The cost of living is a contentious issue and is likely to form a key part of the political debate for the next few years. This debate has been fuelled by the latest announcement by SSE of an average rise in consumer energy bills of 8.2%, meaning that an average dual-fuel customer would see its bill rise by £106. With this increase, the expectation is that the other big energy companies will follow suit with their own price rises.
Energy prices are made up of numerous factors, including wholesale prices, investment in infrastructure and innovation, together with government green energy taxes. SSE has put their price hike down to an increase in wholesale prices, but has also passed part of the blame onto the government by suggesting that the price hikes are required to offset the government’s energy taxes. Will Morris, from SSE said:
We’re sorry we have to do this…We’ve done as much as we could to keep prices down, but the reality is that buying wholesale energy in global markets, delivering it to customers’ homes, and government-imposed levies collected through bills – endorsed by all the major parties – all cost more than they did last year.
The price hike has been met with outrage from customers and the government and has provided Ed Miliband with further ammunition against the Coalition’s policies. However, even this announcement has yet to provide the support for Labour’s plans to freeze energy prices, as discussed in the blog Miliband’s freeze. 
Customers with other energy companies are likely to see similar price rises in the coming months, as SSE’s announcement is only the first of many. A key question is how will the country provide the funding for much needed investment in the energy sector? The funds of the government are certainly not going to be available to provide investment, so the job must pass to the energy companies and in turn the consumers. It is this that is given as a key reason for the price rises.
Investment in the energy infrastructure is essential for the British economy, especially given the lack of investment that we have seen over successive governments – both Labour and Conservative. Furthermore, the government’s green targets are essential and taxation is a key mechanism to meet them. Labour has been criticized for its plans to freeze energy prices, which may jeopardise these targets. The political playing field is always fraught with controversy and it seems that energy prices and thus the cost of living will remain at the centre of it for many months.
More energy price rises expected after SSE increase BBC News (10/10/13)
SSE retail boss blames government for energy price rise The Telegraph, Rebecca Clancy (10/10/13)
A better way to take the heat out of energy prices The Telegraph (11/10/13)
SSE energy price rise stokes political row Financial Times, John Aglionby and Guy Chazan (10/10/13)
Ed Miliband condemns ‘rip-off’ energy firms after SSE 8% price rise The Guardian, Terry Macalister, Angela Monaghan and Rowena Mason (28/9/12)
Coalition parties split over energy companies’ green obligations Independent, Nigel Morris (11/10/13)
Energy price rise: David Cameron defends green subsidies The Guardian, Rowena Mason (10/10/13)
‘Find better deals’ users urged as energy bills soar Daily Echo (11/10/13)
Energy Minister in row over cost of taxes Sky News (10/10/13)
SSE energy price rise ‘a bitter pill for customers’ The Guardian, Angela Monaghan (10/10/13)
Energy firm hikes prices, fuels political row Associated Press (10/10/13)
Only full-scale reform of our energy market will prevent endless price rises The Observer, Phillip Lee (27/10/13)
Questions
- In what market structure would you place the energy sector?
- Explain how green taxes push up energy bills? Use a diagram to support your answer.
- Consider the energy bill of an average household. Using your knowledge and the articles above, allocate the percentage of that bill that is derived from wholesale prices, green taxes, investment in infrastructure and any other factors. Which are the key factors that have risen, which has forced SSE (and others) to push up prices?
- Why is investment in energy infrastructure and new forms of fuel essential? How might such investment affect future prices?
- Why has Labour’s proposed 20-month price freeze been criticised?
- What has happened to energy prices over the past 20 years?
- Is there now a call for more government regulation in the energy sector to allay fears of rises in the cost of living adversely affecting the poorest households?
The UK economy faces a growing problem of energy supplies as energy demand continues to rise and as old power stations come to the end of their lives. In fact some 10% of the UK’s electricity generation capacity will be shut down this month.
Energy prices have risen substantially over the past few years and are set to rise further. Partly this is the result of rising global gas prices.
In 2012, the response to soaring gas prices was to cut gas’s share of generation from 39.9% per cent to 27.5%. Coal’s share of generation increased from 29.5% to 39.3%, its highest share since 1996 (see The Department of Energy and Climate Change’s Energy trends section 5: electricity). But with old coal-fired power stations closing down and with the need to produce a greater proportion of energy from renewables, this trend cannot continue.
But new renewable sources, such as wind and solar, take a time to construct. New nuclear takes much longer (see the News Item, Going nuclear). And electricity from these low-carbon sources, after taking construction costs into account, is much more expensive to produce than electricity from coal-fired power stations.
