The Office for Gas and Electricity Markets (Ofgem) has arguably failed in its duties quite a few times. The under-capitalised energy retailers which failed to hedge against energy price movements and collapsed in large numbers did so on Ofgem’s watch. We energy consumers are picking up the bill. Ofgem’s logo (“Making a positive difference for energy consumers”) consequently rings rather hollow. Still, failure in the UK in 2023 has never been a barrier to promotion (as sundry politicians can testify) and now Ofgem has been granted new powers and responsibilities under the Electricity Act. Naturally, it welcomes them. According to its press release on the subject:

Jonathan Brearley, Ofgem CEO, said:

“We welcome the Energy Act getting Royal Assent. It is the most significant energy legislation for a decade and a world-first in giving us a legal mandate targeting net zero.

“It gives Ofgem the powers to drive through the energy transition – unlocking investment, accelerating planning and building the infrastructure the economy needs. This will give us security from volatile world gas markets and end our dependency on fossil fuels.

“Consumers have faced a huge number of challenges in recent years, with high energy prices and cost-of-living pressures. The Act will give extra protection for existing and future customers, while powering the journey to net zero at the lowest possible cost to households and businesses.“We’re now working closely with government, consumers and sector to implement the legislation in full.”

Eagle-eyed readers will be aware that I don’t share Mr Brearley’s enthusiasm. Indeed, his enthusiasm would be difficult to fathom, based on the problems associated with the poisoned chalice he has just been handed (“powering the journey to net zero at the lowest possible cost to households and businesses”), were it not for the fact that presumably the extra powers and responsibilities bring with them increased budgets. Quangos and their CEOs are not known for shunning more power and bigger budgets, after all.

It’s in the context of these new developments that I mention an Ofgem report which saw the light of day just four days after the release of the enthusiastic press release about the Energy Act. Titled “Assessment of Locational Wholesale Pricing for GB”, it runs to 159 pages and is an extremely detailed document which:

…sets out the key findings from Ofgem’s assessment of the potential impacts of introducing locational pricing in GB. It aims to provide analysis and insight into how these market designs could operate in GB and what they could mean for GB electricity consumers, producers and our electricity system. This work is intended to support the UK Government’s consideration of these market design options as part of its Review of Electricity Market Arrangements.

Neither space nor (lack of) enthusiasm on my part allow me to offer a detailed critique of the document. Rather, what follows is a selection of statements contained in the document, which seem to me to highlight many of the problems associated with the misguided and benighted net zero project. Not that the problems in any way curb Ofgem’s enthusiasm. On the contrary, it apparently sees its role as the facilitator of the project, whatever the cost. That said, it also shares the Energy Act’s Impact Assessment’s confidence in imaginary benefits. It’s worth a read, if your time and patience run to it, to understand the extent to which wishful thinking now underpins the UK’s energy policy.

I should make it clear that what follows are a number of cherry-picked statements lifted from the report. I cheerfully admit that. However, I don’t believe that I have taken any of them out of context, and I leave it to you, dear reader, to consider whether net zero is worth a candle (though admittedly candles may be worth quite a lot once demand for them exceeds their supply, if net zero becomes a reality), given what follows. Sit back, and consider the following:

Page 6: Physical system changes as renewable generation grows to become the backbone of a larger future power system, supported by substantial investment in a broad range of generation capacity and flexible assets needed to support a fully decarbonised power system. Many large generation assets, particularly offshore wind farms, will be located in parts of the network with relatively low levels of electricity demand, such as along the Scottish coastline. A significant expansion of the transmission network is planned for the next two decades to accommodate this geographically dispersed generation. New approaches to system planning and network regulation can work to better enable an efficient siting of new assets and reduce an anticipated increase in network constraints, which otherwise create cost and operability challenges. However, even with significant network expansion, our networks will continue to have some level of constraint under certain conditions and in particular locations.

This is an interesting start. As is now common practice, the huge costs associated with the net zero project are euphemistically described as “substantial investment”, which sounds so much better than reminding taxpayers and energy users that these changes will cost them an arm and a leg. The difficulties associated with the project are set out for all to see, despite the valiant attempt to minimise just how bad the problem sounds.

Substantial changes to how generation, flexibility and demand assets behave in response to a less predictable, more weather dependent and regionally concentrated electricity supply is required to ensure the system can be balanced securely and at low cost.

In other words, relying on unpredictable and unreliable sources of energy generation is a huge problem. Flexibility is a euphemism for telling customers not to expect energy to be available when wanted – they will have to get used to using it when (if) it’s available. The next sentence makes this abundantly clear:

A low-cost transition to net zero means making best use of all existing and future assets, with accurate market signals able to play a key role in more closely matching demand to available cheap renewable power.

Needless to say, it just seems to be assumed that the net zero transition can be low-cost and that renewable power is cheap. One might have thought that recent developments would have given them good cause to reassess these overly-optimistic assumptions.

The need for consumers to get used to things being very different is made clear on page 7, where a valiant attempt is made to pretend that this is for their benefit:

Future consumers’ retail market experience will be different from today, with innovation already changing how some consumers use energy and low carbon technologies. Government, with support from Ofgem, recently published a vision for the future retail market that sees the role of suppliers and nature of competition evolving, with consumers having access to a far greater range of products and services, better tailored to their individual needs. This can support broader system transformation by providing incentives for customers to shift consumption, reduce energy use and support adoption of low carbon technologies.

The apparent awakening to the need for market reform is alluded to further down page 7:

How our electricity markets are organised will have a critical impact on how we decarbonise our energy system and our ability to operate an increasingly complex system securely and at low cost. As set out in the government’s case for change, without reform, we can expect a higher cost and slower decarbonisation if we over-build infrastructure and over-pay for generation that is unable to reach consumers.

