Energy suppliers to face financial stress test as Ofgem grapples with winter crisis
Energy suppliers will face robust financial stress testing from January to determine their resilience to future market shocks, according to market regulator Ofgem.
The announced policy is one of many new measures brought in by the energy regulator to improve risk management across the sector.
This includes bolstering existing controls on fit and proper person tests and requiring boards to undertake self-assessments of their management capabilities.
Ofgem is also exploring how to tighten rules around the protection of credit balances and renewable obligation payments, and consultations on financial licence requirements in Spring 2022 and potential additional financial checks prior to customer expansions.
In a press statement, chief executive Jonathan Brearley said: “I’m setting out clear action so that we have robust stress testing for suppliers so they can’t pass inappropriate risk to consumers. I want to see more checks on staff in significant roles, and better use of data to help us regulate. We need a regime that can enable a sustainable market, to promote our transition to net zero.”
Market dream turns into winter nightmare
The new policies are unsurprising, with Brearley revealing to the House of Lords earlier this month that the regulator was considering a strengthened fit and proper test for suppliers.
The announcements also follow sustained market volatility, with wholesale prices rising 500 per cent over the past 12 months.
This has resulted in carnage across the industry with 25 UK energy suppliers collapsing since September, affecting over four million customers
The UK’s seventh biggest supplier Bulb entered de-facto nationalisation last month, and has been placed on life-support this winter, propped up by £1.7bn of government loans and public money.
Speaking on BBC’s Today Programme, Brearley said: “What we want to say to suppliers is either get some insurance, buy your energy ahead, or have enough money in the bank to weather a storm like this.”
Ofgem’s aim for suppliers to become more financially responsible comes after continued criticism that energy firms failed to hedge properly against market volatility, often buying gas supplies less than six months in advance.
The issue reflects deepening problems within a liberalised market characterised by price wars and ambitious start-ups pursuing consumers.
The industry was revamped by the Competition and Markets Authority in 2016 to break up the anti-competitive stranglehold of the former Big Six.
In the past five years, their dominance of gas and electricity has fallen from 99 per cent to 70 per cent, with the market peaking with over 70 suppliers in 2018, as new arrivals such as Octopus Energy provided robust competition and new options for consumers.
However, it has also led to suppliers offering unsustainable offers to lure consumers, while leaving themselves exposed to hikes in wholesale costs by prioritising expanding the business over hedging.
The market has now fallen to around 20 dual-suppliers, with suppliers biting the dust in record numbers.
Last week, Citizens Advice accused Ofgem of a “catalogue of errors” over the past decade, and failing to properly monitor and enforce rules against unfit suppliers.
This include assessing the financial capabilities of firms, amid continued declines in customer service.
Energy price cap survives Ofgem reforms as suppliers collapse
Despite the unveiling of more reforms on Wednesday, the regulator has not scrapped the controversial consumer price cap – and is instead “seeking views” on whether the adapt its methodology to weather market volatility while protecting customers. price cap was introduced in 2017 – to both protect consumers from spiralling bills and overcharging.
This does not advance its previous statement from November, when Ofgem first revealed they would be assessing the price cap and publishing findings early next year.
The energy price cap has prevented suppliers from passing spiralling wholesale costs onto customers, which currently limits domestic consumer charges to £1,277 per year for average use.
When Bulb fell into special administration last month, it revealed that it cost the doomed supplier £4 per therm to supply energy, but could only claw back 70p per therm from customers.
The cap has also faced criticism for its perceived rigidity – with the price only being updated twice a year (most recently it increased 12 per cent in October) and for its lack of flexibility to charge wealthier consumers more to reduce the burden on less secure customers.
ScottishPower CEO Keith Anderson, Utilita Energy founder Bill Bullen, and John Penrose MP – who first pushed for the price cap in parliament – have all called for the price cap to be reformed to prevent more firms collapsing this winter.
However, Ofgem continues to defend the principle of the price cap, suggesting the mechanism “makes sure that households pay a fair price for their energy”.
It argues that it has driven suppliers to become more efficient, with the regulator estimating it has returned £1bn to consumers from suppliers since its introduction.
Brearley told the BBC that the price cap will rise in April in an attempt to reflect the current market conditions with surging gas prices.
He said: “The price cap has done a good job for consumers…but where you have legitimate price increases, those costs have to be passed on to consumers.”
Pantheon forecasts the price cap could increase by as much as 40 per cent next Spring, increasing the burden on consumers next year while failing to rectify issues for suppliers this winter.
Ofgem has also offered an olive branch to suppliers by allowing them to reclaim funds after incurring heavy costs rescuing new from firms that ceased trading via the supplier of last resort process.
Any increases in the price cap will compound issues for consumers, which Investec expects will already face higher costs to clean up the carnage of collapsed suppliers.
It has warned households could be on the hook for £3.2bn – an equivalent of £120 per household – to reimburse suppliers rescuing stranded customers, and to protect Bulb from total collapse before a buyer is found.
Customer advice and price comparison service USwitch.com has slammed the proposed measures, suggesting introducing stress testing after 26 providers have left the market is “the very definition of shutting the stable door after horses have bolted.”
Richard Neudegg, head of regulation at Uswitch.com argued these proposals are clearly too late to help the current crisis, and warned that consumers were set to reap the consequences of the delayed decision making.
He said:“Make no mistake, a lot of pain is coming for consumers when energy bills rise from April. It brings into stark contrast how inadequate current support for the most vulnerable households is, making it critical that more is done to support those who need it most.”