domestic action, this Government have shown their commitment to supporting every opportunity for energy-efficiency measures. The policies that we have put in place, such as the Green Deal, will help households and businesses reduce demand by installing energy-efficiency improvements, with some or all of the cost paid for from the savings on their energy bills. In addition, the energy efficiency strategy sets out our plans for realising the significant untapped potential that remains in this key sector. Between the measures that we have put in place domestically and the new targets established through the directive, there is already considerable momentum that is contributing to making the UK economy more energy efficient.
Amendment 55ZA in the name of my noble friend Lord Roper, which aims to make an electricity demand reduction pilot compulsory, raises an issue that has come up a number of times at Second Reading: namely, that multiple pilots are necessary in order to test a variety of approaches. While I support my noble friend’s aim of ensuring that we test variations of the key elements associated with demand reduction projects, the Secretary of State already has the ability to design and run a pilot, or pilots, to test different approaches.
Clause 37 is simply a spending power to authorise the spending of money for such a purpose. I appreciate the concern that this amendment demonstrates about ensuring that sufficient funds are available for a demand reduction pilot. However, since it depends on the arrangements for the capacity agreements made in Clauses 22 and 24, funding the pilot in this way would have to wait until the affirmative regulations implementing the capacity market are in place. We considered this option but discounted it because the process would delay considerably the start of a pilot, and, as I have said, the Government are committed to taking forward a pilot with funds that are already available to it.
Before I ask my noble friend to withdraw his amendment, I will refer back to a few points raised during the debate. First, the noble Lord, Lord Cameron, referred to smart meters. I agree with him that increasing developments in new technologies—and the smart meter is one example—will ensure that consumers will have more control over how energy is being used. It is one of a number of measures that we are taking. He also asked why we are not getting on with a pilot. At the moment, there are a number of uncertainties. We are working out how a pilot would lead to a better understanding of the potential benefits of a financial incentive and of the market appetite for such an approach. We are considering detailed elements of how the design of that pilot, its monitoring and its location would work. The noble Lord also mentioned that Germany has 33% of its grid powered by solar. I respond to that by saying that Germany also has much higher energy costs than the UK, of both gas and electricity. We are delivering a low-carbon energy mix, at least cost to the consumer: this is at the heart of what we are trying to achieve through the Bill.
My noble friend Lord Roper asked why DSR and EDR were not in the draft delivery plan. Proposals on demand-side response were detailed in the capacity market framework publication of 27 June. On electricity demand, we are committed to a piloting approach, as I have said already. This commitment—to the pilot—was included on page 15 of the draft delivery plan.
Lord Roper
My Lords, I am most grateful to my noble friend for what she has said, and in particular for drawing attention to page 15 of the plan which was published yesterday. However, it is interesting that the reference there to electricity demand reduction is,
“to enable permanent reductions in demand to form part of the Capacity Market”.
Part of the purpose of my amendment was to suggest that that was not the only way in which one could look at permanent demand reduction.
My noble friend also referred to the situation in the United States. It is interesting that in the United States, as I think I am right in saying, only 3% of capacity payments have gone to energy efficiency. For example, in the state of Massachusetts, which has had one of the most developed of the schemes, only 7% has gone to electricity demand reduction. A good deal more needs to be examined in this area, and I hope—although my amendment will not be considered today—that we may be able to come back to this on Report.
Lord Teverson
My Lords, I thank noble Lords who have contributed to this debate. I am totally unapologetic about putting this amendment forward, because it is fundamental to what we are talking about. The electricity supply industry, over recent years, has operated at an average of 50% efficiency. It only operates 50% of the time. This is before intermittent renewables are significant within the energy mix. That is why there is a problem and why we cannot, or should not, build our way out of this issue entirely.
I entirely agree that we should not table vacuous amendments. However, this is not vacuous, because it concerns one of the general considerations that the Minister has to look at. It concerns a guiding principle.
I would like to follow that up with a lot more specific amendments on energy efficiency. I have not, however, because as my noble friend has said, there are a number of provisions within the European framework although in paragraph (e) there is a reference to the renewables directive, so perhaps we should also have one to the energy efficiency directive and treat the two equally. That is why I tabled the amendment.
I say to my noble friend Lord Dixon-Smith that electricity demand is clearly due to rise very greatly, because the only way that we can decarbonise much of our economy is by moving to electricity. That makes it even more important that we should make sure that the electricity we generate is decarbonised and is produced and dealt with in a balanced way to try to make that demand reduction. That is why those two new paragraphs are there: because there is that need for balance under “General Considerations”.
I have some sympathy with the comments of the noble Lord, Lord Davies of Stamford. I do not think that the phrasing, “economically appropriate”, is exactly how one would like it in the Bill, although as for its fuzziness, paragraph (d) states:
“the likely cost to consumers of electricity”.
That is a similarly fuzzy phrase that is already in the Bill, so the amendment is in sympathy with the way that the rest of the clause is written.
The Minister mentioned my amendment in relation to the capacity payment. I stress again that it is not just about the capacity payment but about electricity market reform generally under “General Considerations”, before we move to the provisions covering capacity. However, I thank my noble friend for going through that and reassuring me in a number of areas about economic efficiency.
Clearly, the economy has got more and more efficient in terms of GDP. I would like us to do what Japan did in the 1980s, which was more or less completely to decouple the high growth rates that it then had from energy consumption. On that basis, I beg leave to withdraw the amendment.
Lord Jenkin of Roding
“(f) the desirability of promoting effective competition between persons engaged in, or in commercial activities connected with, the generation, transmission, distribution or supply of electricity or the provision or use of electricity interconnectors, wherever appropriate.”
Lord Jenkin of Roding
Colleagues may remember that I gave notice on Second Reading, during a passage when I spoke about the need for greater competition in the energy markets, that I would move an amendment to try to reinforce what is in the Bill. I will come to the amendment in a moment, but before I do, I ought just to say that it is perfectly clear that greater competition is at the heart of what the Government are aiming at. I have a letter here written by the former Minister for Energy, my right honourable friend John Hayes, to a company that has been seeking to break into the energy market. It states that,
“a competitive market is key to the Energy Market Reform programme”.
I agree with that, but his were not the only words. On 12 June, when there was the announcement from Ofgem of the opening up of the electricity market to effective competition, the right honourable Edward Davey, Secretary of State, said:
“I want our energy market to be as competitive as possible. An increased role and level playing field for independent suppliers and generators is precisely what will help drive the competition that delivers better value for consumers and businesses”.
That is what we are aiming at here. This is the first of what I suspect will be a number of amendments which have been tabled to open up greater competition in the energy industries.
If one looks back to the Electricity Act 1989—I see that an amendment in the name of those on the Labour Front Bench which has been grouped with mine refers to it—Ofgem is obliged to protect the interests of consumers and promote effective competition. However, there is nothing there or in the Bill which makes it clear that that, too, has to be a duty of the Secretary of State. Ministers have said that they want to promote more competition but there is nothing in the Bill that lays any kind of duty on the Secretary of State to do that.
We are moving to discuss the capacity market now, which, interestingly, used to be called the capacity mechanism. Happily, “market” begins with the same letter, M, so it has been transmuted into the capacity market. Even its name suggests the market has to be a competitive institution. Of course, we now know that there will be auctions rather earlier than had originally been envisaged. The auctions will happen next year but they are seen by many in the industry as a way not only to ensure greater security of supply—and there is no doubt that right at its heart, the capacity mechanism is all about making sure that we have the generating capacity to meet the demand from time to time—but to provide a way in for independent producers to join the market and to compete for contracts under the capacity mechanism.
This is the first amendment that we are dealing with under the general heading “Electricity Market Reform”. If one looks at Clause 5(2), listed there are the matters to which the Secretary of State must have regard when exercising his functions. My noble friend Lord Deben will no doubt be delighted to see that the first is,
“the duties of the Secretary of State under sections 1 and 4(1)(b) of the Climate Change Act”.
Secondly, there is a reference to the “decarbonisation target range”. Thirdly, there is,
“ensuring the security of supply to consumers of electricity”,
which is right at the heart of one of the three main aims of the process. The fourth matter is,
“the likely cost to consumers”,
and the fifth is,
“the target set out in … the renewables directive”,
for the,
“use of energy from renewable sources”.
There it stops, but the amendment in my name and that of my noble friend makes it clear that we need something more. We want an additional paragraph at the end to say,
“the desirability of promoting effective competition between persons engaged in, or in commercial activities connected with, the generation, transmission, distribution or supply of electricity or the provision or use of electricity interconnectors, wherever appropriate”.
The amendment perhaps goes a little wider than I indicated when I gave notice that there would be such an amendment in Committee. It has been the product of much consultation with firms which are anxious to play their part in the new electricity market but so far have found it extremely difficult to break into it. I will not repeat what I said at Second Reading about the wholly predominant role of the big six, all of which operate in one way or another with a vertically integrated operation that goes all the way from generation to supplying the final consumers. Other amendments on the Marshalled List seek to break into that and I shall be interested to hear what the noble Lord, Lord Berkeley, is proposing. He is not in his seat at the moment but he will be back, I am sure. There are other amendments as well, which we will come to later on.
As I have said, Clause 5(2) makes no reference to this matter. It would add a great deal more weight to the obligation on DECC to take into account the needs of independent generators and new entrants if we added a new provision that makes explicit the objective of promoting competition. The capacity mechanism is one of the ways in which the authorities intend to intervene in the market. Indeed, having seen to what extent this is under the control of the Secretary of State—certainly in the initial years—one might say that it is more than intervening; it is, in fact, running it. However, this is one of the ways in which the authorities are intervening, and the amendment has been deliberately phrased in general terms to mirror the requirement under the Electricity Act 1989 that I read out at the beginning.
Lord Roper
My Lords, my name is attached to this amendment but I shall be very brief because my noble friend Lord Jenkin has made the case for this amendment very strongly.
We are considering here electricity market reform, and we are very anxious to ensure that, in spite of fairly substantial interventions both through the contracts for difference and through the capacity mechanism and in other ways, competition will be maintained and increased.
We have had an opportunity over the past few months to talk to the independent generators and independent suppliers. In both cases, they see that there are aspects of the changes in the structure which could in some circumstances be disadvantageous to them and significantly advantageous to the larger players in this field. In that circumstance, it seemed to me—and as my noble friend Lord Jenkin said—imperative that we should make it explicit that it is a duty of the Secretary of State to take these actions to promote effective competition between all those involved in these areas.
Baroness Worthington
My Lords, I thank the noble Lords, Lord Jenkin of Roding and Lord Roper, for tabling their amendment. We have tabled a very similar amendment—great minds must think alike.
Our Amendment 52A seeks to do almost exactly the same as Amendment 52, which is to make it a requirement for the Secretary of State to have the same duties as under the Electricity Act 1989, in which the protection of “existing and future consumers” is enshrined through the advancement of competition. We will discuss this in more detail when we come to the amendment in the name of the noble Lord, Lord Berkeley, who has come up with a much more precise way of tackling this problem.
These amendments seek to ensure that the Secretary of State has a duty to advance competition. Much has been said, very eloquently, about the need for that and how, if we are going to rely on a truly competitive market, that needs to be enshrined in this Bill. So much of this Bill relies on competition to deliver efficiency. There are many complexities in many aspects of this Bill, particularly in Part 2, where you have contracts for difference and capacity mechanisms, the interplay between them and the effect that that has on investment decisions, all of which is very complicated. The more transparent the market is, the less opportunity there is for gaming and the more successful this Bill will be in meeting its objectives. I fully support the amendment tabled by the noble Lords on the other side, and our own amendment seeks to do something similar.
Lord O'Neill of Clackmannan
I remember the birth of the 1989 legislation. At that time, due to what were deemed to be the fundamentals of competition, generation was split from distribution in England and Wales. In Scotland, the companies were vertically integrated. Throughout the 1990s it became a kind of adventure playground for takeovers. We are where we are now in large measure because a number of interested foreign companies, usually American, took over the distribution companies; they subsequently sold them and they were picked up by various people at different times. So we have six players, which by and large are vertically integrated, as well as Centrica.
A lot of wise words are being spoken about competition but I am not sure if these amendments go far enough. As soon as a company becomes big enough to be a threat or to be of interest to the large players, the oligopolists of the present structure, they are gobbled up. We have seen this fairly recently with the takeover of Ecotricity, a very interesting, predominantly Irish company that engages in renewable generation. I am not sure that these amendments are going to make an awful lot of difference.
When we go further and look at the break-up of the vertically integrated companies, there is the likelihood of the two remaining companies being taken over by other foreign players that have money that they wish to expend in the United Kingdom. Therefore, I am very sceptical about how we are going to achieve anything meaningful in the way of competition.
We have at the moment six players—seven if you include First Utility, but that is rather special because it is exclusively in the retail market—and by and large they do the same as each other. They confuse the tariffs, introduce difficult pricing schemes that we do not always understand—
Lord Roper
Does the noble Lord agree that because First Utility is only a supplier, it considers itself at a serious disadvantage against those that are vertically integrated and therefore have some compensation from their activities in the supply and generating fields?
