News and Views
UK: Energy bills: why gas and electricity prices fluctuate
The boss of British Gas predicts energy prices will rise for 10 years – terrible news given that the proportion of people calling debt counsellor National Debtline who are suffering “energy debt” has risen from 2.7% in 2004 to 13.7% in 2011.
British Gas faced calls to cut the price of energy after reporting annual pre-tax profits of £2.4bn in February. However, much of this profit was generated by the oil and exploration business, which has offset a slump in earnings in the domestic retail business, despite prices for electricity going up by 18% and gas 26% since December 2010. So how does the market for energy actually work, and why are prices so high?
Where and how do energy companies buy gas?
Gas and electricity are bought on the wholesale market from electricity generators, gas producers and importers. Some is bought on a short-term basis, to meet extra demand if there is a cold snap, but a large proportion is bought a long way in advance of when it will be used. Longer-term gas and electricity purchases are made over different timescales and at different prices, ensuring there is always energy when customers flick a switch and helping to smooth out price fluctuations. This is called hedging.
However, it can sometimes backfire on suppliers. Christine McGourty, chief executive at the energy companies’ trade association Energy UK, says the UK’s energy suppliers bought lots of gas during the prolonged cold snap in the winter of 2010/11, only to be left with much of it unused. They sold it back into the wholesale market later in the year, causing gas prices to fall.
To complicate matters further, the “big six” suppliers in this country are also energy producers, so buy and sell at the same time.
What factors affect wholesale prices?
Since 2004 Britain has used more gas than it has produced, meaning gas prices are increasingly influenced by world events that affect availability.
A war or natural disaster in a country that produces gas or oil is likely to reduce production and accessibility, pushing prices up. In 2011, the conflict in Libya saw oil prices jump to a two-and-a-half-year high, while the earthquake in Japan disrupted nuclear power generation, meaning Japan bought more liquefied natural gas, putting it in direct competition with British buyers.
According to the regulator Ofgem, in winter Britain relies on gas supplied through pipes from Belgium and Norway. To buy this gas we have to pay at least as much as customers in mainland Europe, where prices are linked to high oil prices. As a large proportion of electricity is generated by burning gas, this has a knock-on effect on electricity prices.
What other things affect the cost of energy?
Prices are also affected by market reforms proposed by Ofgem, and tax charges imposed by the government.
The networks which transport energy from the producers to the regional distribution networks, and then to your home, comprise about 20% of your bill, but the ageing infrastructure needs replacing. The government also has to meet carbon reduction targets and spend money on energy efficiency programmes. Ofgem reckons all this will cost about £30bn over the next 10 years.
I’ve read that wholesale gas prices are down. Why aren’t my bills falling too?
All of the big six suppliers have cut prices in the past few months, but are still under pressure to reduce costs further. Energy companies do not always pass on wholesale cost increases immediately and, likewise, falling wholesale prices may not immediately result in bill reductions.
It may seem hard to believe, but compared with consumers in other European countries Britain’s domestic energy prices are relatively low: London comes 12th out of 15 capitals for electricity, with only Helsinki, Paris and Athens enjoying cheaper energy; for gas, London is the cheapest place in Europe to be, according to research by E-Control and VaasaETT.
So if my supplier won’t cut the price, how can I reduce my bills?
Check if there is a cheaper deal you can switch to. You can contact your provider to see if it can offer some assistance or switch you to a social tariff; alternatively you could switch provider.
Which? says UK consumers are over-paying energy suppliers by £4bn a year and have missed out on £16bn in the past four years by not switching tariffs. Its Big Switch campaign is encouraging people to sign up by 31 March and become part of a collective bargaining group that will be able to negotiate big savings from the UK’s major energy firms.
Alternatively, the PeoplesPower concept aims to use consumers’ collective bargaining power to set up reverse auctions with energy companies, buying at the lowest rate possible for customers. As a not-for-profit community it charges a £2 handling fee to pass on more savings to customers.
If you can’t wait to make savings, check out deals through the Guardian’s switching service.
The next thing to do is reduce energy consumption in your home. All the energy and water companies offer information on their websites about saving energy and money, and most offer free gadgets or discounts to help you do so.