Why removing the energy bill price cap would reduce investment in renewables

Smaller providers that focus on renewables support the cap because it forces rivals to invest in green energy sources that are rapidly getting cheaper.

By Will Dunn

When Ofgem, the energy regulator, announced it was increasing its price cap on energy bills on 6 August, most discussion of the policy rightly focused on the 15 million households it protects (a disproportionate number of which are on low incomes) that could end up paying up to an extra £153 a year from October. With the end of measures designed to keep people out of poverty during the pandemic – such as the furlough scheme, the minimum income floor for universal credit and the prevention of some evictions – many households could be facing a grim winter.

But the other concern, made more urgent by the publication of the IPCC report on the rapidly unfolding climate crisis, is that lifting the price cap is likely to reduce investment in renewable energy generation at a time when it could not be more important.

The cap applies to the default plans (“standard variable tariffs”) that energy companies put their customers on. These deals vary with the wholesale price of energy. In theory this could mean consumers paying less, but gas prices are rising steeply.

The strange thing about the price cap is that raising it – allowing energy companies to charge more – allows the “Big Six” energy companies to appear cheaper than before. This is because the business models of the big energy suppliers involve losing money on their customers for the first year (paying more than £100 a customer in many cases, including a fee to the price comparison websites that facilitate switching). After that first year, about half of those new customers will leave, having been tempted by a new deal. But the rest will stay, and having been moved from the cut-price offer to a standard tariff, they could start paying an extra £139 a year. Because companies can plan to get more out of those who stay, they can make more competitive offers for the first year.

Helpfully for the Big Six, this makes it very expensive to stay in business as an energy supplier, because customers cost a fortune to acquire and are encouraged to leave by switching websites. In five years, 24 energy companies have gone bust in the UK.

The smaller energy companies that focus on renewables, such as Bulb and Octopus Energy, support the price cap because they say that squeezing the margins of energy suppliers forces them to look for other ways to save money, by improving efficiency and investing in the forms of energy that are rapidly getting cheaper, such as onshore wind and solar.

Greg Jackson, CEO of Octopus Energy, told me he finds it “funny that the energy companies that complain about the price can say it’s a barrier to innovation – and yet, I would love to ask them to point to any innovations they made in the two decades prior to the price cap. There weren’t any.”

Ten years ago the renewables industry warned that the Big Six were heavily prioritising investments in gas (and also lobbying to have gas seen as “green”, or crucial to the energy transition). One result of this has been to keep the falling costs of renewables away from household energy bills.

“The way that the energy market works,” Jackson said, “is that the vast majority of renewable generation is sold to energy companies on a contract which pegs the price against the market price of electricity – and the market price of electricity is defined by the gas price… All the contracts for renewables are pegged to that price. What that means is that consumers don’t get to see the benefit of lower renewable costs.”

Where the Big Six have innovated is in offering “green” tariffs that sell gas-powered electricity, but which they are able to claim as 100 per cent renewable because it is matched by guarantee-of-origin certificates, bought from overseas, which state that an equivalent amount of clean power has been brought into the UK. As research released by Good Energy last October explained, “these certificates allow suppliers to avoid financial contributions towards UK renewable energy schemes”. The work-around means higher consumer demand for green energy actually leads to fewer solar and wind farms being built in this country.

Jackson says the higher price cap is not the only regulatory barrier to investment in renewable energy: “Twenty-three per cent of the typical electricity bill is tax – it’s environmental and social levies. Companies that don’t get subsidies on their generation shouldn’t pay the taxes for the levies, given that the levies are there to subsidise renewable generation. We increasingly need to open up energy generation to investors who really do want to build, on a colossal scale, the generation that will enable the system to go clean.”