As things stand, that scenario does seem to be the likely one, so good luck with the reform of markets. Let’s just hope that we don’t end up with – as is so often the case – things turning out even worse. One of the options under consideration, and the one with which this Ofgem paper is primarily concerned, is locational pricing. I haven’t looked into this in detail at all, but there is enough in the paper to suggest that we might have cause to be concerned:

Page 8:

Locational pricing is a well-established market design used in many jurisdictions, including across North America, Europe and New Zealand. It can in theory provide locational signals in both investment and operational timescales to improve the siting of assets and how they are used in real-time. However, there are challenges with implementing locational pricing in the GB market. It would fundamentally change how electricity is traded and, depending on design, how assets are scheduled for dispatch. Some of these changes will come at a cost and may disrupt existing business models and could impact the flow of investment in the sector.

Further down page 8, we read a crucial paragraph that gets to the heart of what this is about:

Under locational pricing, wholesale prices reflect the locational value of energy at different points across the network. Wholesale electricity prices would reflect the marginal cost of generating the electricity, the losses incurred in transmission, and the cost of any network congestion. This would mean the price of wholesale power would be different, for instance, in Glasgow compared to London (whereas it is the same in the existing market arrangements). Including losses and congestion in wholesale power prices could create incentives for new generation, storage and demand assets to locate where they can provide overall benefits to consumers.

In other words, it seems to have dawned on them that siting windfarms hundreds of miles from where the electricity they generate will be used, is a bad idea due to (inter alia) “the losses incurred in transmission, and the cost of any network congestion.”

Please can someone explain to me why, therefore, the UK (and particularly the Scottish) government continue to be gung-ho in favour of building wind farms in remote (and beautiful) locations.

Page 8, running in to page 9, gets to the heart of what we will apparently face:

The real-time operational signals provided by locational pricing could also encourage market participants to behave in ways that reduce constraints on the network, reduce peak electricity flows and make best use of cheap, renewable electricity when it is available. Consumer cost savings could be expected to flow from incentives for assets, including interconnectors, to avoid scheduling use of the network at times when it is most constrained, reducing the costs consumers pay when excess wind needs to be turned-off and reducing the amount of network capacity that needs to be upgraded.

Flexible demand could also be encouraged to consume when prices are low, which can deliver benefits for all consumers by reducing total system costs. In the absence of such incentives, assets such as smart charging electric vehicles could, by following national price signals, add to network constraints – with locational pricing they would be more likely to mitigate those constraints.

The next statement, on page 9, is revealing, since it suggests that incentivising some customers to use electricity when it’s plentiful, must involve higher costs to others, costs from which they are to be shielded. So, the taxpayer is to shield or subsidise the energy user – which is a bit pointless, really, since they are so often the same person.

Our assessment suggests that – compared to doing nothing to improve locational signals – – introducing locational pricing would deliver material benefits to GB electricity consumers. The scale of the benefits will be shaped by several important policy choices that would influence the breadth of reform. This includes the extent to which some or all market participants and consumers are shielded from the effects of locational pricing.

The putative benefits to customers are…drum roll…”an average £38 a year saving.” However:

…further work will be needed to assess how such consumer benefits could be allocated without disrupting investment.

Yes, I’ll bet it will.

Page 11 seems to me to head off to Cloud Cuckoo Land:

However, there may be distributional consequences for consumers (including for vulnerable consumers in import-constrained locations) that will need to be examined more carefully. For instance, it is inevitable that consumers in some parts of the country would end up paying higher wholesale prices compared to consumers in other parts of the country under locational pricing, but their total bill could still be lower when compared to current arrangements. Distributional impacts could be offset by transfers from gaining regions to losing regions, or targeted support for vulnerable consumers, which could leave everyone better off than without locational pricing. Such transfers would require careful consideration.

Apparently, everyone’s a winner! Or not – see page 12:

Challenges with integrating low carbon generation, in particular large volumes of offshore wind, require difficult decisions to be made on the balance of market risks that generators should be exposed to. These decisions will be required regardless of market design, but reform options such as locational pricing can change the allocation of risks between market participants and consumers. For example, locational pricing seeks to increase generator risk exposure to transmission network constraints in order to produce more cost-efficient system outcomes, on the notion that generators are better able to manage this risk than consumers. However, the scale of investment needed for net zero is immense. There is therefore a large consumer interest in keeping the cost of capital low and the flow of investment as smooth as possible. Increasing the risk exposure of certain market participants such as renewable generators could disrupt investment and/or increase the cost of capital for new investment. It would therefore be important to examine ways of mitigating these risks (for instance, through the treatment of legacy contracts and design of the CfD scheme) in order to keep the overall costs to consumers as low as possible. These measures would need to be carefully designed for the GB energy system. They would increase implementation requirements, and the extent to which market participants were shielded from or compensated for the effects of locational pricing would have an impact on the consumer and system benefits realised from market reform.

And by the way:

…we have identified certain implementation challenges that could be difficult and/or expensive to address, notably compatibility with currently unknown future European Union-United Kingdom (EU-UK) trading arrangements, amending existing CfD contracts, any compensation arrangements for legacy contracts, and potential changes to metering. Detailed requirements and timelines for locational pricing are currently uncertain as they are linked to a range of market design choices, in particular whether locational pricing would be implemented alongside a move to centralised scheduling and dispatch, as well as changes to dispatch and settlement periods.

Remind me again – why are we doing this?