Fixed-term deals for Britain’s energy price cap proposed by Ofgem
Regulator seeks to prevent another meltdown in electricity and gas market
Households whose energy bills are protected by Britain’s energy price cap could be locked into six-month deals similar to fixed-term mortgages, under proposals set out by the regulator Ofgem to prevent another meltdown in the country’s electricity and gas market.
Ofgem has set out three potential changes to the price cap, which dictates bills for more than 15m households, following complaints by some suppliers that the current methodology is too inflexible and leaves them unable to quickly pass on costs to consumers when wholesale energy prices unexpectedly surge.
The proposals mark the strongest acknowledgment yet by the regulator that the way the price cap is structured is not fit for purpose. The cap was introduced in 2019 at the behest of then prime minister Theresa May’s government to protect people from what she saw at the time as “rip off” energy bills.
“The current price cap methodology, whilst protecting consumers from price spikes, exposes suppliers to risks that are harder to manage at times of high energy price volatility,” the regulator said.
“There is a risk that, if not tackled, this could lead to higher costs for consumers.”
Other options involve reviewing the price cap quarterly rather than every six months, or even more frequently in the event of “extreme” volatility in wholesale markets.
A “call for input” on changes to the price cap was published on Wednesday alongside several other proposals to improve the financial resilience of the market.
More than 25 suppliers have gone bust since the start of August as sharp rises in wholesale energy prices since the summer have exposed deep vulnerabilities in many companies’ business models.
Ofgem also confirmed that energy suppliers would be subject to financial stress-testing from January while it plans to explore how to protect customers’ credit balances, built up via direct debit payments, and prevent companies from misusing those to meet other financial commitments.
Ofgem warned that even well-run suppliers are facing potential losses, as many households are choosing to switch to price cap-protected deals when their fixed-price deals expire. In normal times those customers would shop around for other fixed deals but those tariffs are now hundreds of pounds more expensive than the price cap.
This is creating problems for suppliers because there is an estimated £700 difference per household a year between the costs of buying energy on wholesale markets and the amount suppliers can charge under the price cap, which was last reviewed in October and will not change again until April.
When wholesale prices fall, suppliers fear further losses if customers switch to cheaper fixed-price deals, when they have already agreed to buy the energy for those customers at a much higher price.
Suppliers have long complained that the current methodology includes an eight-month lag between the wholesale prices that are used to inform the level of the cap and when those costs can be passed on to consumers.
Ofgem acknowledged that if the price cap is not changed, “there is a risk of further supplier failures and exits, and an undermining of investor confidence to enter or invest in the retail market”.
“This could lead to reduced competition and higher costs for consumers,” it added.
Suppliers have until January to provide feedback on the potential adaptations before a formal consultation is launched in 2022, if there is sufficient support for changes. Ofgem intends to introduce any changes in October 2022.
A move to fixed-term price cap deals could prove controversial with some consumer groups, however, because they would involve exit fees.
At present, households are free to switch away from price cap-protected tariffs at any time.