Lord O'Neill of Clackmannan
I could not agree more with the noble Lord. The point that I am trying to make is that, while First Utility has had very dramatic growth—I have spoken to some of its senior executives, who paint a very interesting picture—I am not quite sure what the life expectancy of the organisation would be if the main shareholders were given an offer that they could not refuse by one of the big six. I do not think that there is really anything in the competition legislation of the United Kingdom or within the powers of the Secretary of State to do anything about that. That is why I am a wee bit sceptical about us jumping up and down and waving our arms on this issue because somehow there is something intrinsically attractive in a new form of competition. I am not sure whether it will be any different from what we had post-1989 and defy the laws of economic or financial gravity that have been applying in the intervening period.
While I wish my colleagues well in promoting the amendment, I am not very optimistic. In five years’ time, we might well be debating the same issue and trying to secure a greater degree of competition because of the inexorability of the forces that have been at work. I am not overdramatising it or going into neo-Marxist stuff. I am merely making the point that the six main players, who are big and who are not always as nice as they appear, certainly like competition as it is and do not seem to want anything else, and I am not sure whether many of the ambitions of this Bill will actually change the status quo that much.
There are other options, which are not on the table, and I will not waste the Committee’s time discussing them this afternoon. However, we have to be perhaps a wee bit more realistic than we are. In the light of past experience, even if British companies did not want to take over some of these smaller successful players, I am sure that there would be international players, who would have a bit of financial elbow room. They might even come in to see how a competitive market works, as the Americans did in the 1990s—they thought they were going to have liberalised markets in the United States, as the Germans thought they might have liberalised markets. In fact, what they have is a market with a number of players, but each of them is a regional monopoly. Therefore, when we talk about competition, we have to be quite clear that Britain is the exception as a competitive and liberalised market, not the rule, as far as energy utilities world wide are concerned.
Lord Deben
My Lords, I am driven to get to my feet by the wise words of the noble Lord, Lord O’Neill—he may be embarrassed by this. They lead me to believe that this is a very interesting and important amendment simply because it reminds the Government, at a crucial point, of their responsibility to the marketplace, where we are of necessity intervening in order to give it a sense of time. After all, what we are really saying is that these decisions are made not just for today and tomorrow; they have to be made, given the problems, over a very much longer period. That is why we are intervening in the market-driven mechanism. However, we have to think about some of the fundamentals of the market as well.
I agree with the noble Lord, Lord O’Neill, when he points to the oligopoly in which Britain is. He is right to say that other countries are in a worse position, but that does not mean that we should not try to improve our own position. One of the odd things about oligopolies and, indeed, large businesses in general is their lack of enterprise. The bigger a company becomes, the less likely it is to produce intelligent and quick-footed answers. What worries me is that we also take for granted that bigness is better. I have seen no evidence whatever that that is true; indeed, I see a good deal of evidence that it is the opposite. Bigness is convenient, and that is a wholly different concept. I think that the noble Lord, Lord O’Neill, pointed to that when he showed how, over the years, people have taken on companies which would otherwise, in competition, be embarrassing, inconvenient and difficult, and have forced them to think differently—all the things that one needs to ensure happens in a market.
Lord Berkeley
My Lords, I shall intervene briefly because I do not want to pre-empt what I am going to say in moving Amendment 53.
The noble Lord, Lord Deben, and my noble friend Lord O’Neill both hit the nail on the head when they emphasised the problems that we are facing in the market. However, whatever else we do with other amendments, it is important that we have an amendment such as Amendment 52, which puts a duty on government and regulators to promote competition and look after the interests of consumers. There is similar wording in legislation relating to water and the railways but it is the principle on which all other negotiations and discussions are based. It may be meaningless but it is there. There have been many occasions when I have used the railway principle against a particular Government who seemed to do something stupid or something that I did not like, but it is a very important principle. Whatever we do later as we go into more detail, it is very important that we have this kind of policy right at the top to show where the Government and the regulator should be going.
Viscount Ridley
My Lords, I had not intended to intervene on this amendment and I shall do so extremely briefly, mainly because I have been moved by the words of my noble friend Lord Deben and the noble Lord, Lord O’Neill, to say that I heartily agree with them. As I do not always agree with them on everything, I suspect that that is terrible news to them, but I think that this little outbreak of what one might call “free-market anti-capitalism” is a very good point. The point of competition is to drive co-operation between producers and consumers—to cause producers to do things that help consumers both by innovation and by the lowering of prices. I shall not go on any further; I just wanted to record that fact.
Lord Crickhowell
My Lords, I had not intended to intervene but, while listening to this debate and agreeing with what has been said, particularly during the recent speeches, I was also glancing at the Explanatory Notes to the Bill. It is rather interesting that under Chapter 6 the Government have an essay on access to markets. The notes refer to wholesale market liquidity as,
“an important feature of a competitive market. It provides market participants with a route to market, risk management opportunities and investment and operational signals”.
It goes on to talk about the importance of liquidity and, further down, it says:
“Independent developers have played an important role in delivering new capacity in the renewable and gas generation sectors and could play a key role in meeting the Government’s goals and deliver essential investment in the future, provided market conditions are right”.
Having said all that, surely it is entirely appropriate that, when we get on to electricity market reform and the duties placed on the Secretary of State, the points made by my noble friend in this amendment should indeed be there. If these are the matters that the Government consider important in their introduction to Chapter 6, it must surely be right that this should be one of the factors that the Secretary of State has to take account of. It should therefore be listed in the Bill.
Baroness Verma
My Lords, I thank my noble friend Lord Jenkin and the noble Baroness, Lady Worthington, for their amendments and for the opportunity to debate some of the important issues that they have raised. In relation to Amendment 52, Clause 5 sets out the matters to which the Secretary of State will have regard when carrying out specific EMR functions to meet the objectives of EMR. Effective competition is fundamental to delivering the Government’s energy policy objectives of having energy security, keeping consumers’ bills affordable and decarbonising our energy sector. EMR will deliver the greener energy and reliable supplies that the country needs at the lowest possible cost, which is good news for the consumer, by reducing exposure to volatile and rising fossil fuel prices and securing electricity supply.
Increasing competition in the electricity market drives down prices and promotes innovation—hence competition will be considered in the context of the requirement at Clause 5(2)(d) to consider the likely cost to the consumer. For example, we are designing the capacity market in a way that promotes competition —in particular, between incumbents and the new entrants that my noble friend Lord Jenkin is anxious to see. By providing a steady revenue stream in place of dependence on volatile scarcity prices, the capacity market will help to ensure that we can enable broad participation. Furthermore, we are incentivising new investment in plants by offering longer-term contracts to new plants, which will enable the costs of capital to be spread over longer periods. This will be important in ensuring that new independent entrants can compete with incumbents, as they would be likely to find it difficult to access finance with a short-term contract.
However, it is important to note that independent generators are a broad mix. They are not just medium or small-scale firms. Some are large European or international utilities, such as GDF Suez, which do not currently have a major presence in the UK wholesale or retail market. To ensure that we capture the interests of this broad group, we have been working, and will continue to work, with the independent generators’ group on the design of the capacity market.
The Government are also addressing problems affecting competition within the market. This includes poor liquidity in the wholesale electricity market and tariff complexity in the retail energy market. We are working with Ofgem to tackle these now, and have taken back-stop powers in relation to both areas in this Bill to ensure that reforms can still be driven forward if Ofgem’s proposals are either frustrated or delayed.
We recognise that it is important to help independent generators to secure access to the market. We are aware of their concerns that it is becoming more difficult to secure a power purchase agreement and that terms have declined. We have been working to gain a better understanding of the complex PPA market and the investment issues for independents. Since last year’s call for evidence on access to markets, we have undertaken analysis of the issues and the potential options for addressing them. I hope to provide further information to the Committee on this very shortly.
The ultimate aim of electricity market reform is to allow all forms of electricity generation to compete fairly, and therefore to enable the least-cost mix of generation and demand-side measures necessary to meet our decarbonisation targets, ensure security of electricity supply and keep costs to consumers as low as possible. I hope that noble Lords will be reassured that competition is therefore at the heart of the design of all EMR functions. Consequently, it is the Government’s view that my noble friend’s amendment to Clause 5 is unnecessary.
Turning to Amendment 52A, throughout the development of EMR we have been clear on the objectives of these reforms. They have been set out in our published documents, from the EMR White Paper of July 2011 onwards, and the objectives set out in Clause 5 reflect these. The amendment would add the duties set out in Sections 3A to 3D of the Electricity Act 1989 to these objectives in Clause 5. However, the Electricity Act 1989 relates to the operation and regulation of the market, which is a different purpose from the new mechanisms that we are introducing through EMR. Contracts for difference and the capacity market are designed to complement the existing market structure and have been developed with the specific objective of moving to a secure, low-carbon energy mix at least cost to the consumer.
Furthermore, the amendment would risk causing duplication. For example, Section 3A(2)(a) of the Electricity Act 1989 relates to ensuring that electricity demands are met, and this would duplicate Clause 5(2)(c) of the Bill. We have made clear the importance of considering the cost to consumers at Clause 5(2)(d).
I turn now to Amendments 54 and 55, linking the principal objectives and duties in Clause 33 to the Secretary of State in relation to the capacity market. The purpose of this clause is to align the principal objective and general duties of the authority, in carrying out functions in the capacity market, with its principal objective and duties in the current electricity market. The reason this clause does not apply to the Secretary of State is that Clause 5(2) in Chapter 1 sets out what the Secretary of State must have regard to in relation to making capacity market regulations, as well as other EMR functions.
As I have already indicated, encouraging competition will be central to the way that the Secretary of State makes capacity market regulations. Promoting competition will be an effective way of achieving the aims of having regard to ensuring security of supply to electricity consumers and having regard to the likely cost to electricity consumers. We feel that it is impractical to require the Secretary of State to have regard to two separate lists of matters: those in Clause 5 as well as the principal objective and general duties in the Electricity Act 1989.
I hope that I have been able to reassure my noble friend and the noble Baroness, Lady Worthington, with my explanations and that my noble friend will feel content to withdraw his amendment.
Baroness Worthington
My Lords, perhaps I may ask for clarification before the noble Baroness sits down. I accept her comments about the potential duplication involved in having two lists. However, subsection (2)(d), on the likely cost to consumers of electricity, does not include future consumers of electricity. People involved in the discussion about Ofgem’s duties will know that that innocuous-sounding difference is actually a big difference. Perhaps she will reassure us that she might consider changes to subsection (2)(d) to better reflect the duties in the Electricity Act.
Baroness Verma
I have been informed that it does take into consideration the points that the noble Baroness has just raised.
Lord Jenkin of Roding
My Lords, I am extremely grateful to those who have contributed to this very important debate. As I listened to the noble Lord, Lord O’Neill, voicing his warnings about this, my mind went back to when I instituted the privatisation of British Telecom in 1982. The chairman of BT was Sir George Jefferson, who sadly died earlier this year. He was constantly in and out of my office, very much supporting the privatisation. However, when I had to say very firmly that BT was not going to be allowed to take a majority position in any of the new mobile telephone networks that were coming up, Sir George was extremely angry. He felt that it was a very unfair restriction on BT. I said to him that he had a virtual monopoly of land telephony and perhaps he ought to concentrate on that, and that in the mean time the new mobile telephone industry should develop without BT having a monopoly position in it.
Years later, when I attended a farewell reception for Sir Christopher Gent, the retiring chairman of Vodafone, which by then was worth some £82 billion, somebody asked him, “To what do you attribute the huge success not only of the mobile telephone network but of your company in particular?”. He said, “That is very easy. It was one thing: the decision of the Secretary of State at the time that BT would not be allowed to compete”. I went up to him afterwards and said, “I don’t know if you are aware that it was me who took that decision”. He said, “Oh, that’s very interesting”. I said, “Where’s my dividend?”. Of course, no such dividend was forthcoming.
I do not think I need lectures from the noble Lord, Lord O’Neill, or anybody else about the importance of—
Lord Jenkin of Roding
Perhaps I might finish my sentence before I give way. I wish more people on the “Today” programme would say that to the interviewers. I find it absolutely intolerable that they start asking a second question in the middle of the interviewee’s answer to the first question.
Lord O'Neill of Clackmannan
The point that the noble Lord makes is a good one, but he has chosen the easy one, where there was a technological change that worked in favour of Vodafone and others. If he were to look at the behaviour of BT in relation to the spread of broadband, he would find a very different story. BT’s monopolistic bullying of the broadband industry by one means or another has meant that we have some of the slowest speeds in the industrialised world, and it is all down to the inadequacy of the regulatory system that the noble Lord allowed to be created.
Lord Jenkin of Roding
If I may say so, my regulatory system was RPI minus X. I had an interview with a very senior American economist who was one of the world’s experts on regulation. He said that RPI minus X was the best and simplest regulatory instrument that anybody had ever seen. I took some comfort from that. I have not been responsible for competition in the telecommunications industry since then, so I am not in a position to comment on what the noble Lord has said.
