We are facing the distinct possibility of a capacity shortage, or "the lights going out". Image: Getty
Ed Miliband’s pledge to freeze gas and electricity prices was hailed by his supporters as a masterstroke that cuts to the heart of the most important issue in post-crisis Britain: stagnant household incomes in the face of rapidly rising prices. His opponents called it a lurch to the far left that revives a brand of economic interventionism not seen since the 1970s. With any luck, it will at least encourage politicians of all parties to take a closer look at Britain’s overall energy policy.
In the 1950s and 1960s, Britain was in the midst of a postwar economic boom. The economy grew at 3 per cent a year on average and electricity demand at more than double that rate. It was the heyday of technocratic planning and no serious person believed that such rapid growth in demand could possibly be met by the uncoordinated private sector. By the 1970s, therefore, the supply of energy in Britain was controlled directly by the state from top to bottom. The government planned investment, provided finance and set prices; its plan was implemented by state-owned monopoly utilities.
At the beginning of the 1980s, however, this conventional wisdom regarding the optimal way of organising the energy industry underwent a big change. The primary reason was the general shift in economic ideology. In 1978, one of the leading British proponents of Austrian economics, Stephen C Littlechild, published a pamphlet, The Fallacy of the Mixed Economy, which became the classic statement of the economic case for privatisation and market liberalisation.
A planned economy, Littlechild warned, assumes extraordinary powers on the part of the planners. For planning or the planned part of a mixed economy to be efficient, the planners would have to know what people want, what technologies are available to meet their demands and where the resources are to deploy them. In reality, it is difficult for planners to discover the second and third of these and logically impossible to know the first.
Fortunately, he explained, society has devised an ingenious solution to this canonical informational problem in the form of the market: a magic machine for discovering consumers’ demands and the most efficient way of meeting them, in which no individual needs to know much at all.
A market economy might be organisationally more messy – in other words, requiring many competing firms instead of just one – but in terms of its informational requirements, it would be infinitely simpler (and therefore more efficient) than the existing planned system.
There were changes afoot in the UK economy that made the energy sector especially fertile ground for this new philosophy. The golden age of growth was over and the economy was busily moving from one based on energy-intensive manufacturing to the dominance of the service sector we know today. As a result, rapid growth in demand was no longer the problem. In 1970, it was predicted that Britain would require 100GW of generating capacity in 1995. In the event, only a little over half of that was needed.
Instead, the main challenge was how to improve the efficiency of the existing system. So, in energy more than almost any other sector, the trade-off from moving to a market system seemed to promise extraordinary economic gains.
The increase in organisational complexity as the nationalised behemoths were dismantled into their constituent parts and new institutions were created to regulate and operate the new energy markets would offset the far greater efficiency of resourcing, operations and investment guided by the decentralised decisions of market participants. It all took a while, but in 1998 the last vestiges of the old monopoly utilities were abolished with the introduction of competition in the retail supply of electricity and gas.
However, because of global warming and the new requirements of the post-Kyoto world, mitigating carbon-dioxide emissions was fast becoming the dominant challenge. As the decline of the UK’s indigenous natural gas fields came into prospect, ensuring security of supply and managing the energy sector’s impact on the balance of payments also became important concerns.
There was no reason in theory why the liberalised market alone was going to achieve these objectives automatically – and no evidence in practice that it would. It seemed that planning by the state would be required after all.
Yet successive Labour governments and the current coalition opted instead for an incremental approach: a persistent accumulation of directives, rules and subsidy schemes intended to cure the liberalised markets’ intrinsic indifference to decarbonisation and security of supply, all programmed and overseen by a growing army of regulatory bodies, quangos and advisory institutions.
So we have ended up with the worst result from both worlds: a Byzantine industrial structure theoretically co-ordinated by the market mechanism, but one that nevertheless requires omniscient policymakers to mastermind everything it does.
This situation is not sustainable. With or without a price freeze, we face the distinct possibility of a capacity shortage – that’s “the lights going out” to you or me – by the middle of this decade; and the recent summary of the United Nations report on climate change, published on 27 September, only reemphasised the urgency of the world taking action on emissions.
Do our politicians still believe in the model of a liberalised energy sector? If they do, then policy and regulation need to be simplified drastically. If they do not, they might as well give up and return to old-school state direction. An energy policy marooned in noman’s- land is not an option.
Felix Martin is the author of “Money: the Unauthorised Biography” (Bodley Head, £20). His column appears fortnightly