Ofgem strengthens market stabilisation charge

Ofgem has proposed to decrease the threshold at which its new Market Stabilisation Charge (MSC) comes into effect, as it seeks to make the charge more robust in light of increasing market volatility.

It has also hinted that the mechanism could stay in place longer than the one-year maximum originally proposed.

The regulator unveiled the MSC, along with rules barring suppliers from offering cheaper tariffs to lure in new customers, in February as a temporary measure designed to stabilise the energy market.

The MSC will be paid by suppliers gaining new customers to suppliers losing them and would have taken effect where wholesale gas and/or electricity prices fell to 30% below the implied price cap wholesale element for the relevant period (known as the trigger point).

Additionally Ofgem set a derating factor which determines the percentage of the incremental supplier hedging losses covered by the MSC, while allowing active consumers to continue to benefit from falling prices once the trigger point has been reached and payments are made. Ofgem set the derating factor at 75%.

However, in a consultation released this week the regulator said increased volatility resulting from the war in Ukraine means the exposure of well-managed and prudent suppliers is “significantly higher” than it expected when the parameters were first set.

In particular, Ofgem added, the cost of unwinding hedges no longer required following loss of standard variable tariff (SVT) customers has increased significantly which is likely to lead to high levels of financial stress if and when prices fall, with the risk of further planned or unplanned exits.

It explained that a supplier hedging in accordance with the algorithm used to set the default tariff cap will be holding “significant and increasing volumes” of high-priced energy for the coming Autumn. Ofgem said the values of hedges at risk have “risen substantially” and the MSC may need to act more powerfully in the event that prices fall.

There is a worry that if the MSC is not adequately effective in the event of falling prices, it could create an incentive for suppliers to hedge insufficiently, which in turn could lead to them being unable to manage further price increases.

“A threshold of 30% is likely to allow excessive losses on hedge positions before the MSC is activated. We are therefore consulting on a change in the threshold to a figure in the range 10- 20%, as we consider that this would better mitigate the risk,” Ofgem said.

Elsewhere Ofgem is proposing to increase the derating factor to a range of 80-90%.

It explained that as the scale of the potential losses rises, the 25% share that companies were expected to absorb (above the substantial losses incurred before the threshold is crossed) becomes “more onerous” when compared to the ability of suppliers to meet them, potentially leading to increased financial stress in the sector.

Ofgem’s consultation additionally seeks views on amending the MSC calculation to reflect changes in how the price cap is calculated, as well as including electricity losses and unidentified gas within the calculation.

Furthermore while the MSC was brought in as a temporary measure of less than six months, extendable by a further six months, the regulator has hinted at it being a longer-term measure.

It said: “In the short term, the MSC benefits will include the avoided cost of any disorderly supplier exits and the likely levy calls from the special administration or supplier of last resort mechanisms.

“In the longer term, and perhaps more significantly, a sufficiently effective MSC will provide confidence for suppliers that the market is viable. This will lead to stronger investment, competition and innovation.”

Ofgem’s consultation is open till 14 April, when the MSC takes effect. Any changes are expected to come into force on 27 April.