Coming back to this amendment, my noble friend Lord Deben is absolutely right: every capitalist wants to have a monopoly. It is the job of the competition authorities to ensure that competition exists, and in this country we have very well established competition laws through the Office of Fair Trading and so on. I will read my noble friend’s reply to the debate very carefully and consult those who have been advising me on this. What I want to see is a very clear duty on the Secretary of State to promote competition.
My noble friend said, “It is in the Bill already and we do not want to duplicate it”. I can tell her that those who have studied this Bill perhaps even more carefully than I have say that actually it is not. We are going to need to look again. I will look very carefully at what the noble Baroness has said and see whether we can come to some understanding on this between now and Report.
I am quite convinced that Ministers—I will not repeat the quotations; indeed, I have given most of them to Hansard already—want to see a more competitive industry. Ofgem wants to see a more competitive industry. At Second Reading, I quoted from its June press release entitled, Opening Up Electricity Market To Effective Competition. Those with whom I, Ministers and officials have been talking feel that there needs to be a duty on the Secretary of State very clearly to promote competition. That is what we are attempting to achieve. I will study my noble friend’s speech and see whether we need to come back to this on Report. In the mean time, I beg leave to withdraw the amendment.
Lord Whitty
“( ) The Secretary of State and the Authority must ensure that any arrangements made under this section are fully reflected in the future plans of the Electricity Distribution Network Operators.”
Lord Whitty
My Lords, in speaking to Amendment 52B, I shall speak also to the other amendments in this group. They deal with the distribution network operators, which very little of the rest of the Bill explicitly does. In a formal sense, the distribution network operators look very similar to the structure both pre- and post-privatisation but, in a real sense, they have been through exactly the process referred to by the noble Lord, Lord Jenkin, and my noble friend Lord O’Neill. Formally speaking, there are about 13 companies which actually are limited to six, most of which are part of vertically integrated monoliths. I am not sure whether in this context competition is operating effectively. It is also true that DNOs are the part of the structure which has the most direct link with business consumers and household consumers. They are a key part of Ofgem’s universe in terms of its price regulation and have a vital role in delivering what most consumers would regard as security of supply—that their own lights do not go out. They are also an important part of making the whole electricity market system more efficient.
However, DNOs largely are a passive part of the system. They are a conduit for electricity rather than a lever for policy and innovation, and simply pass electricity from, say, the national grid to the ultimate user. Therefore, to a large extent they are a regional monopoly in each case but not entirely. They have hardly been mentioned in this debate and are hardly explicitly referred to in the Bill or in our discussions in Committee. The role of DNOs in the policy objectives, which the reform is intended to deliver, and the other outputs we have sought to achieve in this debate, is vital. They will be vital in terms of moving to smart grids, and in what we have just discussed in relation to electricity demand reduction and in demand response mechanisms. They also are vital in relating the whole of the system to an increased use of decentralised energy, decentralised generation, district heating and other forms of embedded energy. They therefore need to be seen as a key aspect of the capacity system and of the delivery of energy to consumers. Reducing demand and increasing the efficiency of the total distribution system plays its part in the inefficiency referred to by the noble Lord, Lord Teverson. Yet that dimension hardly features here.
In a different part of the jungle, things are going on. Ofgem is conducting a price-related review of the DNO structure. It requires strategic business plans in the context of RIIO, which a year or so ago Ofgem was always using as the term for the brave new world. It uses a slightly different system now but it is part of that approach from Ofgem. In March this year it issued a strategy document for the DNOs—which, incidentally, I think I am right in saying implied a serious move away from the kind of RPI minus X approach, which the noble Lord, Lord Jenkin, was extolling just now—and that process has been going on. Only at the beginning of this month, on 1 July, did it issue a consultation paper about the strategic business plans that were required under that previous strategy. Incidentally, that strategy extends the period of the review from five to eight years and is therefore dealing with the period from 2015 to 2023. In terms of what the Government and the industry are intending to deliver and the changes that we are intending to require, that period is absolutely vital. The consultation was six pages long but it cross-referred to the individual strategic business plans of each of the companies, some of which amounted to 400 or 500 pages, if not more. However, the deadline for the response to that was 2 August—that is, the paper was issued a fortnight ago and a reply is required by tomorrow fortnight.
Meanwhile, we are dealing with the broader aspects of capacity mechanisms and the whole of electricity market reform. Presumably Ofgem, after the close of that consultation, will finalise its view of the DNO structure for a period of eight years. Although all the DNO companies seem to have produced strategic plans, it is somewhat difficult to see how they could have done so for that eight-year period without knowing what was coming out of the process that we are discussing here today and have discussed over the past few sessions, and indeed what is going to come in the statutory instruments and the follow-through after the Bill has passed into legislation.
It is also a bit odd that we should move to an eight-year period when other aspects of electricity market reform may well have different time periods attached to them. The only conclusion from that would be that the department and Ofgem do not expect everything in the Bill, as well as all the intentions and strategies laid out under the Bill, to have much impact on the way that the DNO sector operates. That cannot be right and it cannot be the Government’s intention. In fact, whole new capacity mechanisms, including those that we have debated in connection with energy demand reduction, must have an impact on the DNOs’ operation. This document on the market reform delivery plan ought to have a dimension which is specifically related to the DNOs, but I cannot see it in there—it is 70-odd pages of big print and I did try to flick through it last night. However, it must have serious implications for the DNOs.
I tried to look at one of these business plans. My own company, Western Power Distribution, supplies consumers in the south-west and has a good level of consumer performance, although it has since merged with some other companies. It has produced a plan totalling 704 pages which sets out everything about its investment, its expenditure, its price approach, its customer services—some of it is quite good, although some of it is a bit unambitious; its carbon saving, for example, is only 5% over those eight years, which is slightly less than we are expecting of the system as a whole—its approach to leakages and other environmental considerations, and its social obligations, including a worthy reference to fuel poverty. However, what it does not do is to say anything about its place in the restructuring of the electricity market as a whole. That I find very odd. There is nothing, for example, on the demand reduction side; there is nothing about the effect of smart users at the user end; and there is nothing about the move to smarter grids at the other end.
On present progress, quite apart from the process started by this consultation on the electricity market reform delivery plan, after 2 August Ofgem will presumably be endorsing those business plans or otherwise within the context in which they were set and without fully taking into account what is happening in the rest of the Bill and the rest of the Government’s intentions. So the times are out of joint and these amendments are a modest attempt to try to put them back into a degree of conjunction.
Baroness Maddock
My Lords, I support the noble Lord, Lord Whitty. As I have declared before, I am vice-president of National Energy Action, which has been working with Ofgem on this because there is the potential to reduce prices for vulnerable customers in fuel poverty. As the noble Lord said, it is rather surprising that the distribution network operators have not been specifically mentioned with regard to electricity demand reduction because they have the ability to reduce the cost of network reinforcements, which would reduce prices.
We are always talking about what is going to add to the cost of fuel but this amendment would reduce prices. If we are moving to more people having domestic electric heating, it is particularly important to find ways of reducing the cost. There is quite a lot of work going on here. Indeed, NEA has been working with Ofgem on some of these proposals. I give my strong support to this and I hope that the Minister can indicate that the Government recognise that this is an important part of what we are all trying to achieve.
Baroness Verma
My Lords, I thank the noble Lord, Lord Whitty, and the noble Baroness, Lady Worthington, for tabling these amendments, which highlight the important role that the distribution network operators play in our electricity system, including in supporting electricity demand reduction. Amendment 52B seeks to ensure that distribution network operators take account of government policy as set out in Clause 5. Amendment 55ZZC would insert a requirement in Clause 37 for the Secretary of State to take account of the role of distribution network operators in a pilot scheme to permanently reduce electricity use.
Ofgem regulates through a licensing system and electricity distribution network operators need to obtain licences from Ofgem to participate in the energy market. An important aspect of this system is Ofgem’s power to set regulatory price controls, and its price control framework. This, as the noble Lord pointed out, is known as RIIO, and is well aligned with the Government’s energy policy, including the requirement for network companies to invest efficiently to ensure continued safe and reliable services, to innovate to reduce network costs for current and future consumers, and to play a full role in delivering a low-carbon economy and wider environmental objectives.
As we have previously debated, the Government are providing even greater clarity, as Clauses 119 to 126 will enable the Secretary of State to introduce a new strategy and policy statement for Ofgem to help improve alignment with government policies. In addition, my department works closely with DNOs and the wider industry, through groups such as the Smart Grid Forum, to satisfy ourselves that strategic investment decisions are being made.
On the specific issue of efficiency and reducing demand, DNOs have a licence condition on them to reduce losses, and they have been required to set out in their business plans how they will reduce losses, and to publish annual reports on what loss reductions they planned and what they actually achieved. A discretionary reward of up to £32 million will be made available by Ofgem, over the price control period, for efficient and innovative loss reduction initiatives.
In future price control reviews, when more reliable data may be available through smart meters and smart grid technology on the networks, Ofgem expects to introduce further incentives. Furthermore, Ofgem has recently extended the scope of its Low Carbon Network Fund to enable DNOs to carry out electricity demand reduction projects, which will complement the Government’s larger-scale pilot.
To reiterate the points made in our earlier debate on the electricity demand reduction pilot, while I support the noble Lord’s aim of ensuring that we test variations of the key elements associated with demand reduction projects, the Secretary of State already has the ability to design and run a pilot—or pilots—to test different approaches.
Clause 37, as I said earlier, is simply a spending power; it authorises the spending of money for EDR pilots. Our intention is design the pilot in a way that encourages projects to be delivered by a variety of organisations, including DNOs, provided the projects meet the criteria that we develop.
The noble Lord, Lord Whitty, asked why we cannot deliver eight year-old DNO plans without details under EMR. We have set out clear policy intentions—for instance in the renewables road map published last year, and in our various announcements on EMR—to move to a low-carbon energy mix. This informs the development of the DNO plans.
The noble Lord also asked why we had moved to an eight-year period. This was to encourage DNOs to work more strategically and to invest over a longer term, instead of making short-term investment decisions.
I hope the noble Lord is reassured that I recognise the important role that DNOs are already able to play in helping to realise reductions in electricity use. I hope that on that basis he feels able to withdraw his amendment.
Lord Whitty
My Lords, I am grateful to the Minister and also to the noble Baroness, Lady Maddock, for her support.
It is certainly true that there have been general indications of the Government’s direction. No doubt they are taking into account the DNOs in drawing up their plans. It still strikes me as very odd that we have here a piece of legislation, the capacity mechanism bit of which we are discussing now but the detail of which is not yet known, and it will require considerably more explanation before we finish this Bill and some serious delegated legislation thereafter. If it applies to DNOs—as the Minister rightly says in a sense it will—it must have implications for how DNOs operate. The outcome of the demand reduction must have implications. The way in which the capacity mechanism brings other people into play in the grid, and ultimately down the distribution system, must have implications. Therefore, I still find it very odd, even if they have read all the signals right—and my brief reading of the 700 pages of the Western Power document suggests that they may have missed one or two.
I am not necessarily objecting to the eight-year period, but that period has to relate to something that is operating under the wider electricity market reform. Instead, we are going to have the approval of the DNO strategic plans within the next two or three months before we know how the capacity mechanism is working, before we know how the demand reduction mechanisms are working and before we know a lot of other detail that will emerge from this Bill, which will eventually be encapsulated in the new strategy and policy statement from the Secretary of State. That will be the context in which Ofgem and the industry will have to work.
I am not trying to be awkward with the Government. I just do not think that they have the pieces in the right order or in the right place. Before we complete the consideration of this Bill, we need to be a bit clearer on how the distribution structure will operate in the new system. We should not have Ofgem definitively endorsing the plans, which it will have before it in a couple of weeks. In the mean time, I beg leave to withdraw the amendment.
Lord Berkeley
“Divestment of retail business
(1) Any electricity generator which also supplies electricity to either domestic, commercial or industrial users shall, within two years of this Act coming into force, divest itself of its supplier business so that—
(a) an electricity generator shall have no financial interest in, or exercise any right over, a supplier of electricity or gas;(b) a supplier of electricity or gas shall have no financial interest in, or exercise any right over, an electricity generator;(c) no person may hold a directorship of an electricity generator and a supplier of electricity or gas concurrently,and any contracts entered into between any of the divesting parties shall cease to have effect when this section comes into effect.(2) Generators which have a direct contract to supply the majority of their output to a defined site through a private transmission scheme are exempt from this section.”
Lord Berkeley
My Lords, to some extent, we started discussing the issue of fair competition in the debate on Amendment 52. I certainly welcomed the comments from the Minister in her response, but I think that this issue, which is designed to require the big six generators—those who own both generating and retailing—to separate, is probably separate from all the other discussions about pricing, who gets what, guarantees and everything else. However, unless we achieve the separation, I do not believe that we will get fair competition.
