Energy (updated Dec 2022)
I saw a tweet this week and it was highlighting that UK only takes the order of 4% of its gas from Russia but gas prices have risen 234% whereas European countries such as Germany and France had a higher dependency on Russia for gas but had experienced low double digits increase in the price of gas. A recent post by Anna Valero of the LSE’s Centre for Economic Performance notes that UK has been particularly hard hit as 85% of UK house use gas for heating and some 40% of the UK’s electricity is generated by gas but it doesn’t explore the market structure and the why.
A lot of this can be traced to the use of the 3 to 6-month market for gas supplies in the UK and a lack of long-term contracts. Many are claiming this is because the market has been privatised and the energy companies are just chasing profits and not making long-term investments. I think this is partially correct but it is missing the point. If we look at the operation of the companies we note that the companies are focused on shareholder returns ala Welch and that this is not a characteristic of being privatised per se but a prioritisation on returns for shareholders. David Gelles, in his book on Welch’s legacy, highlighted that this was a recent phenomenon which has distorted the capital markets in the last few decades. Roger Martin also noted that a focus on shareholders is short-sighted and was not necessary to ensure appropriate returns and that companies should focus on their customers and their needs.
I believe it is this focus on shareholders returns that has driven the energy companies towards short-term contracts and that there should be policy requiring them to ensure that they have long-term contracts in place for the majority of the UK energy needs. This highlights what I think is the second failure and that there is a lack of policy.
Government policy is supposed to constrain and nudge markets to ensure that the outcomes are broadly aligned with the needs of the country. You could argue that the current and previous governments have largely taken a hands-off approach and have just left it to the market (see Stephen Fitzpatrick’s ten-point plan below). He who shall not be named has just approved the Sizewell C nuclear platform but you could argue that this decision is over a decade, and more likely two decades too late to ensure continuity of base capacity in the UK electricity market as it accounts for 18% of capacity. The head of OVO Energy this week has proposed a 10-point plan to address the energy crisis and two of the points are that there should be a single body responsible for energy supply in the UK and that the Department of Energy and Climate Change should be reconstituted (which existed for less than 10 years).
I don’t think there is a short-term fix for the UK energy market and this is just a couple of points related to long-term supply and stability but changes that are needed. Other things will also need to change if the UK is to become more self-sustaining but that is for another day.
Notes
- Why have energy bills in the UK been rising?
- House of Commons Library — Imports of fossil fuels from Russia — UK import of Russian gas was 4% in 2021.
- The Man Who Broke Capitalism: How Jack Welch Gutted the Heartland and Crushed the Soul of Corporate America — and How to Undo His Legacy. David Gelles
- A New Way to Think: Your Guide to Superior Management Effectiveness, Roger Martin 2022
- UK’s Department of Energy and Climate Change
- Ovo Energy boss proposes plan to stave off household bill crisis
