Ofgem supplier clampdown ‘risks hindering net zero efforts’

Ofgem’s tightening of regulations risks hindering  suppliers’ contribution to achieving net zero, the National Audit Office (NAO) has warned in a new report, which puts a £2.7 billion price tag on recent retailer failures.

The study, which Parliament’s spending watchdog has prepared in response to the spate of supplier failures over the past nine months, says the moves by the energy regulator to boost the financial resilience of suppliers could reduce competition, “inadvertently” increasing consumers’ bills.

It also says some of the new suppliers, which have entered the market over recent years, offered “more innovative” products and services that have helped customers to reduce their energy consumption or use it more flexibly.

The NAO says it has been warned by industry stakeholders that Ofgem’s reforms to the supplier market could prevent the entry of new suppliers that would offer greater price competition and innovation if the market returns to “more benign” conditions.

Efforts to help the supplier market recover must facilitate a longer-term transition to one that “truly works for consumers and supports the achievement of net zero”, says the report.

Acknowledging that this is a “significant and difficult task”, which requires Ofgem and the Department for Business, Energy and Industrial Strategy (BEIS) to balance longer-term objectives and short-term stabilisation of the market, will require a “nuanced approach” to regulation.

And Ofgem is introducing its programme of retail regulation changes before suppliers’ role in achieving net zero has been clarified, it adds.

The NAO recommends that BEIS and Ofgem  should set a date together to review the regulatory changes needed to align the supplier retail market with achieving net zero.

The report says Ofgem could not have prevented the increase in wholesale prices in 2021 from significantly affecting consumers.

However, it says the regulator did not do enough in the years that preceded last year’s hikes to ensure the energy supplier sector was resilient to external shocks.

This included failing to stress test the impact of the price cap, particularly on smaller suppliers, in the event of significant volatility or sustained periods of price increases in the wholesale energy markets.

It adds that Ofgem’s “low bar” approach to licensing and monitoring suppliers in the late 2010s increased the risk of failures in the market.

The NAO recommends that Ofgem should set out a process by the end of this year for considering how new interventions in the retail market, such as the price cap, would react in a wide range of scenarios.

It adds that the cap has increased the costs passed on to customers when suppliers have failed.

Overall the report estimates that the cost of supplier failures will be around £2.7 billion, which would equate to £94 per customer.

It says Ofgem has already approved claims worth £1.8 billion through the Supplier of Last Resort process  with another £548 million of related claims in the pipeline. In addition, it says, a further £296 million of missed payments by failed suppliers will have to be paid into the government’s renewable generation support schemes.

Gareth Davies, head of the NAO, said: “Ofgem and BEIS ensured that the vast majority of consumers faced no disruption to their energy supply when their provider failed. However, by allowing so many suppliers with weak finances to enter the market, and by failing to imagine that there could be a long period of volatility in energy prices, Ofgem allowed a market to develop that was vulnerable to large-scale shocks.

“Consumers have borne the brunt of supplier failures at a time when many households are already under significant financial strain having seen their bills go up to record levels. A supplier market must be developed that truly works for consumers.”

Responding to the NAO report, an Ofgem spokesperson said: “While no regulator can, or should, guarantee companies will not fail in the future, we will continue to take a whole-market approach to further strengthen the regulatory regime, ensuring a fair and robust market for consumers which keeps costs fair as we move away from fossils fuels and towards affordable, green, home-grown energy.”

Energy UK’s director of advocacy, Dhara Vyas said: “Both the industry and consumer groups had long raised concerns about the regulation of new suppliers and as the National Audit Office report makes clear, Ofgem should have been quicker to respond to these. The cost and disruption faced by customers illustrates the consequences of supplier failure. Whilst record wholesale prices have caused difficulties even for well-run companies, the situation was exacerbated by some suppliers being ill-equipped to deal with a suddenly volatile market.

“Energy UK welcomes the changes Ofgem is proposing to strengthen regulation and reduce the costs passed onto customers. Supplier failures do cause significant expense and disruption across the market and the NAO is quite right to stress the importance of creating a sustainable retail market which works well for customers. It’s vital that the retail energy market is fit for purpose, can attract investment and innovate in order to deliver the UK’s net zero targets.”