My reason for saying that is that I believe we will have higher costs, a lack of transparency, which one can widen out to cover a lot of things, and added risk for the independents in selling to the retail market. I am sure we have heard it before but when the big six, according to Ofgem, are producing something like 72% of the generating capacity and a percentage in the high-90s of the domestic retail, it is quite a challenge, as my noble friend Lord O’Neill mentioned earlier. He also mentioned that there is a similar experience in Germany, with the three major suppliers inhibiting competition, and the comments that I get from Germany indicate that there are similar high prices and a lack of choice.
I find it very interesting that on the railways—I declare an interest as chairman of the Rail Freight Group and I am on the board of the European Rail Freight Association, which is an association of small, independent operators—we are finding exactly the same problem. At the moment, the European Commission is trying to drive what it calls the “fourth railway package” through Parliament and the Council, and Germany is again opposing any attempt to remove vertical integration, which Germany has at the moment. It has got to the stage where the Commission has accused the German Government of allowing the infrastructure manager to make a profit on its access charges and transfer the profit up to the holding company and down to its own train operating company. In effect, independents who want to run trains on a line are paying an access charge, an element of which—the profits—may well be going to subsidise their competitor. The two parties to it in electricity are different, but I suggest that it is the same problem. It is resulting in a loss of competition because the smaller operators get swallowed up by the bigger ones, which happens in France as well, and it is difficult to know what can be done without insisting upon this total separation.
Lord O’Neill of Clackmannan
I have some questions for my noble friend. What he is suggesting has been tried before. We used to have the separation—I shall not say of powers—but we did not have vertical integration at the time of privatisation. That position prevailed for about 10 years. My noble friend has to show us whether things were better then. Were prices, independent of exterior energy costs, cheaper than now? Certainly the degree of obfuscation of tariffs was not as sophisticated as it is now, but whether that is down to the character of ownership, the nature of the industrial organisation or just the badness of some of the people involved in setting the prices is for others to decide.
The point I am getting at is that this is not new; we have had it already. I am not sure that consumers were any better protected then than they are now, or that prices were that much lower, when we take out the externalities that determine the price. I am not sure that when we take out the impact of the price of oil and gas on the energy market there is that much of a difference.
Let us not forget that one of the first things that the Labour Government did in 1997, which attracted no opposition at all, was to introduce the windfall profits tax because of the way in which a number of the utilities had been screwing the country as a whole. The Select Committee that I chaired thought that we made a sizeable contribution to a better understanding of the abuse of utility power at the time. Indeed, I always worried that such was the universal acclaim for the Labour Government’s windfall profits tax that they had probably got it too low. They probably could have got far more out, because people knew the degree of pain and had prepared themselves for it.
That is not the point that I am trying to get at here. If there are abuses of the kind that my noble friend suggests, would it be better to go through what might be a lengthy and costly process—I can imagine the lawyers salivating at the moment over the prospect of what they would get out of it—or would it not be more appropriate to try to deal with that market abuse by a radical reform of the regulatory process? The selective choice of international examples made by my noble friend is not really relevant, because in the case of France and Germany, we are dealing in the main with regional monopolies. Their markets are not like ours. We have an oligopolistic system where there is fantastic loyalty to the old electricity boards, and people still talk about them in that way. The reluctance of people to switch has been one of the great frustrations of the regulator and the advocates of the market, because people, by and large, like to stay with the devil they know and choose not to move, for whatever reason.
My real point is that I am not sure that the international comparison is that relevant because although the companies are vertically integrated, they are operating in different market structures. While this is an interesting debate to engage in, I am not certain that it will come up with the answers that my noble friend is looking for. In the 1990s, when we had something like this, it did not really work that well and there were an awful lot of other forms of market abuse. Indeed, that is why we had market reforms—the previous Labour Government had two bites at the cherry during their 13 years. I understand where he is coming from but I am not sure whether he would get where he wants to be by the mechanism he suggests, short of having a radical, tough regulator prepared to have a go, unlike the overly cautious regulators that we have been blessed with in the energy markets over the past 20-odd years. The Opposition have said that they would like to change drastically the character of regulation in this area, and that might be a more productive way of going about it.
As I said, I am grateful to my noble friend for raising the issue because it is important that we consider it, although I am not quite convinced that past experience or the evidence that he has adduced are necessarily unduly relevant to the objectives that he is trying to find.
Viscount Hanworth
My Lords, I support the amendment of my noble friend Lord Berkeley. If his amendment were adopted, and indeed if the policies that it prescribes were implemented, I believe that many of the problems that afflict our electricity industry would be overcome—notwithstanding what my noble friend Lord O’Neill has just said, which I shall consider at some length.
The amendment would radically alter the oligopolistic environment in which the big six vertically integrated companies dominate the generation of electricity and its supply to industrial, commercial and domestic consumers. There would then be some chance that a genuine economic competition could ensue. The vision of the free-market fundamentalists, who inspired the radical restructuring of the industry through a privatisation that occurred a quarter of a century ago, would come closer to being realised than ever it has been.
Having said that, I confess that I greatly regret the demise of the state-owned electricity industry. Mine is not a doctrinaire position, as some might imagine, albeit that much could be said to justify a doctrine of state ownership. An attitude in favour of state ownership of the electricity industry needs no further justification than a reference to the example provided by the French electricity industry. Although the dominant French company Électricité de France, or EDF, sometimes adopts a cunning commercial concealment, it is state-owned, excepting a very small proportion that is attributable to shareholdings which are predominantly in the hands of other companies closely allied with the French state.
I am an admirer but not a friend of Électricité de France. A testimony to its success is the fact that, apart from being one of the aforementioned big six companies dominating the English market, this company owns virtually all of Britain’s nuclear generating plant. Over many years, Électricité de France has worked in close collaboration with the French Government to realise the latter’s strategic objectives regarding the provision of the nation’s electrical power. Only recently, with the advent of François Hollande, has there been any significant difference of opinion between the politicians and the management of EDF regarding the investment strategy.
An investment strategy is precisely what the Bill is about. The danger we face is that the industry’s dominant firms will have no interest in providing the investment in the UK that would serve to avert the risk of a serious electricity shortfall. Although the free-market economists might deny this reality, the fact is that these are multinational companies, often with head offices in other countries. This implies that their primary interests and loyalties are not with the UK. When they are seeking profitable investment opportunities, they are liable to look much further afield.
There are some minor players in the UK electricity market that are based predominantly in this country and have few interests abroad. These are the independent electricity generators which are concentrated in the renewables sector. It is perhaps inevitable that the Government should look to these companies to provide a substantial proportion of the new investment in renewable generating capacity. Notwithstanding the fact that they currently account for only a small proportion of the generating capacity, it is hoped that they will provide something between 35% and 50% of the new investment in renewable plant.
The truth of the matter is that these companies are in trouble. They are being squeezed out by the big six, which have an increasing proportion of renewable capacity in their own portfolios and a declining reliance on the independent generators to fulfil their renewables obligation. The eventual suspension of the renewables obligation in 2017 will spell the doom of these companies, unless measures are adopted to safeguard their position. This is what the present amendment and subsequent amendments being spoken to today propose. It may well transpire that the measures proposed in subsequent amendments represent the only viable ways to protect the interests of the small generators and ensure that they continue to have a market into which to sell their produce.
Lord Deben
My Lords, I am very clear in my desire to have maximum competition. I have been fascinated to hear the various versions of history of privatisation, the like that we have now been given. It is rather like listening to the history of the Battle of the Boyne in the north of Ireland. You would not expect to find that people were talking about the same event. Happily, we have not come to blows about it but perhaps I may suggest that there were few industries as incompetent, useless and pathetic as the British electricity industry before it was privatised. This industry hid the cost of nuclear power in a way which was possible only because it was totally and utterly opaque.
I remember having discussions with the head of the Central Electricity Generating Board and it was quite impossible ever to get any information of any kind that anyone would need if they were to make any assessment. I sat in a Cabinet meeting when the noble Lord, Lord Wakeham, had to come in and explain that we could not privatise the nuclear power industry because the finances had been so incompetently run that there was no way whatever that it could be presented in a manner which anyone properly could buy. Do not tell us this story about the electricity industry. On top of that, we have had a pretty miserable time since privatisation. It would be better to do what one should do in the north of Ireland; that is, to say that there are very considerable histories on both sides and that we had better just face that, and not try to fight old battles again.
The issue is that we do not have as good a degree of competition as we would like. We do not forward that by lauding either the failed system of state ownership or the not-very-efficient system which we happen to have now, so would it help to take the amendment of the noble Lord, Lord Berkeley? When reading this amendment last night, I started by thinking it sounded rather good—or perhaps it was this morning; it is out of my memory now. Then I thought, “This is exactly the kind of prescription that does not work”. We need to make sure that every time we make a decision, we do so in a way that ensures the maximum likelihood of competition.
One of the helpful comments made reminded the Government of the end of the ROC scheme in 2017. That is an area where we could look very carefully at ensuring that the move into the new structures encourages competition, and enables the companies that have made real advances in the present structure to transfer to a new structure. Maybe we will have to alter the new structure to make that more likely. If I may say so to my noble friend the Minister, my problem is that I am not sure whether the Government are entirely with it, or moving fast enough and with enough sensitivity, to do their best here.
The noble Lord who has been promoting a concept of bringing expert advice into DECC has graphically illustrated the concerns we all have about constantly changing Ministers and, above all, constantly changing civil servants. One of my worries is that unless we get some better stability in the structure, we will not recognise early enough—or long enough ahead—the changes we have to make to protect what competition we have and to encourage more. Having said that, I must say to the noble Lord, Lord Berkeley, that I am not at all sure that the kind of shake-up he proposes here would be a satisfactory means of delivering it. Indeed, it certainly would be a satisfactory means of delivering total incomprehension and utter difficulty at a point when it is most necessary that we keep the lights on.
Therefore I hope that the Minister will not accept this, and in a robust way—meaning that she will tell us that she will act in a way that is a bit more than merely taking on board the need for competition. I hope, rather, that she will find a whole range of areas where the Government can promote that competition.
Lord Oxburgh
My Lords, I will make two quick points. First, I point out that many Governments would salivate at the thought of having six roughly equipotent competitors or participants in a regulated industry in competition with each other. For my information, I am not clear how you decide when you have enough competition, because six participants is quite a lot. It is popular to bash the big six, probably because they do not handle their consumers very well and they have all been associated with unpopular price rises. However, I would like to hear this aspect explored a little more.
My second point is quite separate, which is to draw attention to the second subsection of the amendment of the noble Lord, Lord Berkeley. Regardless of whether the amendment is accepted by the Government, it is very important that the Government take note of that second subsection. It covers a lot of small businesses—I declare an interest as a director of 2OC, which does this—that use renewable energy on a particular site and deliver it to a particular business or a very small range of customers locally. They generally combine generation and transmission to one or a limited number of customers. The Government should make sure that that is protected in the Bill, whatever the final outcome.
Viscount Hanworth
Perhaps I may make a few more comments, some of them addressed to things that have just been said. A great deal of negative propaganda accompanied the privatisation of the electricity industry in the UK, but many studies indicate that the industry was far more efficient than another national industry with which we should compare it, the American industry. There is no question about that. Yet many people tendentiously denied these realities.
If we are to have a nuclear industry, it will be in the hands of a state-owned foreign monopoly. That is a reality that sits very ill beside the fantasy of perfect competition. If we are to have a competitive environment or, indeed, any competition in this environment, perhaps the competition should come from a British state-owned nuclear industry. We have to think somewhat outside the box and not revert to the paradigms of perfect competition versus state industry, which seems still to dominate people’s thinking in this respect. The only countervailing force that I can imagine that could really survive in the British electricity industry to induce competition is if a fraction of it lay in the hands of the state.
Baroness Worthington
My Lords, like the noble Lord, Lord Deben, when I read this I thought that it was a very elegantly phrased and simple set of provisions that are very easy to understand and could go a long way to sorting things out. Having thought about it a bit more, I am still quite attracted to it, but that is not to say that it is necessarily the only way in which the problem could be solved—or, indeed, the right way. What we really want is an acknowledgement from the Government that, rather than thinking about the past— sadly I do not have the benefit of those many years of pre-privatisation—we should really be thinking about the future and acknowledging that the Bill signifies a massive change of direction. As a result of that, it is appropriate that we think again about our competitiveness regime. It will come as no surprise that, from our side, we believe that we need a new regulator to do that—one with real teeth and independence, and one which is not scared to hear from the incumbent, saying, “You don’t like that? We’ll change it for you”. That is the modus operandi of Ofgem, I am sad to say. There are many ways in which we can address the issue.