So how will the change in balance between demand and supply affect prices and the security of supply in the coming years. Will we all have to get used to paying much more for electricity? Do we increasingly run the risk of the lights going out? The following video explores these issues.
Webcast
UK may face power shortages as 10% of energy supply is shut down BBC News, Joe Lynam (4/4/13)
Data
Electricity Statistics Department of Energy & Climate Change
Quarterly energy prices Department of Energy & Climate Change
Questions
- What factors have led to a rise in electricity prices over the past few years? Distinguish between demand-side and supply-side factors and illustrate your arguments with a diagram.
- Are there likely to be power cuts in the coming years as a result of demand exceeding supply?
- What determines the price elasticity of demand for electricity?
- What measures can governments adopt to influence the demand for electricity? Will these affect the position and/or slope of the demand curve?
- Why have electricity prices fallen in the USA? Could the UK experience falling electricity prices for similar reasons in a few years’ time?
- In what ways could the government take into account the externalities from power generation and consumption in its policies towards the energy sector?
Centrica, owners of British Gas, has warned that electricity and gas prices in the UK are set to rise in the autumn. Centrica blames this on the expected rise in the costs of wholesale gas and other non-energy inputs.
One of the other ‘big six’ energy suppliers, E.On, has responded by saying that it will not raise energy prices this year. Whether it will raise prices after 1 Jan next year remains to be seen.
Last autumn, household energy prices rose substantially: between 15.4% and 18% for gas and between 4.5% and 16% for electricity. This spring, in response to lower wholesale energy prices, suppliers cut prices for either electricity or gas (but not both) by around 5%.
The government and various pressure groups are encouraging consumers to use price comparison sites to switch to a cheaper supplier. The problem with this is that supplier A may be cheaper than supplier B one month, but B cheaper than A the next. Nevertheless, switching does impose some degree of additional competitive pressure on suppliers.
More powerful pressure could be applied by ‘collective switching’. This is where a lot of people switch via an intermediary company, which sources a deal from an energy supplier. This collective buying is a form of countervailing power to offset the oligopoly power of the suppliers. Such schemes are being encouraged by the Energy Minister, Ed Davey.
The other approach, apart from doing nothing, is for Ofgem, the energy regulator, to impose tough conditions on pricing. But at present, Ofgem’s approach has been to try to make the market more competitive (see also), rather than regulating prices.
British Gas owner Centrica warns of higher energy bills BBC News (11/5/12)
E.ON to keep residential energy prices unchanged in 2012 Reuters, Adveith Nair (14/5/12)
E.ON promises to hold energy prices for 5million customers in 2012 This is Money, Tara Evans (14/5/12)
British Gas owner Centrica feels cold blast from critics ShareCast, John Harrington (11/5/12)
Gas and electricity price battle lines drawn BBC News (14/5/12)
Taking on the energy giants: The co-operative insurgency gains ground Left Foot Forward, Daniel Elton (11/5/12)
Group Energy Buying hits the UK Headlines Spend Matters UK/Europe, Peter Smith (11/5/12)
Think tank calls for competition to break Big Six rip-off Energy Live News, Tom Gibson (30/4/12)
Collective switching will not fix the UK’s broken energy market Guardian, Reg Platt (27/4/12)
Make your own small switch for cheaper energy The Telegraph, Rosie Murray-West (14/5/12)
Questions
- What are the barriers to entry in the electricity supply market?
- How competitive is the retail energy market at present?
- To what extent do price comparison sites put pressure on energy companies to reeduce prices or limit price increases?
- What scope is there for collective buying of gas and electricity from the six energy suppliers by (a) households; (b) firms?
- Assess Ofgem’s package of proposals for a simpler and more competitive energy market.
Following a 38% increase in profit margins made by energy companies towards the end of 2010, Ofgem (the energy and gas regulator) began an investigation into the activities of energy companies. The review by Ofgem was aimed at determining whether or not consumers should be better protected from the powerful energy companies, many of whom had previously raised prices, forcing some consumers to pay an extra £138 per year. At the time, it was believed that Ofgem might request support from the Competition Commission, but it seems as though the big size energy companies have had a lucky escape. They will not be referred to the Competition Commission, even though critics, in particular First Utility – Britain’s largest independent energy supplier – suggest that Ofgem’s proposals are unlikely to be effective. It seems that the big six have shown sufficient co-operation with Ofgem.
