The energy market is lacking efficiency and Ofgem’s price cap regulatory strategy is not solving this challenge. In an attempt to help those consumers, who through inertia have not sought and transferred to more competitive tariffs, the energy regulator Ofgem has enforced price levels that provide better rates.
Price setting in a market as a regulator is inherently difficult and risky. It goes against many of the principles of a well-functioning market, where prices are driven by supply and demand. We know markets can fail, and in these situations intervention is required. These interventions should be highly focussed and ideally address the source of the market failure. Ofgem’s solution is a relatively blunt remedy that does not address the underlying drivers of the problem.
Tackling the wrong issues
Ofgem should focus its efforts on reducing customer inertia in the energy market. If customers are more inclined to switch then energy providers will always need to provide competitive prices or reap the consequences in the form or rapid customer losses and revenues.
Inertia is created by the ‘switching cost’ of changing suppliers, which is driven by two factors:
- It is difficult for the customer to appreciate they are paying too much. Despite the existence of comparison sites it can be complex to gain easy comparisons, and of course customers have to be bothered to put their details into a price comparison site.
- Secondly, consumers perceive that it is difficult to move to a new supplier, involving too much time on the phone, coordinating between suppliers.
More information for consumers
Transparency for customers is key. In other industries, we see suppliers forced to identify the best rate they can offer at renewal, to tell the customer how much they were paying last year, and let them know they may be able to get a better rate elsewhere if they were to shop around. A similar approach could be applied here, so consumers get better visibility on the price they are being offered. This would also be likely to stimulate consumer research, better use of comparison sites and overall a more informed customer.
Ofgem should be enforcing a standardised approach by all suppliers that makes it easier for consumers to switch to a new supplier. An information campaign would be required to make sure this is fully understood by the general public, and to encourage the population to shop around.
Simple changes for a big impact
Despite these inherent issues, we are not far away from an energy market that would work very well for the consumer. Despite the adverse press coverage, margins in the market have been competitive. The challenge lies with how it is distributed with some customers paying much more than others.
It is the current opacity and inertia within the energy market that is resulting in the price interventions by Ofgem and interferes with an effectively operating market. A more sophisticated regulatory strategy that addresses the source of the problem would incentivise the energy market to price well, providing good value to all customers.