In answer to the question from the noble Lord, Lord Oxburgh, about how much competition is competition, six companies might be appropriate if it were not for the fact that the vertical integration of generation and supply gives them an enormous advantage in this market. That is what needs to be looked at—and that is why the noble Lord, Lord Berkeley, can be congratulated on his precise and laser-like vision in getting to the nub of it. It is possible to force the integrated companies to operate in a less integrated way, but it is what they do with the DNOs, as my noble friend pointed out. Many of the big six are owners of DNOs. But there are regulations and laws that mean that they have to have a very firm Chinese wall between those parts of their industry, which is precisely because they are natural monopolies and will gain enormous advantage by knowing what is going on in the other parts of the business. So there is a precedent for keeping the corporate structure the same but having clear delineations between the different parts of the business.
Why is this more important in future? One reason that has been oft-cited for allowing vertical integration to continue is that it keeps the cost of capital low. If you are a vertically integrated company and you have a supply base of millions of customers, you can borrow against it very easily and get nice low-cost capital. That was true until this Bill, which completely removes the risk of new generation and potentially gives companies a many decades-long contract against which they can borrow. So the old arguments for vertical integration are falling away, and we should now be reconsidering the logic of allowing it to continue. There are many examples where vertical integration can act against the interests of consumers and of more plurality, competition and lower costs in the market. I shall choose just two.
Baroness Verma
My Lords, I am grateful to the noble Lord, Lord Berkeley, for his amendment. Amendment 53 is aimed at the abolition of the vertically integrated business model in the energy industry. I have listened carefully to noble Lords and I have some comments to make after I have gone through my speaking notes, which I hope will address some of the issues the noble Lord has raised. I reassure him that the coalition is committed to driving competition and choice in the energy market.
In considering the merits of this amendment, we must be guided by what will most benefit consumers, deliver competition, affordable energy and better customer service, and secure the investment we need for the future. We must acknowledge that the vertically integrated business model delivers a range of benefits for consumers through lower capital costs, efficient risk management and economies of scale. Simple prohibition of certain business models could lead to higher prices for consumers and trigger lower investment in the market.
The Government believe that consumers will get the best deals when suppliers face much tougher competition. Wider competition and more diversity are key to a competitive market and securing investment. We must ensure that the market is open to all business models to provide them with the ability to compete on a fair basis. That is what the Government and the regulator are working to achieve. It is why we have made concessions on the threshold for the small-scale feed-in tariffs and the route to market for independent renewables generators. These will help to open the market to community energy projects and smaller independent renewables developers.
Liquidity in the wholesale market remains a key barrier to entry for independent players and Ofgem has recently announced a package of reforms to address the low levels of liquidity in the wholesale electricity markets. This is a positive step forward and the Government welcome Ofgem’s announcement. We want to see swift and effective implementation of its reform package. However, we are seeking back-stop powers in Clause 43 to address low liquidity should Ofgem’s reforms be delayed or frustrated.
The Government are also looking at other barriers, including independent generators’ ability to secure bankable long-term contracts that will allow them to finance their projects. The Government are taking back-stop powers in Clause 44 to enable them to act quickly to address this issue if necessary. I know that this will be of particular interest to the noble Lord, Lord Berkeley.
Finally, Clauses 127 to 131 will give statutory backing to Ofgem’s retail market review proposals. This will ensure that energy companies place consumers on the cheapest tariff that meets their preferences, thus simplifying the market and enabling consumers to shop around for the best deals. Bringing greater transparency to the retail market will also make it easier for innovative small suppliers to compete with larger established players in the market.
We share the desire of the noble Lord, Lord Berkeley, to ensure that consumers get the best deal in a fair, affordable and competitive energy market. However, requiring the energy companies to divest and reorganise is not the most effective way of delivering the outcomes that I know we both desire. It is likely to create unnecessary disruption at a time when we need significant investment in our energy infrastructure, and we are making real progress in introducing greater competition in the energy markets.
I query also whether this would improve liquidity in wholesale markets, at least to the degree suggested. Poor liquidity relates to a lack of availability of products or buyers for products, and poor transparency of prices. Removing vertical integration will not necessarily address these issues fully, whereas Ofgem’s reforms to the wholesale electricity market are focused on making more power available to buyers while ensuring that generators can sell their electricity, and on increasing price transparency. We therefore believe that reforms by government and Ofgem offer the quickest, most effective and most reliable way to increase competition and boost consumer confidence in the energy markets.
We have a real opportunity through the reforms we are making in the Bill to see the way opened for greater competition, greater transparency and harsher penalties if generators and suppliers do not provide the choice and value for money we all want to see for customers. Decades of missed opportunities cannot be allowed to continue.
Perhaps I may pick up on a couple of the points that the noble Lord, Lord O’Neill, made about the flaws in the amendment of the noble Lord, Lord Berkeley. I refer back to what the noble Lord and the noble Baroness, Lady Worthington, said about Ofgem. When he was Energy Secretary, Ed Miliband said that Ofgem was a regulator fit for purpose. Through supporting Ofgem and strengthening its powers, we are trying to deal with the fears that the noble Lord, Lord Berkeley, and the noble Baroness, Lady Worthington, have. It is not about creating another new body but about ensuring that the body we have has the powers to be able to deliver what a regulator is supposed to be delivering; that is, to be quite tough on energy suppliers. We have seen examples of that. Between April 2011 and March 2012, Ofgem set fines of more than £19 million for licence breaches and anti-competitive behaviour. It imposed fines of more than £500,000 and £4.5 million in redress.
It is not about change but about ensuring that we empower a body. It would be really interesting to know what sort of body the noble Baroness, Lady Worthington, would put into place and what it would do that Ofgem is not doing. It is not clear to me that banning vertical integration would in fact improve liquidity in the wholesale markets, at least not to the degree suggested. A lack of available products and poor transparency is what needs to be addressed and on that basis, I hope that the noble Lord will see that what the Government are doing in the Bill is right, and withdraw his amendment.
Baroness Worthington
In response to the Minister’s direct question, we would have a regulator which, when it is asked, “Why can’t you split vertical integration?” answers, “That is a good idea and we will look at it in more detail”, instead of “Because the industry doesn’t like it”. Quite frankly, as I said earlier, when it did a review into liquidity and competition in the market, eight recommendations were made but I think six of them were dropped and the two that were moved forward were watered down. As soon as Ofgem goes and consults its friends in the industry, it gets told, “That’s too difficult—we couldn’t do that”, so things get watered down. That is what we have to break.
For example, the noble Baroness quoted the suggestions that Ofgem has come up with for solving this problem. The market-maker proposals are frankly ludicrous. They are so complex and so against a normal, natural market that I really cannot believe that that is our solution to this issue—actually, I can believe it since it is Ofgem—when the real solution is staring us in the face: no more vertical integration. However, I will sit down.
Lord Berkeley
I am very grateful to all noble Lords who have spoken in this debate. We have had a very wide-ranging debate with a wide range of opinion. It is really good that we have been able to air it. We have not all agreed but at least we have discussed it. I will not respond to every noble Lord who has spoken—to whom, many thanks—but the noble Lord, Lord Oxburgh, asked particularly how one decides whether six generators are sufficient for competition. There is no number bigger than three where it matters very much, in my experience. The key is that they are all able to act fairly, simply and transparently.
We have six at the moment, and whether they are in a cartel is not for discussion tonight. That is something for the regulators and the Competition Commission, if there is a complaint. However, what motivated me to put down this amendment is the problem of having a complaint from some of the other generators, which do not have retail outlets, that the system is not fair. They have to be convinced that it is fair because otherwise they will not invest. The proof of the pudding will be in the eating, but will the lights have gone out before we see the answer? On competition generally, my belief is that it is much better to have a simple structure than devising all kinds of rules and regulations to make sure that a mixed structure will work.
My noble friend Lady Worthington suggested Chinese walls as an alternative to complete separation. Chinese walls work if they are properly policed, so that may be another answer which we should discuss later on. To me, the key is to have a strong and effective regulator that is not captured by the industry. I am not saying that the present one is captured, but the key will be whether we end up with a system where all the independent and other new generators that do not have retail outlets feel so comfortable that they will continue to invest. I hope that they will also multiply rather than what happens on the other side, when they all get bought up by one or two big ones and there is no actual competition. I shall read the Minister’s response with great interest.
Lord Teverson
I hope that the noble Lord will not mind me intervening. I thought that the noble Lord, Lord O’Neill, asked a very interesting question about the decade when there was effectively this separation. Does the noble Lord, Lord Berkeley, have any thoughts about whether it was better then, or does he have any other answer to that? It is quite an interesting issue that came out of the debate.
Lord Berkeley
I do not think that it was particularly perfect then. We thought that it would get better, but what is probably different between then and now is that the technology has moved on. We are able to trade and the physical network has got a lot better, so I am not sure that the situation is quite the same. However, I am sure that my noble friend will have more to say on that.
Lord O'Neill of Clackmannan
I just want to make the point to my noble friend that, of the six companies that currently exist as vertically integrated companies, two of them started off as vertically integrated companies because of the difference between the jurisdictions in Scotland and England and the desire of the Secretary of State for Scotland to have vertical integration. Therefore, we have always had that vertical integration for two of the companies. The interesting thing is that one of the two is still British-owned, whereas all the other companies are now in the hands of foreign owners. Scottish and Southern Energy is located in Perth; it may have major shareholders across the world but it is still a Scottish company, or a UK company based in Scotland, which is something that we tend to lose sight of.
Lord Berkeley
I am grateful to my noble friend. He is absolutely right. It is good to have Scottish companies. It is also good to have companies that all pay their tax, wherever they are based, although that is probably a slightly separate subject. My concern is whether the companies, whether they are Scottish, English, British or whatever, are behaving fairly with the generators that do not have access to the retail market. As I said, it would be perfectly possible to have a Chinese wall rather than total separation if that could be worked. I am not sure what the disadvantage of that is but it is only one small cog in the whole jigsaw puzzle—I am mixing the metaphors nicely—of making fair competition that works and which is for the good of the consumer. I beg leave to withdraw the amendment.
Lord Davies of Stamford
Lord Davies of Stamford
My Lords, I will deal briefly with the first of my amendments, which would replace “may” with “must”. I think that there is far too much use of the word “may” in this Bill. If Parliament thinks that something is important, it should, in my view, be decisive about it. If we decide that we ought to give an instruction to Ministers, we should give them a clear instruction and not just a vague exhortation, such as is encapsulated in a subjunctive word such as “may”. In fact, as I said earlier in a different context, it is very important that the law generally should be precise and unambiguously comprehensible. If you give someone an instruction which is not an instruction, you are not producing good law. That is the simple reason why I want to change “may” to “must”, and it is a theme that applies to many other instances in the Bill.
I now come to my more substantive second amendment. By way of introduction, when I read the Bill I was quite surprised to see in Clause 21 the capacity market dealt with jointly with the issue of demand reduction. Of course, the whole Bill is really about demand reduction—how you can get the price mechanism generated by concepts such as the decarbonisation principle and contracts for difference and so forth to force people to be more efficient in their use of energy and to bring down our carbon emissions. That is the whole purpose of the Bill.
The capacity market is rather specialised; it concerns how we provide ourselves with a margin of safety over periods of peak demand so that there is not a serious danger of the lights going out. I thought that that would require and deserve separate treatment in a specialised section of this Bill. There is an aspect, of course, of demand reduction that is intimately related to the capacity market. It is intimately related in an inverse sense, in the sense that when you have more of one, you have less of another. That is the issue of demand reduction in the sense of modulation of demand—or what I prefer to call intelligent management of demand so as to reduce the aggregate volatility of demand for energy, particularly for electricity, in the economy—to reduce the peaks, and reduce the peaks that perhaps raise the troughs; to reduce volatility. There are many ways in which modern technology enables one to do that, which was extremely well described by the noble Lord, Lord Cameron, as regards dealing with smart meters and so forth. I do not need to go back over that.
The Minister has already referred to this approach several times and the Government in principle are entirely signed up, which is why it is in the Bill. There is a certain logic in dealing with the capacity market and demand reduction as reciprocals in the same part of the Bill. However, it would be a great mistake if we held up progress on intelligent demand management and demand reduction until we have a capacity market up and running. I should have thought that we should do things the other way around. It will be very difficult to know how much additional capacity we will need—that is, what we need by way of a capacity market and a definition of what the task of a capacity market is—unless we know the potential for demand reduction and specifically for the reduction in the volatility of electricity demand in the economy. Until we have experimented with some of these new systems, and have seen whether people and the market respond to these intelligent meters and so forth, we will not really know how much we need in terms of additional capacity as a safety margin in the electricity market.
It is clear that the general principle is universally acknowledged. My amendment would make sure that we do not neglect smaller businesses and households in all this. From what I can gather, all the discussion up to now has been with big generators or big consumers of electricity. It is extraordinarily important that we do not ignore, on grounds of fairness and economic rationality, smaller businesses or private individuals and families. If the Minister says that the Government are not ignoring them at all and that they are absolutely in the front line of their concerns, the substance of my amendment very largely would be achieved. That is why I am very explicitly putting forward this matter today.
