Gradually phase out prepay price cap, says ex Ofgem boss

The price cap on prepayment meter customers’ energy bills must be phased out by the end of next year, Professor Stephen Littlechild has urged.

In his response to the proposed review by the Competition and Market Authority (CMA) of the cap on prepay charges, the former chief executive of Ofgem recommends that it should see three incremental increases of £25.

This would restore the cap level, which covers the approximately four million low income and vulnerable customers back to the average market price when it was introduced by the CMA in April 2017.

A less “lumpy” approach would be to increase the level of the cap, which is administered by Ofgem on behalf of the CMA, by an additional £5 per month over the final 15 months that it is due to operate.

Professor Littlechild, writing in his capacity as a fellow at the Energy Policy Research Group at Cambridge University’s Judge Business School, urges the prepay tariff cap to be gradually phased out by December 2020 in parallel with Ofgem’s wider cap on default and standard variable tariffs.

He writes that it could be argued that the prepay cap should not be lifted while the default cap is still in place and that Ofgem could adopt the same or similar methodology as that proposed for phasing out the prepay tariff.

Gradual increases would avoid the end of both tariffs becoming a “cliff edge”, which would make them politically difficult to remove due to “undue concern” about further possible price increases.

Littlechild recommends in his 27-page long submission that the CMA should prioritise a review of the prepay cap in order to facilitate a return to a competitive retail energy market undistorted by tariff caps.

He also disputes a CMA calculation that electricity suppliers made on average excess profits of £303 million per year over 2007-2014.

Using instead as its benchmark the actual returns for commercial customers cuts the alleged excess profit by nearly a half to about £170 million per year, which corresponds to under £7 per dual fuel household per year, about half of one per cent of an average annual fuel bill of around £1,200.

“It is not a level of detriment that would lead to concern, and certainly would not justify a tariff cap on the majority of customers, or even on PPM customers,” Littlechild writes.

And he argues in the paper that the lower fixed prices charged by some smaller suppliers are effectively subsidised by the exemptions they enjoy on social and environmental policies, which their large and medium counterparts are obliged to pay.

The CMA’s 2016 conclusion that these costs, which work out at around £40 per bill, are not market distorting is “perhaps difficult to defend given the remarkably rapid growth of new suppliers”.

And the subsidy has distorted perception of a competitive market price for energy.

“The public has been given an unrealistic impression of the competitive level of price, and has been led to believe that SVTs [standard variable tariffs) are significantly above the competitive level. Hence the widespread impression that the market is less competitive than it actually is, and that the less active SVT customers are being exploited.

“There is evidence that the PPM tariff cap has already reduced competition and begun to cement the position of the PPM incumbents, and that the default tariff cap is already beginning to do the same on a larger scale.”

He also suggests that Ofgem could alter its methodology for setting the default cap to give greater weight to longer term considerations, notably the interests of future customers and the incentives on suppliers to compete effectively, as opposed to cutting bills for existing consumers.

Littlechild writes that the aggregate market share of eight medium suppliers, which he classes as those smaller than the big six large retailers but serving more than half a million customers, is soon likely to be around 16 per cent.

Their ranks are likely to be swelled soon by Octopus Energy, which has already grown to 400,000 customers since it was set up in 2016, following the recent transfer of customers from failed suppliers.

Ovo Energy recently secured its position as the largest challenger brand, with 1.5 million customers ­(including Corgi Home Plan). Ovo was the first of the smaller suppliers to reach more than one million customers last November.