A key reform that Ofgem hope to implement will try to reduce the power of this oligopoly by making it easier for new entrants to gain market share. One such proposal would see the big six auctioning off up to a fifth of the electricity they generate. As the owners of Britain’s power stations, new companies cannot buy gas and electricity on the open market and this reform aims to change that. However, there are concerns that this will be ineffective, as the big six may simply outbid the smaller companies or even just buy and sell electricity from each other, thereby keeping their dominant positions in the market. Although the big six have received constant criticism from all sides, the lack of government support for a Competition Commission inquiry may be related to the need for these companies to invest £200bn in Britain by 2020 to help create and build new energy sources, including wind farms and nuclear power. Without this investment, Britain’s energy supply could be in jeopardy. The following articles consider this energetic debate.
Articles
Ofgem may be blown away by the power of the ‘Big Six’ energy companies Telegraph, Rowena Mason (23/6/11)
Ofgem pledges to get tough with ‘big six’ energy companies Guardian, Miles Brignall (22/6/11)
Scottish power investigated over ‘misleading’ marketing campaign Independent, Sarah Arnott (23/6/11)
Ofgem and ‘Big Six’ need to put some energy into cleaning up their acts Telegraph, Richard Fletcher (23/6/11)
In search of a coherent energy policy Independent, David Prosser (23/6/11)
UK suppliers face tough power auction reforms Reuters (22/6/11)
Ofgem: ‘We are watching energy companies closely’ BBC News (22/6/11)
Data
Energy price statistics Department of Energy & Climate Change
Energy statistics publications Department of Energy & Climate Change
Questions
- What is the role of Ofgem? How does it relate to the Competition Commission?
- What factors have contributed to the investigation by Ofgem into the ‘big six’ energy companies?
- How much power does Ofgem actually have to implement reforms?
- What are the characteristics of an oligopoly? To what extent does the energy market fit into this market structure?
- What are the main barriers to entry that prevent new companies from competing with the ‘big six’? Are the reforms likely to help them?
- What other proposals have been suggested by parties other than Ofgem in bid to help new competitors and customers? Are any likely to be more effective than those proposed by Ofgem?
The snow the UK has seen over the past two winters created massive disruption, but that is only one reason for hoping for a milder winter to come. With the cold weather, the UK economy faced threats of gas shortages, as households turned on their heating. However, despite the freezing temperatures, many households were forced to turn off their heating regularly, due to the excessive bills they would face. This trend is expected to be even more prevalent if the 2011/12 winter is as cold, as fuel tariffs are predicted to rise. The Bank of England has said that gas and electricity prices could rise this year by 15% and 10% respectively. British Gas’s Parent company, Centrica said:
“In the UK the forward wholesale prices of gas and power for delivery in winter 2011/12 are currently around 25% higher than prices last winter, with end-user prices yet to reflect this higher wholesale market price environment.”
These predictions might see the average UK household paying an extra £148 over the next year. Although these are only estimates, we are still very likely to see many households being forced to turn off their heating. One thing which therefore is certain: a warmer winter would be much appreciated!
Articles
Switch energy tariff to help beat bill rises Guardian, Miles Brignall (14/5/11)
Quarter of households predicted to turn off heating BBC News, Brian Milligan (14/5/11)
Power bills set to soar by 50% in four years Scotsman (14/5/11)
Domestic fuel bills poised to rise by up to £200 Financial Times, Elaine Moore (13/5/11)
Data
Energy price statistics Department of Energy & Climate Change
Energy statistics publications Department of Energy & Climate Change
Questions
- Which factors have contributed to rising energy prices? Illustrate these changes on a demand and supply diagram.
- To what extent do these higher prices contribute to rising inflation?
- What impact might these price rises have on (a) poverty and (b) real income distribution in the UK?
- Why are energy prices currently being investigated by Ofgem? What powers does the regulator have and what actions could be taken?
The cost of living is a contentious issue and is likely to form a key part of the political debate for the next few years. This debate has been fuelled by the latest announcement by SSE of an average rise in consumer energy bills of 8.2%, meaning that an average dual-fuel customer would see its bill rise by £106. With this increase, the expectation is that the other big energy companies will follow suit with their own price rises.
Customers with other energy companies are likely to see similar price rises in the coming months, as SSE’s announcement is only the first of many. A key question is how will the country provide the funding for much needed investment in the energy sector? The funds of the government are certainly not going to be available to provide investment, so the job must pass to the energy companies and in turn the consumers. It is this that is given as a key reason for the price rises.