I deliberately mentioned that there are two principles behind my amendment. One is fairness and the other is economic efficiency. The fairness point is that unless small businesses are encouraged to have equal access to these new smart meters and other means of monitoring price in the market so as to make sure that they can modulate their consumption of electricity to maximum advantage from their point of view, there will be a terrible distortion between the smaller people and the larger people. It will be much more difficult for small businesses, which have to cover many issues and risks with limited management, to be up to speed with new technologies of this kind. I suspect that regulations may be required in order to make sure that they get an equal crack of the whip. That is the way in which I want the Government to think about this. Certainly, small businesses should be equally sensitive, or perhaps more sensitive, to the price of energy than big businesses. They need this as much as possible.
There is a clear fairness point in terms of households. I thought that most of us in this country were concerned—although I am not quite sure about this increasingly Thatcherite Government, with the invention of the bedroom tax and so on—about the potential impact of the very necessary decarbonisation targets and increase in energy prices on poorer households in this country. In so far as that is the case, we should want to make absolutely certain that these new technologies of the smart meters and so forth are available to all families and households, but particularly to poorer families. Poorer families will have what I think would be known technically as a very high price elasticity of demand for energy. That is to say, their demand will vary quite a lot depending on the price.
To put it in terms of a graphic, the demand curve will be sloping—everybody requires some electricity for cooking, heating or what have you—but not too steeply. At the other end of the spectrum, I do not suppose that bankers, lawyers, Premier League footballers, movie stars, Russian oligarchs or Arab sheikhs are at all sensitive to price in their consumption of electricity. Their demand curve is almost certainly vertical or as close to vertical as makes no difference. Between those two extremes, there is a vast number of people with different demand curves. Overall, there will be very substantial opportunities for people to save on energy if they are given the opportunity to do so and if it is clear to them where the price advantage of doing so is.
On the grounds of both fairness and efficiency, in maximising this process of intelligent demand and consumption of electricity in the future, we need to ensure that households and small businesses are kept to the fore of the attentions of the Government, the regulator, the big beasts—the big six generators—and all the other players in this market. Without some very specific regulations, I suspect that things will not work out that way. That is the purpose of my amendment and I hope that the Government will be able to assure me that my amendment is unnecessary because they have already embarked on that very necessary course. I beg to move.
Baroness Maddock
My Lords, I do not think it is absolutely true that we have not talked about small businesses and households at Second Reading and in Committee.
Lord Davies of Stamford
I was not suggesting that we had not talked about small businesses. Of course people have talked about small businesses. What I am concerned about is the extent to which the Bill enforces on the Government an obligation to have particular regard to small businesses and households, which are inevitably less sophisticated and need more help in adopting some of these new technologies. That is my point.
Baroness Maddock
I totally agree with the noble Lord, but he gave the impression, I think, that we had not concerned ourselves with this subject. I apologise if that was not what he meant but it was the impression I got. We have done that and the Government have shown that they recognise some of the problems by bringing forward a clause specifically about fuel poverty and a fuel poverty strategy. I agree with the noble Lord that these are important issues but he has slightly distorted how the passage of the Bill has gone, and the Government’s interest. But I support him in trying to ensure that this is at the heart of what we are doing and share his hope that the Minister can reassure him that we do not need the amendment.
I talked about small businesses and domestic customers particularly in the context of demand reduction pilots. I cannot remember whether it was in Committee or at Second Reading but several of us went into that in quite a bit of detail.
The Earl of Caithness
My Lords, I congratulate the noble Lord, Lord Davies of Stamford, on producing an amendment that is probably the most regular identical amendment to come before your Lordships’ House. It is not an amendment that he would have found in the other place but “may” to “must” was something that I defended hugely for 10 years against attacks from the Opposition. As soon as the Opposition got into government and I put down a “may” to “must” amendment, they defended it with exactly the same arguments that I had used. I expect my noble friend the Minister to repeat those arguments of 30 years ago, and we will listen, as we have always listened, and come to the conclusion that “may” is still the right answer.
I hope that my noble friend will dismiss the second amendment. The principle is absolutely right but it is completely otiose. It is already well covered in the Bill. In fact, Clause 21(3) covers the point fairly adequately. It was pointed out to us in Sub-Committee D when we prepared our report on energy that the best way to reduce energy demand is energy efficiency. It is not just for households and small businesses, it is for all businesses. To identify small businesses in the Bill would be quite wrong and give a totally wrong impression.
Lord Whitty
My Lords, I briefly signal the support of our Front Bench for the amendments. Although I am familiar with—and may even have been one of the Ministers who rebutted the noble Earl, Lord Caithness, in—long arguments about “may” and “must”, it is slightly different here because it is not so much about parliamentary counsel’s sensibilities on these matters. “Must” is here a statement of fact. The clauses on the capacity mechanism are wide and vague—understandably, at this stage. The Minister and everyone else have accepted that we will have to translate them into secondary legislation. If we do not do so, we will not have a capacity mechanism. In that sense, there is a stronger argument than there is sometimes for substituting “may” with “must”, because otherwise the whole point of this section of the Bill disappears.
On the second point, although the noble Earl is correct to say that there have been repeated references to the interests of households and small businesses, that is in the context of the demand reduction provisions within the capacity mechanism. It is not obvious from first principles that mechanisms will be involved which benefit the small users of energy, whether they are households or small businesses. I therefore think that it helps to insert that at this point. It will help to guide the drafting of statutory instruments, when we come to that. I hope that the Government will show some sympathy to the amendments.
Baroness Verma
My Lords, I start by thanking the noble Lord, Lord Davies of Stamford, for his amendments. Like my noble friend Lady Maddock, I say from the start that we are putting consumers and fairness to new entrants at the heart of the Bill. It is important to note that the Government confirmed on 27 June our intention to initiate the capacity market, with the first auction taking place in 2014 for delivery from 2018, which would provide an insurance policy against any future blackouts. I reassure the noble Lord that it is the Government’s clear intention to implement the capacity market through regulations as laid out in this chapter. That can be delivered without a statutory requirement in the Bill, so the may/must argument does not need to be fought at the moment.
On Amendment 53ZZB, although the noble Lord’s intention behind the amendment is laudable, we believe that the Bill already makes sufficient provision for driving energy efficiency. The Bill lays out how the capacity market is intended to involve permanent electricity demand reduction in Clauses 29 and 37. The inclusion of electricity demand reduction in the capacity market is of course complex and, as such, its impact needs further examination and assessment. Because of that, we intend that an electricity demand reduction pilot will be carried out to assess the viability of incentivising demand reduction in the capacity market.
Secondly, the Government are already doing a large amount of work to encourage increased electricity efficiency of homes and small businesses—for example, through the Green Deal energy company obligation and smart meters. I urge the noble Lord to consider those measures available to low-income and vulnerable families. I also remind him of how the number of tariffs rose under his Government. When they were in power, it rose to 4,000 tariffs. Fuel poverty nearly doubled during the last five years when they were in power. We are addressing a long-term, deeply embedded problem. Passing the amendment without the result of the pilot being known would risk duplicating existing policies for the promotion of energy efficiency and could lead to contradictory or inefficient regulations.
Although I have been rather brief, I think my explanation should reassure the noble Lord that the Government are doing everything possible through the Bill to answer his concerns, and I hope that he will withdraw his amendment.
Lord Roper
My Lords, with reference to the regulations being referred to here and elsewhere, will my noble friend give the Grand Committee some indication as to how likely we are to have details of them before we come to Report?
Baroness Verma
My Lords, I will not be able to give my noble friend an answer now but, if he will allow it, I will write to him and to the Committee.
Lord Davies of Stamford
My Lords, I am grateful for the contributions to this short debate. On the issue of “may” versus “must”, nothing has been said to persuade me that I was wrong. On the contrary, everybody who has spoken has persuaded me that I am right to make a point about this. If a nonsense is systemic, that is no reason for not combating it and trying to get it right. I shall now feel even more emboldened when the word “may” comes up. I shall feel very sceptical about it; I shall look at it and may very well—not just in this Bill, but in others—put forward amendments of the kind I have today. I hope colleagues who also think that the present system is pretty nonsensical will be emboldened to do the same.
In a free society permissive legislation is otiose. Anything in a free society which is not specifically prohibited is allowed. Therefore, there is no purpose in passing a Bill with a clause saying somebody “may” do something. The issue is whether they must or must not do it. Those are the only things worth including in a legal obligation.
Turning to the more substantive issue, I reiterate that I was in no way suggesting that people had not been talking about the requirements of small businesses or of families and households. I am well aware that the Government have addressed, as the previous Government did, the issue of fuel poverty. We are all conscious of the importance of that, given that energy prices are bound to rise in real terms as a result of our very necessary policies. However, it is extremely important to draw the attention of everyone in this debate to the need to make sure that these new smart methods of monitoring the price of energy through the day, from minute to minute, are available not just to big sophisticated companies and energy users, but to households and small businesses. Only in that way will we get the full benefit of these new technologies, reduce energy demand in the way we need to do, and address the fairness problem and the lack of a distinction between smaller and larger businesses which are substantial consumers of energy.
On the relationship between the capacity market and demand reduction, all I say to the Government is that they had better get on with it. They have got the timing the wrong way around: I repeat, they cannot know what additional capacity they need to meet peak demand, plus a safety margin, until they know how successful the demand reduction efforts are likely to be. The two things are related all the way along: they are reciprocals, as I have said from the beginning. They need to get started with these energy demand methods and pilots very rapidly; they have taken far too long to do it. That is my main message to the Government.
Lord Teverson
I completely agree with the noble Lord over this. However, one thing which happened quite recently was that the National Grid set out to really get moving in this area of demand management in relation to major companies. Smaller ones have, if you like, to be aggregated. That process has started to some degree. The sad thing about it was that the press reported it as being a necessary response to what they saw as a symptom of the crisis in energy supply, rather than as a positive move to get the mental side of supply in line with demand reduction at certain times. That was combined with a number of other government moves at that time. It is not quite as black as that, but the noble Lord is absolutely right to press for even more.
Lord Davies of Stamford
I think that we are all very much agreed. I am grateful to everybody who has contributed. I am grateful to the noble Lord and I am delighted I gave him the opportunity to make that intervention. A very similar message going out from both sides of this Committee about the urgency and importance of these matters is exactly what I wanted.
Baroness Verma
Before the noble Lord withdraws, which I am hoping he will do, I have just been given a note referring to his question about demand and capacity, and when we would publish details of the proposed reliability standard he asked about. It is in the draft delivery plan which was issued yesterday, if the noble Lord would like to refer to it.
I have also been given a note relating to my noble friend Lord Roper’s question about the publishing of the secondary legislation. Detailed proposals will be published from October, along with draft secondary legislation to illustrate our policy intentions. I hope that information is helpful to the Committee.
Lord Davies of Stamford
I am grateful to the noble Baroness. I had not noticed that announcement yesterday, I am afraid, but I am delighted that it has been made. I am sure that the noble Lord, Lord Roper, will be equally pleased with the answer she has given. It is the job of this Committee to keep the pressure on the Government on these matters and I am glad that some measures are now coming through. I beg leave to withdraw my amendment.
Lord Jenkin of Roding
Lord Jenkin of Roding
My Lords, my intention in tabling this amendment was to draw the Committee’s attention to the need to plan for very timely electricity distribution investment to supply the needs of the City of London, and indeed central London generally.
The amendment is backed by a considerable amount of research commissioned by the City of London Corporation on future power supplies for the capital. Some pretty high-level discussions have also taken place in an electricity regulation working party, which includes Westminster City Council, London First, the Greater London Authority, the Mayor of London’s working group, the City Property Association and Westminster Property Association—it is an impressive array of sources. The message that they have all delivered is that long-term strategic planning needs to be enhanced to ensure new electricity connections to key development sites in central London, and that this must be available as projects are completed.
To give that assertion a little context, some office developments in the City have extremely large electricity requirements, which can take the electricity network operator for London, UK Power Networks, up to three years to plan and build. The problem that my amendment is intended to address is that the City of London Corporation has been advised in discussions with Ofgem that the regulatory framework actually prevents strategic investment ahead of need; in other words, when it comes to electricity supply, it is very much a question of providing for what is currently required as opposed to what is going to be required.
It would be quite wrong for me to give the Committee the impression that I think that the need for forward planning is somehow not accepted by the Government; of course it is. There has been a very productive exchange of correspondence, of which I have seen all the copies, between the City’s policy chairman, Mark Boleat, and my noble friend Lord Deighton, Commercial Secretary to the Treasury. The City has a way of going to the top. I entirely accept that we must avoid a situation in which supply need is assessed by reference to purely speculative projects which do not come to fruition. But to have a situation in which forward planning is so legislatively constrained seems to lean too far in the opposite direction.
My Amendment 53ZA proposes that electricity capacity regulations under Clause 21 should include provision that takes account of projected as well as existing needs. It gives 10 years as the forward planning period, which is based on technical advice. It is a halfway point in the 20-year horizon that is generally adopted by the Mayor of London’s London Plan, which deals with planning and development as well as other high-level strategic matters, but it is certainly a timeframe that should enable the necessary electricity distribution facilities to be planned and built.
