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The entire UK energy retailing sector is based on some serious misconceptions that have been around for some time. This is classic legacy thinking. UK energy retailing only does things one way, for the simple reason that it is the way things have always been done.

1. Ofgem suffers from a delusion that competition brings down prices. This is a legacy from around 1992/98, before the introduction of the wholesale NBP gas market.  Since then,  gas prices rise and fall with wholesale prices. Wholesale prices are based on what has mostly been a not very liquid market.  The UK’s market has a churn rate of 13.5 last year, which is just under the 15 to 1 ratio considered to be a sign of a truly liquid commodity market. The UK is also influenced via nascent European Hubs at Zeebrugge, TTF, Baumgarten, PSV (Italy) etc which while growing still have churn rates below 10 and sometimes below 5.  For comparison, the US natural gas markets have churn rates approaching 100 to 1.

2.  Because of the low churn, and the impact of oil linked prices, even UK prices are open to outright manipulation. The EU is slowly making things far more transparent and the market is getting better.

3. But unless you are some sort of gas expert, the UK market is based on a confusopoly primarily based on customers having absolutely no alternative except standard tariffs with no apparent linkage whatsoever to wholesale prices. The main purpose of standard tariffs should be, as it was in the early ’90s to offer a default option to compare other tariffs. The main outcome today is to force people into long term contract commitments for savings that, absent smart metering, or even reliable dumb metering, are impossible to verify.

4. The current price shenanigans surrounding UK natural gas prices jumping on the insecure Mid East bandwagon, is that a) prices are increasing from here to eternity and b) you have no other option than to pay long term prices based on today’s news. Where is the choice in that?

From the Cleveland Plain Dealer,  we see the opposite effect as US energy prices de-couple from world markets:

Consumers who buy natural gas through their utilities will see lower prices this month and probably through the next year.

The outlook for gas supplies across the nation is so rosy that wholesalers dropped their profit margins this month in fierce bidding to supply Dominion East Ohio and Columbia Gas of Ohio. Beginning April 1, consumers who choose Dominion’s “standard choice offer” will pay just $1 above the monthly commodity price set on the New York Mercantile Exchange. That compares with $1.20 now, for 1,000 cubic feet.

Some observations:  Ohio (and almost anywhere else in North America) consumers have a default option that is transparent, easy to understand and most of all fair. Think of natural gas and power prices as akin to a tax on civilisation. We all need utilities, there is no optionality involved. We can use less, but we can’t not use any at all.  We aren’t given choices on how much VAT or income tax we pay. Why this fiction that utility prices are different?  Believing in fairy tales of competition means the UK consumers are locked into self perpetuating models of high prices which have an immediate impact on disposable income.

Back to Ohio, but this is more than simply a case of the disconneect shale is causing in US gas prices:

It would take a significant event to send prices up,” Ineson said. “There is so much gas in the system, the price is disconnected from global markets and disconnected from oil prices.”

The key difference here is that North American consumers have a clear transparent way of knowing exactly what their price depends on, and a default option that moves up and down with the market. No one is trying to confuse people. Or very few anyway.  As a general rule well over 80% of US consumers stay with their local utility’s pricing. And for good reason:

Consumers who buy their natural gas through Columbia Gas of Ohio or Dominion East Ohio will see a 9 percent price cut this month, reflecting the same percentage drop in wholesale prices.

cleveland_gas

Columbia’s gas price is 57.2 cents per 100 cubic feet for all of March. Dominion’s standard choice offer, a regulated price that its suppliers must charge consumers if they ask Dominion for it, will be $5.01 per 1,000 cubic feet,  (including a 2 cent regulatory charge) beginning March 15 through April 12. The utilities’ prices beat anything offered by the independent gas companies this month and over the winter.

They have the choice of course of betting on gas prices via fixed term prices, but unlike in the UK, they are not forced into that choice. Which Ofgem just doesn’t get: How can choice be forced?  This is especially insane right now. Prices for next winter have soared, meaning that as fixed prices are the only “choice” provided,  every UK consumer is being forced to buy next winter on today’s news – not a very wise, or transparent, choice.

BTW  the above prices for Cleveland consumers equal 1.09 pence per kWh.  Standard British Gas tariffs 3.09 pence per kWh.  And with Ofgem dozing at the wheel, enabled by a press receiving commission from switch sites (Guardian, Telegraph etc), those prices won’t be coming down either.

A few months of surging UK energy prices forced onto consumers with no other option may push us deeper into recession. Even worse, the uptick in inflation coming for a large part from higher energy bills is going to lead to consumers being punished further with interest rate rises. But a few more months of US gas, and power, prices falling even further, is going to have a significant positive impact on the US economy and gives the US an equally significant comparative advantage which will translate into higher relative growth rates.  Lucky for them, legacy for us.

No Hot Air, 8 March 2011