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Utility Horizon Episode 17: Why we need to redesign the energy market

Scott Groom
17 Mar 2022

In this blog post, we digest our latest Clubhouse session where we discussed this: Is the GB energy market set up to tackle the challenge of a net-zero UK by 2050?

Our Utility Horizons Clubhouse series sees us tackle topics of transformation and change within the energy and utility market. The basic idea behind the series is these will be future focussed interactive debates, where industry experts explore ‘what is on the horizon for the energy and utilities sector?’ For our latest episode, we discussed why we need to redesign the energy market if we are to meet our net-zero target by 2050. In this short blog post, we will aim to provide a short summary, covering some of the key highlights and takeaways.

The level of change that is needed

The Climate Change Committee (CCC) stated that £1.4 trillion worth of investment is needed if the UK is to meet net-zero. We believe that figure has been slightly underestimated and would place it closer to £1.5 trillion. Now, 2050 may seem far into the future at this stage, however, it is currently only approximately 10,000 days away. When considering we require circa £1.4 trillion – £1.5 trillion of investment to get there, this puts the annual figure at a quite astonishing £50 billion a year. Aside from these figures, society as a whole needs to change how we engage with our energy use.

What are the big issues of today and why do we need to address them to meet net-zero?

The energy market is currently trying to put out multiple fires. Firstly, we’ve seen the retail market failure which has resulted in over 30 energy companies going bust since the start of 2021. Secondly, we have soaring energy prices with these set to rise further after the price cap increase in April. Thirdly, this only compounds what is already a quite invasive cost of living crisis in the UK.

At the moment we cannot transition to net-zero unless we engage people on how they use their energy. In the context of net-zero, increasing consumer engagement is what will constitute a functioning market. That means we need to think about consumer confidence and consumer protection. Currently, consumer confidence is arguably at an all-time low. With not only rising energy bills and supplier failure contributing to this, but also the fact that recent schemes such as smart meter rollouts have yet to deliver their promised benefits.

Rebuilding this trust is going to be crucial in succeeding with net-zero as net-zero is likely to require new technology and transformation such as smart homes and smart devices. Unless the consumer has the trust and confidence in the energy market, they are otherwise unlikely to be willing to accept and install devices that are controlled by anyone (or anything) outside of their home. A good example of this is electric vehicles – widely seen as a critical net-zero dependency – that will require active end-consumer participation.

The current energy market model and why this needs to change

Currently, costs are accumulated through the energy supply chain; from wholesale costs, network charges, balancing costs, and renewable obligation payments etc. In the past, these costs were passed through to consumers by billing. However, under the retail price cap set by Ofgem, there is a limit on the amount that suppliers can pass these costs onto consumers. This means that as we have seen increases in wholesale prices and balancing costs, these costs are now becoming concentrated in the retail market. This leads to low negative margins, which in turn can lead to supplier failure.

How could we redesign the market for net-zero?

Greater financial protection can be achieved by a more even spread of costs through the energy supply chain. This will ensure that not all costs are levied against the supplier, reducing passed through costs to retail customers and spreading the risk across a much broader range of players within the energy supply chain. The spread of risk is essential to build the supply chain stability required to support net-zero. In future, there will be plenty of opportunities to redistribute this risk with one example being the role of Distribution Network Operators (DNO). Network operators will take on higher significance in future system design, as they face increased balancing responsibilities to ensure network stability.

How do we unlock the investment required to deliver net-zero?

Inevitably it is expected most of this would come from private investment, however, there is also going to be a key role played by public finances. The regulator and BEIS desired approach appears to value a retail market that requires low to no financial support or intervention. i.e., using a highly competitive, lightly regulated market to drive prices down as has been the approach for the last 20 years. The failure of this market design is clearly evident from the number of energy companies that have gone under in 2021. Therefore, we must move from this reactive public spend model to a more proactive model in order to attract the private investment that is needed to meet net-zero.

What happens if we don’t achieve net-zero?

To put it simply, people will be more at risk. We will see a growing number of mass flooding or other extreme weather events. Aside from the obvious humanitarian issues this creates, we will be forced to undertake urgent large scale infrastructure transformation. The negative impact of this would then also hit us very quickly.

Is it possible to redesign the energy industry?

Absolutely, but we need to get the ball rolling now. We’ve got the technology, the commitments, and the people. We know what we need to get done, we just need to get it done in a coordinated way.