Lord Deben
My Lords, this is a very important amendment, not least because there are other aspects of planning that should lead one to take this seriously. My noble friend has talked about the commercial and industrial needs of London, but there are also the housing needs. It is estimated that we could build 2 million homes in London with the aim of dealing with our housing shortage. There is no doubt that the sustainable way of development is to use land that has already been used, that we really should try not to build on greenfield sites and that we should do our best to ensure that our cities are increasingly the centres that they ought to be of people living together and of great enterprise. It is very difficult to say whether cities or civilisation came first, but there is no doubt that the two are intimately connected. I believe that there is a real issue about the supply of electricity.
Lord Jenkin of Roding
Perhaps I may interrupt my noble friend for a moment. Somebody is operating a mobile phone, and it makes the induction loop system very difficult for those of us who rely on it to hear what is going on. I do not begin to know who it is, but I recognise the sound. It is not my noble friend but somebody else. I beg pardon.
Lord Deben
I thank my noble friend for explaining what it was that I said that was so damaging.
I would like the Minister to be concerned not merely with the commercial activities, although they are very important, but with what most of us think ought to be the way in which we develop housing in future, rather than across green fields. That means that we have to make it possible to develop on once-used land. One problem that is always brought to me when this comes up is the availability of utilities in general and, of course, electricity in particular.
Secondly, when we decarbonise our electricity system, the availability of electricity becomes even more important, as someone said earlier, because that is what we are trying to shift to. Unless we can put in place what is needed in advance, we will not be able to carry through the whole purpose of decarbonisation. When one looks at the present circumstances, we really are an 11th hour nation. We really do things at the very last moment. I have every sympathy with those who object to the present circumstances, in which nobody does anything until the situation is so disastrous that something has to be done or the whole thing will collapse. That is not a way to plan anywhere. Although no doubt my noble friend will tell me that it will all be dealt with—and here I declare an interest in that the consultancy I chair gives advice on sustainable development—my experience is that is not always like that. It is not always easy to have ready access to electricity supplies, in particular.
I commend my noble friend’s comments, but I hope that they will be taken in a wider sense—this is not just about London, there are other great cities where similar circumstances exist. We do not want people to build, develop and grow in places which are much less suitable simply because the electricity supply is not immediately available. That is a mistake that we have made in the past; I hope that we will not make it again.
Baroness Worthington
My Lords, I shall speak briefly to the amendment moved by the noble Lord, Lord Jenkin, on the future capacity question, because it is the first to address that. This may be a good opportunity for the Minister to provide us with some detail about the capacity mechanism and how it will operate, and to address the important issue raised by the noble Lord of the need to have a long-term view.
Perhaps this is the time to say that this part of the Bill seems to be lacking an awful lot of detail. We have tabled some amendments later which respond to the Delegated Powers and Regulatory Reform Committee’s comments, which were quite damning on this aspect of the Bill. It is lacking a huge amount of detail; a lot of questions still need to be answered.
I will not ask all of them here, but this discussion may be an opportunity for the noble Baroness to talk about how long the review of the capacity market is. The implementation plan is pretty useless when it comes to providing detail on this part, but if anyone is interested, I have discovered that it is all in the June document, Electricity Market Reform: Capacity Market—Design and Implementation Update. If noble Lords want even more detail, I suggest that they read the memorandum submitted to the Delegated Powers and Regulatory Reform Committee, because that has even more detail. Why that is not in the implementation plan I do not know, but we are where we are, we have to gather all this information and try to make the best of it.
It would be helpful if the Minister described the length of time for which the Government consider that the capacity market needs to operate and precisely how it will enable new investment. One of the key challenges is that the capacity market means everything to everyone. If you are an owner of an existing power station, you see it as your opportunity to keep that station open. If you own a mothballed gas plant, it will be the opportunity to get that back on the system. If you want to build new CCGTs, it is your opportunity to get those built. If you are a demand-side response producer, it is your opportunity to get that done. It is not clear how this broad set of measures will manage that conflict between existing owners, owners of mothballed plant, new owners and demand reducers. We as a Committee, representing the wider two Houses, deserve more information. I look forward to the Minister’s response.
Baroness Verma
My Lords, I thank my noble friend Lord Jenkin for his amendment. Amendment 53ZA proposes that providing capacity should take account of projected growth over a 10-year period. I understand that he has proposed it because of concerns about the long-term capacity of electricity networks and the ability of distributive network operators to make strategic, long-term investment decisions. I should make it clear from the outset that the capacity market is not intended to drive investment in network capacity. Rather, it is designed to ensure that there is sufficient longer-term investment in electricity capacity, including generation and other forms of capacity, such as demand-side response.
In March, Ofgem published its strategy decision for electricity distribution network price control. That explained that price control had been designed to encourage distribution network operators to provide a high level of service for connections while maintaining a reliable network and delivering value for money for existing and future customers. The decision also explained that flexibility has been provided for DNOs to submit a case for strategic investment in their business plans on a project-by-project basis. Similarly, the Electricity Act 1989 already provides some flexibility for early investment—for example, the distribution network operator and its customer can make an agreement that allows an upfront user commitment agreement between the DNO and a customer who wants strategic investment. I understand that, in the case of UK Power Networks and its customers in the City of London, this is already happening.
It is vital that investment in our networks continues at a pace that supports our future energy needs. None the less, we must be mindful that there will be a balance to be struck to ensure that consumers do not pick up the costs of unused or underused assets. For this reason, it is right that Ofgem and the network companies continue to consider carefully where investment ahead of need is proposed.
My noble friend also makes an important point about ensuring that decisions on capacity of electricity supply are made with due regard to the long-term outlook. As such, for the capacity market, the Government have committed to publishing a delivery plan every five years and producing annual updates to that plan. These plans will include long-term forecasts of electricity demand and supply, and will inform the amount of capacity contracted through the capacity market.
I hope that my noble friend finds my explanation reassuring. Before I ask him to withdraw his amendment, I shall respond to the noble Baroness, Lady Worthington, on her questions about how the capacity market works and how it is envisaged. A forecast of future peak demand will be made for four and a half years ahead of the delivery year in which it must be available. The amount of capacity needed to ensure security of electricity supply will be acquired through a competitive central auction four years ahead of the delivery year. Generation and non-generation approaches such as demand-side response will be able to participate in the capacity auction. All generation plant, including existing plant, will be eligible to participate in this auction, with some exceptions such as low-carbon plant receiving CFDs.
Providers of capacity successful in the auction will enter into capacity agreements committing to providing electricity when given notice in the delivery year in return for steady capacity payments or will face financial penalties. The costs of the capacity payments will be shared between electricity suppliers in the delivery year. That is a brief outlook of how it will work but I hope that the noble Baroness is reassured that there is plenty of detail. She also referred to the Delegated Powers Committee. As she is aware, we have submitted extra information to the committee and it is now looking at that. We will then look at its recommendations but until that point it would not be right for me to comment on them. With that, I hope that my noble friend will withdraw his amendment.
Lord Jenkin of Roding
I am very grateful to my noble friend for her careful reply to the amendment. It is clear that she understands the nature of the problem but somehow there has to be a greater understanding between those who represent the interests of developers and other business people in the City and elsewhere, and those who are concerned, as she said very properly, not to add additional costs on consumers unnecessarily. I hope the discussions will continue because it seems to me that my noble friend has spelt out the problem very clearly as the Government see it. As I have said, we have had the consultation with my noble friend Lord Deighton. It is also clear from what my noble friend Lord Deben said that this is a wider problem than just the City and the commercial districts. There is something here which needs to be looked at. Those who have been advising me on this will certainly read very carefully, as I will myself, what the noble Baroness has said.
On the wider question asked by the noble Baroness, Lady Worthington, I have had an invitation, as I suspect have others, to a briefing to discuss the document published yesterday, the Consultation on the Draft Electricity Market Reform Delivery Plan. I think this will be on Monday and I am very much looking forward to it. In the mean time, I mentioned that I had not had the full printed copy and, mirabile dictu—sorry, one is not allowed to use Latin—or, amazing to say, it turned up on my desk. I am extremely grateful to the official who made that possible, so I will have some interesting reading over the weekend. Having said that, I am very pleased to withdraw the amendment.
Lord Grantchester
Lord Grantchester
My Lords, we return to the demand-side provisions in the Bill. We spoke earlier today about how this element of the Bill has been quite a late afterthought from the Government. Indeed, it was all initiated by the Government’s response to the consultation this May regarding some of the demand-side initiatives. Amendments have been introduced only on Report in the other House. From this, it is easy to deduce that DECC is developing its thinking on these matters and has perhaps been too dogmatic in trying to insist that the department’s design of the capacity market should be maintained. As evidence of this, I contend that new documents are arriving with ever increasing ferocity on our desks, as the noble Lord, Lord Jenkin, surmised. We on this Committee are endeavouring to keep up with the DECC officials who are trying to keep up with the thinking, and it is a fair challenge. We have put down these probing amendments just to try to understand whether DECC has more to contemplate during its enjoyment of the parliamentary recess.
In DECC’s own document in reply to the criticisms of your Lordships’ Delegated Powers Committee, it reveals on page 11 at paragraph 57, regarding the meaning of “reducing demand for electricity”, that it understands that,
“it includes both temporary actions by electricity consumers to reduce their demands at times of system stress (known as ‘demand side response’ or ‘DSR’) and projects by which electricity consumers permanently reduce their consumption (known as ‘electricity demand reduction’ or ‘EDR’)”.
While its intention is,
“to enable DSR providers to participate in capacity auctions from their inception”,
there is nevertheless some concern that the department has yet to appreciate the full impact of what could be achieved with judicious re-engineering.
It is very important that the Bill is future-proofed and made to be seen to be relevant to future developments and technologies. Many in the DSR market feel that the Government are yet to appreciate the specific needs of their technologies and the relative immaturity of the market. Many would like to see a separate auction of sufficient volume to grow the market until it can compete with supply-side options. Amendment 53A seeks to define demand-side actions to provide capacity services to the market and gives powers to the Secretary of State to ensure that a certain amount of demand-side resource is procured. What does the Minister’s department want to deliver in Clause 21? Providing a reduction in capacity through DSR must have a value put on it.
Amendment 53B would require the prioritising of demand reduction providers in any future capacity market. The principle is that demand reduction over additional supply is clearly in the interests of consumers. It is far more cost-effective and energy-efficient. There is some need for clarity from the Government that demand reduction is not simply an afterthought to a capacity market designed around the provision of supply by large-scale plant but is prioritised in any capacity auction. There is also the question of determining what capacity is required once demand has been reduced. Is there a risk of overprocurement and distortion, as well as overpayment made through the capacity market? Can the Minister clarify how she sees the current plan working in respect of demand reduction?
We have tabled these amendments because there is clear concern within the sector that the capacity market is being designed with no meaningful consideration of the role that the demand side can play as distinct from the role that demand-side reduction and storage could play. DSR is unlikely to participate in the four-year auction because trying to analyse this forward for four years would be beyond its capabilities.
The Minister’s department will take some capacity off the four-year auction and put up it for a one-year auction in which DSR could participate. How will this operate? How will the department avoid inefficiencies? Does her department recognise that the market must be made to work effectively, not merely allow actions to happen?
Currently, Clause 21 defines “providing capacity” as either,
“providing electricity or reducing demand”.
It makes no mention of the demand-side response, or storage. The Government should be looking at how the demand-side response can be deployed in times of system stress to respond to capacity demand. A hospital or business turning down air conditioning or running standby embedded generation in response to a signal from the system can be a highly effective and cost-efficient way of providing additional capacity, rather than investing in keeping more plants on the system than would be needed.
The Minister is indeed correct to identify the role and experience of the demand-side response in the United States. The US experience is important, as the inclusion of DSR in a capacity market for PJM, a major US utility company, is credited with saving consumers $11.8 billon in a single delivery year; that is, approximately $200 per customer. DSR has been proven to be more reliable than traditional generation, delivering a higher percentage of committed capacity over a given period of time.
The transitional arrangements the Government have brought forward are intended to allow the system operator and market participants to gain experience of how DSR will operate in a capacity market and allow for improvement in the market’s design when it is eventually rolled out. However, the CHPA and other DSR providers have said that the proposals put forward by DECC risk losing the UK’s decentralised generation capacity participation in the transitional arrangements of the capacity market. This is because it appears that enduring arrangements are being designed entirely around large-scale power stations and that DSR still risks being a secondary concern.
There is a substantial risk to the trading of small volumes of electricity capacity within the capacity market. Decentralised participants could be locked out. Large plants that trade hundreds of megawatts of power risk excluding those, such as hospitals or universities, which trade 2 megawatts or 3 megawatts. The whole system appears to be based on plants responding to electricity market price signals. However, demand does not operate in the wholesale market and therefore cannot respond to signals it does not see. No clear mechanism has been proposed for ensuring that the demand side can see the market signals.
