So, my first regulation blog was looking at how customers pay for the big transmission pipes that transport bigger volumes of gas from one location to another. We were at the point at which the economic regulator (CER) was getting very concerned about under-recoveries in network revenue. This is similar to the ‘deficits’ you’ll hear economic journalists talking a great deal about – for a gas network, it is the difference between the money that the tariffs are generating, and the money that the tariff was expected/required to generate.
Usually, 40% of the money would come from domestic customers, 50% from power generation and 10% from big industrial and commercial customers, but the revenues received from power generation and industry have declined fairly dramatically. The reasons behind this aren’t too complicated, there has been a recession, gas prices have increased relative to coal prices, new wind generation has been deployed and a new electricity interconnector has been built, meaning gas-fired power stations can be running 10-20% of the time each year, rather than 60-80% of the time.
Making sure the pipes generate enough money to pay for themselves is fairly fundamental to economic regulation. Much like a country, any under-recovery is rolled forward into the next year like debt, to be paid (with interest) at some point in the future. And, just like with countries, accumulating substantial debts or running large deficits has an impact on how your creditors view you. If costs and tariffs look manageable, you won’t need to pay very much interest. If you’ve accumulated lots of debt, and there is a big difference between what you are charging and what you need to charge then you’ll end up paying a lot of interest. This can be self-reinforcing – a couple of extra interest points on a substantial amount of debt can get very expensive, very quickly.
The point at which the gas transmission ‘deficit’ got pretty scary was reached in February this year, when the CER was forced to direct a 10.2% increase in the cost of transporting UK gas on the transmission network from 1st April onwards. Had the CER adjusted the tariff to entirely compensate for the deficit they would have increased tariffs by around 40%. This isn’t a good situation to be in, and the CER has to find some sort of solution. They’ve proposed two:
I. Get rid of the secondary capacity transfers the power stations and large industrial customers have been using, effectively pushing them toward booking a standard product – annual, monthly or daily.
II. Stop customers booking products ‘within-day’. This means that if they haven’t got booked enough capacity a day in advance, they’ll be paying a very expensive ‘overrun charge’ which is basically a penalty fee for endangering the safe operation of the network.
Stepping out of these explanations, and getting back to the employees at our theoretical pharmaceutical factory. They noticed the jump in tariffs in April this year first, and then heard from their gas supplier in July that there would potentially be some radical changes to gas capacity from October onwards. At this point, the employees (particularly the energy procurement manager) are quite worried, as they noticed the two solutions proposed by the CER to prevent a substantial rise in tariffs seemed almost perfectly designed to hurt them.
My final blog will look at why those two solutions are unusually bad for our factory, and look at some alternatives that would mean they could pay their fair share for the transmission system, but remain competitive, continue to create medicine and jobs and all of those other good things.read