One or two issues remain unresolved. One of these is proposing the “baselining” of on-site capacity. Current proposals do not consider on-site generation as providing capacity to the system when in operation. This proposal is different from the treatment of power stations, which will be considered as having provided a capacity service if they operate during a period of system stress, irrespective of whether they were operating beforehand.
The hospital making 2 megawatts out of its total 3 megawatt usage is excluded from reward but can avoid penalties only in its baseline. As well as DSR, electricity storage features nowhere in the capacity market clauses. Amendment 53C requires the Secretary of State to provide for additional licence capacity authorising storage of electricity. As our system includes more variable renewable generation, it will become increasingly important to encourage electricity storage.
The Government are currently directing £50 million into grid scale research and demonstrations in electricity storage. However, without a route to market, that money would be wasted. Electricity storage has the potential to provide savings of more than £10 billion per year by 2050—that is £400 per household—but no savings at all if the capacity market takes no account of this contribution. It would be interesting to hear whether the Government support the Electricity Storage Network’s target for an additional 2 gigawatts of storage installed on the system by 2020.
The present licence categories treat electricity storage as generation, which it is not, and the standard licence conditions do not allow for an overlap between the licence categories for generation, transmission, distribution and supply. This inhibits the deployment of electricity storage on our current system, as licence conditions generally restrict activities in more than one segment. Distribution network operators can own electricity storage. However, presently, some operators may infringe their distribution licence conditions, which restrict generation and supply activities, as the DNO needs to buy and sell electricity in order to operate the electricity storage plant.
I will make a comment later in support of the amendment of my noble friend Lord Hanworth but I conclude with a few questions. First, as the Government have said that they consider DSR and storage to be a part of the future capacity market, can the Minister say what level of DSR and electricity storage within the capacity market the Government would deem a success? I remember asking the Minister, when we were welcoming the final provisions on the Green Deal, whether she could perhaps map out to us what success looks like. What I am trying to get at is: can she be more specific than saying that she wants it to happen or that she thinks it will be a success? Perhaps I can challenge her to try to be more specific in mapping out to the stakeholders, who will take note outside, how she views this part of the Government’s operation. A supplementary question to that is: do the Government recognise the need for a separate set of rules for DSR within the capacity market? In recognising that, it is imperative that they undertake a review of the current rules, as there is widespread industry concern that they do not facilitate DSR.
My second question concerns the design of the capacity market and these trial auctions, which do not provide any long-term income stream for new electricity storage to be planned, installed and operated. The Electricity Storage Network and the Liquid Air Energy Network say that their members will not be able to finance projects on the basis of the proposals. How do the Government intend to address these barriers?
I am very grateful to the Committee for indulging me for a moment longer so that I may come to the amendment of my noble friend Lord Hanworth, which follows on from some of the challenges under the amendments in this group. Providing a reduction capacity through DSR must have a value put on it. Explicit recognition is required that DSR has extra value in adding value at certain times of the day, which my noble friend will no doubt address. I beg to move.
Viscount Hanworth
My Lords, this amendment is the result of a representation to us by the Combined Heat and Power Association. It is designed to allay the impression that a demand-side response is simply a matter of staunching demand. It points to the fact that much wasted capacity can be saved by rescheduling the demand for electricity within the days, within the weeks, and even more widely within the year, so as to diminish its variability.
A proper definition of what constitutes a demand-side response is provided by this amendment, whereas as it stands the Bill lacks such a definition. In the course of being alerted to this lacuna, we have also been advised of some of the hazards that might arise. The association fears that in the process of assimilating demand-side responses to the capacity mechanism, there is a risk of creating a mechanism designed around a traditional large-scale generation plant. Such a design risks limiting or even excluding the demand-side response of small-scale embedded generation.
Traditional large-scale generation comprises baseload generation by large power stations running at or near capacity, accompanied by intermittent generation by peaking power plants—“peakers”, as they are known colloquially—which run only when there is high demand. The power that they supply commands a much higher price per kilowatt hour than the baseload power. The peakers are typically run with much lower thermal efficiencies than baseload plants and they often use obsolescent equipment that is close to its retirement.
Small-scale embedded generation, which the Bill is in danger of neglecting, is carried out by small businesses, hospitals, university campuses, et cetera, and not by sophisticated electricity-generating companies. Small organisations have fundamentally different needs from the large-scale generators. If they are to participate in the capacity market, the system must be designed around their requirements. At present there are no proposals to support the trading of small volumes of electricity capacity within the market. The provisions cater to large plants, which typically trade hundreds of megawatts of power, and these provisions risk excluding those who trade, as we have heard, just 2 megawatts or 3 megawatts. We alert the Minister, therefore, to these facts, in the hope that they will be accommodated within the primary or secondary legislation in this Bill.
I will take this opportunity to describe some of the realities of electricity demand. The statistics of electricity usage are readily available. The leading page of the National Grid’s website displays graphically the electricity demand over the preceding 24 hours. It also shows demand over the previous eight days. At the lowest point last week, Monday night, the demand in Great Britain was 56% of the highest demand, which was recorded in the late afternoon or early evening of Wednesday. This kind of variation is greatest in winter. In September the minimum demand, at around 4.30 am, would be a mere 50% of the peak demand, at around 3.30 pm. These figures point to a huge potential for flattening the profile of demand.
Other interesting facts can be garnered from DECC’s literature. The report from the Building Research Establishment on the impact of changing energy use patterns in buildings on peak electricity demand in the UK is particularly revealing. It points to the surprising fact that 50% of our electricity is consumed within buildings for heating and lighting, and by appliances of one sort or another. Apart from being fascinating in their own right, such pieces of evidence convey an important message: if we are to manage our electricity demand in a meaningful way, we must do more than simply assimilate the large-scale generators to the capacity market by means of differential tariffs and incentives. We need to study in detail the components of electricity demand in order to understand the scope for demand reduction, and more particularly for demand smoothing. That is another point we want to emphasise.
Lord Roper
My Lords, I am very sympathetic to the first three amendments and, to a more restricted extent, the fourth because they cover quite a number of the points that I raised earlier with regard to Amendment 55ZA. In moving his amendment, the noble Lord, Lord Grantchester, pointed out the complexity of the range of topics that come under the slightly blurred title of demand-side reduction and electricity demand reduction. For instance, in Amendment 53B, the idea of having a separate auction for the demand side is very interesting. It is easier to involve classic demand-side reduction into the general auction; on the other hand, it is still rather difficult to see how what one might call permanent demand reduction is included in any normal auction. One may need to look at some other market principle to cover that.
Perhaps I may draw attention to one other aspect of energy demand reduction. At a lunch two or three weeks ago, I learnt about the significant contribution of the work of the voltage management and optimisation industry group. It does a rather specific thing in enabling people to reduce their demand permanently by introducing important technologies. That is done in universities and hospitals, and in quite a number of areas of social housing. I hope that when we are thinking about this general area, we do not overlook that important contribution.
Lord Teverson
My Lords, I welcome any amendment that emphasises the demand side of this issue. I particularly like the fact that we have started to bring in the factor of energy storage. Whenever you talk about energy storage, the technologies are always just about going to be there but they never get down to the commercial level by quite a way. But I hope that that will not be the case in the long term. This is an important point that needs to be taken into consideration.
The really important point is around capacity auctions and the ability of the demand side to compete equally with that. I would be interested to hear from the Minister whether she is confident that the demand side will be able to compete or bring forward sensible bids at the early four-year period. While I understand entirely that there is a fallback to the previous year, a lot of the market has already gone. Clearly, the best solution, the nirvana solution, is that all capacity payment is filled with demand-side reduction. That is the best outcome that there could be. I am sure that that will never be the case but it is how we make sure that we do not restrict it. I am interested in the Minister’s views on how the Government feel that the demand side can effectively come forward four years in advance. It would be very useful to understand the Government’s thinking on that.
Baroness Verma
My Lords, I thank the noble Lord, Lord Grantchester, for his detailed explanation of his amendments. The Government have already made it clear that the demand-side response and electricity storage will be eligible to participate in the capacity market. We have announced that these technologies will be supported by transitional arrangements to help develop their capability and enable them to compete on a level playing field against generation. However, while we agree that these are two important aspects of providing capacity, the subsection already allows Secretary of State to make further provision for the meaning of “providing capacity”.
The definition in this subsection is not intended to be exhaustive, nor would it be if these amendments were accepted. There are other existing technologies, such as interconnectors, which may, at some point, play a part in the capacity market, along with other new technologies in the future. This clause seeks to maintain the flexibility to include this full range of technologies, including demand-side reduction and storage in the capacity market, while leaving it open to incorporate novel technologies, should they emerge in the future.
Amendment 53B is intended to ensure that demand-reduction providers are given priority over other providers in the awarding of capacity agreements through capacity auctions. There are a number of reasons why the Government do not see this approach as desirable. First, the capacity market seeks to encourage genuine competition by placing all forms of capacity provision on a level playing field. This is the best way to ensure value for money for consumers, and the reason why no capacity quantity will be ring-fenced for any particular technology type.
None the less, we recognise that certain technologies, such as demand-side response and storage, have different characteristics from generation. That is why we have announced the transitional arrangements. In addition, we have designed the enduring capacity market to ensure that demand reduction and storage can participate effectively by running capacity auctions both four years ahead and one year ahead of when capacity is expected to be required.
As we have already debated, the Government are also proposing an electricity demand-reduction pilot to inform the future entry of EDR into the capacity market. Holding an auction four years out ensures that there is sufficient time to build and commission new generation plants as necessary. However, demand-reduction providers have told us that opting into capacity agreements so far in advance of the delivery year would not be possible for most of their projects. This is why we are giving demand-side response and storage the option of participating either in the auction held four years out or in a further auction held one year ahead of delivery.
It is currently risky for demand-side response providers to predict the amount of demand reduction they will be able to provide four years ahead of a delivery year. This risk is significantly reduced in a one-year auction and we would expect them to be awarded capacity agreements at this stage. This is because we envisage them being able to provide cheaper capacity than generating plants.
In summary, this amendment would not be compatible with a technology-neutral approach. Furthermore, it risks either forcing demand-side response providers into taking on unacceptably large risks to align with the timescales required for building new generating plants or negating the possibility of new plants participating in the capacity market, risking a significant shortfall in electricity supply and the very real possibility of regular blackouts.
Amendment 53C would require the Secretary of State to modify the Electricity Act 1989, adding an additional licence condition authorising a person to store electricity. Storage of electricity is not presently an activity that requires a separate licence, although some storage providers may be generation licence holders. I therefore reassure the noble Lord that electricity storage would be able to participate in the capacity market without this amendment. The Government have already confirmed its eligibility and this is irrespective of its licence status. This is because Clause 22 does not restrict participation in the capacity market only to licence holders. It also allows the Secretary of State to define further who may be a capacity provider in regulations.
The noble Lord, Lord Grantchester, also mentioned electricity storage. We agree that storage technologies are still developing and further innovation is needed to bring down costs and find ways of scaling up. We are supporting two innovation competitions, the first winners of which were announced in May. In the large-scale storage competition, 12 winning projects were given £17 million of funding for the first feasibility phase. Decisions on which projects will proceed to the demonstration phase are expected in September. The component research and feasibility study competition has four projects so far.
The noble Lord, Lord Grantchester, asked about a separate set of rules for DSR within the capacity market. We do not envisage a separate set of rules. We envisage that the rules and regulations will cover all technologies eligible to participate in the capacity market, although the transitional arrangements for DSR will be incorporated. He also asked about baselining for on-site capacity. This will be covered in the detailed capacity market regulations and will be the responsibility of the national system operator.
The noble Lord asked what I visualised as success, given his previous question on the Green Deal. I view success in the long term as a programme that will last many decades. In reference to the Green Deal, I am already witnessing success. We had more than 44,000 assessments up to the end of June and 115,720 installations under ECO. That is what I would call successful.
Turning to Amendment 53AA, tabled by the noble Viscount, Lord Hanworth, which proposes a definition of demand-side response to be added to Clause 21, the Government have already made it clear that demand-side response and electricity storage will be eligible to participate in the capacity market. As I made clear in response to the questions of the noble Lord, Lord Grantchester, we have announced that those technologies will be supported by transitional arrangements to help them to develop their capability and enable them to compete on a level playing field against generation.
I hope that the noble Lord, Lord Grantchester, and the noble Viscount, Lord Hanworth, have found my explanations reassuring, and I hope that the noble Lord will withdraw his amendment.
Lord Grantchester
My Lords, that is excellently timed as the clock strikes six. I thank the noble Baroness for her responses. Needless to say, we will all be looking forward to the recess and studying her words very carefully. I noticed that she said that her department is trying to make its definitions not exhaustive and maintain flexibility to include the participation of novel technologies in future.
It was not my intention that the amendments should not be compatible with a technology-neutral approach. They were merely focused on the different markets that might arise, rather than a different technology approach. I am slightly anxious that the noble Baroness may have misunderstood some of my remarks, so I will study her words carefully but, in the mean time, I beg leave to withdraw the amendment.